Overcoming Inequality in Latin America

Ricardo Gottschalk, Patricia Justino, Ricardo Gottschalk, Patricia Justino

• Publisher: Routledge
• Year: 2007
• ISBN:
  9781134230129
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

Latin America is faced with the challenge of achieving the Millennium Developmental Goal to halve poverty in the region by 2015. Historically, this region has experienced persistently high levels of inequality and poverty, the causes and consequences of which are analytically examined here.

Adopting a multidimensional approach, this informative book focuses on the mechanisms that lead to higher inequality and emphasizes the role of macroeconomics, trade rules, capital flows and the political electoral process. It analyzes how inequality has hindered development, how it interacts with a nation's economic, social and political processes, and how inequality constrains these processes in ways that weakens the prospect of establishing and sustaining a dynamic, wealthy and creative society.

An international team of specialist contributors investigate and explain these crucial issues. Examining the key economic policies and reforms which have exacerbated the region's extremely high inequality levels, throughout this book they prescribe an alternative range of policy suggestions to help alleviate inequality and provide the foundations for more equitable development.

1
Introduction

Ricardo Gottschalk and Patricia Justino

Why inequality matters in Latin America

Latin America has some of the highest levels of socio-economic inequality in the world. These high levels of inequality pose a serious threat to recent development undertakings, not only because inequalities may seriously undermine efforts to eliminate poverty and destitution, but also because persistent inequalities waste financial and human resources, erode social cohesion and, consequently, pose serious constraints to the process of social and economic development.

Economic growth is typically accompanied by a certain level of inequality. Different people have different abilities and different initial endowments of physical and human capital. It is therefore extremely difficult to ensure that all population groups benefit equally from potential economic gains. Not all types of inequality are adverse. In fact, inequalities that result from rewards to risk-taking, enterprise, skill acquisition and saving may create important incentives for technological advance and increased productivity. However, other types of inequality that may arise from lack of opportunities, social and political exclusion and other forms of discrimination, from a colonial legacy or from political connections and inherited wealth, are likely to be associated with the exclusion of some population groups from the process of development and may pose constraints to the establishment of fully functioning market economies.¹ This is particularly problematic in developing countries, where the number of poor vulnerable households is relatively high.

Large evidence has shown that countries with high levels of inequality achieve significantly lower economic growth (Datt and Ravallion, 1992; Kanbur and Lustig, 1999). Moreover, it makes growth less effective in reducing poverty (Birdsall and Londoño, 1997; Ravallion, 1997; Hanmer and Naschold, 2000). Recent empirical and theoretical results show that inequality can harm economic growth and socio-economic development via several social, economic and political mechanisms. Conversely, more equitable distributions of income and assets can result in improved opportunities for the poor and, consequently, to better living standards. They can also result in improved economic growth. Indeed, recent studies have shown that the investment of public funds on the reduction of inequality can generate important welfare benefits. They may take the form of programmes of public employment, investment in education, land reforms and the reinforcement of legal and political rights. Moreover, these forms of redistribution can benefit the poor without distorting investment decisions (Bénabou, 1996).

There are therefore a number of reasons why inequality is a central issue and why researchers and policy makers should be concerned about it. Focusing on Latin America, an extensive literature has shown that a large number of individuals and households remain poor due to the persistence of high levels of economic, social and political inequalities. They are poor, not because they live in poor countries, but because high levels of inequality create exclusion and pockets of persistent poverty amongst certain population groups (World Bank, 2003b). Given the extremely high levels of inequality in Latin America, not only is the region’s level of income insufficient for poverty eradication, but also its pace of growth. Hanmer et al. (1999) have shown that, unless extremely high, growth alone will not be sufficient to halve poverty by 2015.

Inequality: concepts and dimensions

Although it is commonly accepted that poverty and inequality are related phenomena, the two concepts are not equivalent. The crucial difference between the concepts of poverty and inequality lies in their main focus: when examining poverty, whether we are concerned with material deprivation or less tangible, psychological dimensions of poverty, we focus on people, families and/or households that lie below some poverty line. When talking about inequality, we no longer focus solely on poor people but on the whole distribution.² When this difference between poverty and inequality is taken into account it becomes clear that changes in inequality do not necessarily have to be associated with changes in poverty. Furthermore, it is possible to conceive of situations where poverty (measured by the percentage of individuals and/or households below a poverty line) can fall yet inequality increase. For instance, in circumstances where the whole population is equally poor, if one person moves above the poverty line, poverty estimates will decrease whilst inequality would have increased. Furthermore, as empirical evidence discussed throughout this book will demonstrate, although a high level of inequality is usually associated with high levels of poverty (e.g. Nicaragua, Honduras), relatively low levels of inequality³ can easily coexist with both low (e.g. Uruguay, Argentina) and high degrees of poverty (e.g. Peru).⁴

Inequality is a multidimensional phenomenon. Despite the fact that most studies of inequality tend to concentrate on the analysis of income inequality, inequalities arise due to other economic, social and political factors. This is the perspective taken in this book. In this sense, the concept of inequality can be associated with the concept of social exclusion. The concept of social exclusion was originally developed as a form of categorising conceptually population groups that were left at the margin of social insurance systems in Europe: the mentally and physically handicapped, single parents, etc. (Behrman et al., 2002). Throughout the 1980s, the concept started to be adopted by most social sciences and its original meaning extended to form a framework for thinking about deprivation and poverty in terms of material and non-material disadvantages – such as poor educational opportunities, low wages, employment insecurity and so forth – and the nature of social justice (as emphasised by the question ‘equality amongst whom?’), social participation, lack of social integration and lack of power (Behrman et al., 2002). This interpretation of the concept of social exclusion is closely related to the notion of inequality, when considering inequality in its many dimensions (economic, social, political and cultural). However, similarly to inequality and poverty, inequality and exclusion are not equivalent notions. Whilst inequality refers to differences in income, assets and access to social and political institutions between various population groups, it does not necessarily imply that those groups will be excluded from accessing those economic, social and political institutions. Being excluded will, however, imply the existence of inequalities, when exclusion is not voluntary. As argued by Sen (1985), there is a need to consider and distinguish between (i) the realisation of one’s objectives irrespective of one’s own role, and (ii) their realisation as a result of one’s efforts. Social exclusion can, in the context of (i), be understood as a manifestation of extreme forms of inequality. Involuntary forms of exclusion – which result from the absence of opportunities for large segments of society (Behrman et al., 2002) – can, thus, be understood as a consequence of extreme forms of economic, social and political inequality.

Impacts of inequality

Social impact of inequality

Persistently high levels of inequality have important social effects. High inequality may result in reductions in the stock of human capital available in each economy when it leads to the persistence of illiteracy and poor health amongst disadvantaged groups. Dilapidated stocks of human capital will, in turn, decrease individuals’ capacity to access better jobs and higher incomes. For instance, Ribero and Nuñez (1999) show that disability and stature (an indication of nutrition status) influence significantly the earnings capacity of men and women. This will, in turn, reflect in the countries’ inability to pursue higher rates of economic growth (Saint-Paul and Verdier, 1992; Galor and Zeira, 1993; Perotti, 1993). Zoninsein (2001a, 2001b) show that in Latin American countries the poor could have sizeable earning gains through access to education (and from removal of education inequalities between population groups).

The persistence of social, economic and political inequalities amongst certain socio-economic groups may, furthermore, increase social discontent and, consequently, the propensity of individuals and population groups for engaging in criminal activities, violence and even civil wars. In fact, inequality has been associated with increased risk of crime (Becker, 1967; Sala-i-Martin, 1996). In Latin America, Fajnzylber et al. (1998) have found that increases in income inequality raise crime rates (homicide and robbery). This evidence is supported by the findings reported in Cruz et al. (1998), Rubio (1998), Briceño-León et al. (1997), and Stewart (1998, 2002) for Colombia, El Salvador, Nicaragua, Guatemala, Venezuela and Mexico during the 1990s. An extensive literature has also provided empirical evidence for a positive relationship between inequality and various forms of social and political conflict (Lichbach, 1989; Gupta, 1990). Although in many countries some level of inequality may coexist with social peace, not all societies will have high levels of tolerance for persistent inequalities (Hirschman, 1981). When tolerance breaks, inequality can lead to the accumulation of discontent amongst some population groups to a sufficiently high level to damage social cohesion (Alesina and Perotti, 1993; Bénabou, 1996; Stewart, 1998; Elbadawi, 1999; Dollar et al., 2000).

Economic impact of inequality

High inequalities restrain the demand capacity of poor and middle-income countries. Murphy et al. (1989) have shown that internal demand can change as a response to more equal distributions of income. Decreases in income inequality imply a wealthier middle class (enlarged by those coming out of the poorer classes), which are the most significant consumers of manufactured goods. Consequently, the reduction of inequalities is likely to induce an increase in private consumption and, consequently, an enlargement of internal markets and higher prospects for economic growth.

High inequality affects demand capacity in normal times, but equally important, it makes aggregate demand more volatile when the economy is hit by a shock. For instance, a shock typically causes an increase in unemployment, affecting the poor disproportionately. Because the poor lack physical and financial assets, they will respond to a fall in income through reducing demand. Given that they constitute the majority of the population in a country where inequality is high, aggregate demand is strongly affected (Furman and Stiglitz, 1998 and discussion in Chapter 3).

High levels of inequality may also impede the establishment of pro-poor trade pol...