Income Distribution Gap the Global Fiscal Crisis

¶ … Income Distribution Gap

The global fiscal crisis will be borne by the millions of people who do not have a share in the benefits that were derived from the global economic expansions that occurred previously. Not only has the gap widened between low wage earners and high wage earners in nations across the globe, the world's income gap distribution has widened. Economists have long concluded that a limited degree of income inequality contributes to worker motivation, promotes innovation, and rewards talent and effort. Nevertheless, when income differences become too great, the dynamics become counter-productive. Runaway income inequality is considered to be a destructive force, such that "rising income inequality represents a danger to the social fabric" ("Board of Canada," 2012). The repercussions from excessive income inequalities include children not attending school so they can contribute to household earnings by going to work, increased crime rates, lower life-expectancies, and malnutrition.

In the years between 1990 and 2007, global employment reportedly increased by 30% and was accompanied by income redistribution away from laborers and into the hands of the wealthy. The overall result was a significant decline in share of wages in total national income, or gross domestic product (GDP). Latin America and the Caribbean saw the largest decline in wages as a share of gross domestic product (GDP) at 13%, while more developed countries with advanced economies fell nine percent overall. High inequality countries are predominately in South America and southern Africa. Those countries that are considered to have low inequality are found in Europe. Canada and the United States are identified as medium income inequality countries. Interestingly, the increase in income inequality has proved to be greater in Canada than in the United States. To achieve global perspective, consider that the people who are grouped as the richest 10% in the world receive 42% of the total world income, while the people who fall in the poorest 10% receive just one percent of the world total income ("Board of Canada," 2012). Global income distribution is very highly skewed toward the 16 richest countries that make up the top decline in the world income distribution ("U.N. Report," 2008).

Moreover, working families experience an increase in their levels of debt in order to pay for consumables and, notably, for housing investments in countries that permit or permitted "unregulated financial innovation" ("Board of Canada," 2012). The recent fiscal crisis is unlikely to impact the wealthier people who saw the greatest increase in come; however, future policy can have important impacts. For instance, "falls in income concentration due to economic downturns are temporary unless drastic regulation and tax policy changes are implemented and prevent income concentration from bouncing back" ("U.N. Report," 2008).

As awareness of the world income gap has increased, national leaders and economists have come to share the perception that globalization is not advantageous for most of the world's population (World of Work Report, 2008). The dynamics influencing the development and sustainability of income inequalities are complex and numerous. Analysts point to the role of financial market deregulation, the erosion of traditional redistribution systems due to lower taxation on high-income earners, and the overall ineffectiveness of traditional policies and institutions to deal with excessive inequalities that are market-driven.

A metaphorical frame. Considering when and how different countries have benefitted from global economic perspectives is a useful frame for understanding the growing gap between national economies. Metaphorically, nations can be thought of as starters in a long-distance race. The starting points of runners are staggered across the track in what appears to be a carefully calculated attempt to create an equal running distance for each runner, given that the track consists of concentric lanes that are shorter in total length at the inside of the track and longer at the outside of the track. Accordingly, the International Association of Athletic Foundations (IAAF) has established that the standardized track lane width is 1.22 meters, and a formula [ L = 2S + 2pi (R + (n-1)w) ] is used to calculate the various distances for each track. Using the formula to calculate the distances, it can be shown that the track in lane 2 is 407.67 meters, lane 3 is 415.33 meters, lane 4 is 423 meters, lane 5 is 430.66 meters, lane 6 is 433.38 meters, lane 7 is 446 meters, and lane 8 is 453.66 meters. Hence, runners who draw the inside track will start further forward on the track to make up for the differences in track length in absolute terms, and so that the same finish line can be used for all runners. While this equalizing system works well for track runners, no such could possibly exist for countries around the globe. Nevertheless, the conceit does apply since particular standards are established for determining cross-country comparisons of poverty. Conceptually, then, the starting blocks -- begging the reader's patience and to further extend the metaphor -- are the poverty levels and acceptable standards of living are the key to establishing a global finish line. From this, the suggestion that the global income gap can be explained by considering that countries board the economic growth escalator at different points in time, and that for any country that has not yet boarded, the income gap will unavoidably widen in comparison with those countries that are already showing economic growth. Moreover, as the income gap widens, the overall world income distribution becomes broader and flatter due to an increase in those nations that fall on the long tails of the distribution, whether significantly poorer or wealthier in comparison to the mean ("Board of Canada," 2012). Considering the world income distribution in terms of skewness, it reasonable to say that the distribution is negatively skewed when countries are ordered according to their growth rates ("Board of Canada," 2012). That is, the number of countries that show positive rates of growth outnumber the countries that show negative rates of growth or show relatively no change in their economic growth rates ("Board of Canada," 2012).

The crux of the matter. Richard Freeman, a professor of economics at Harvard University summarized the current situation for national economies in a keynote address to the Organization for Economic Co-operation and Development. (OECD). In his words, "the triumph of globalization and market capitalism has improved living standards for billions while concentrating billions among the few. It has lowered inequality worldwide but raised inequality within most countries" ("U.N. Report," 2008).

The World Bank divides 215 countries into four categories based on average income per capita levels. The categories foster meaningful comparisons across countries and provide a basis from which changes in relative income status can be calculated. Income per capita is by definition greater in high-income countries than income per capita from the other income groupings: Upper-middle income countries, lower-middle income countries, and lower income (poorer) countries ("U.N. Report," 2008). Consider that China is placed in the upper-middle income group and India is placed in the lower-middle income group ("U.N. Report," 2008). Both China and India experienced accelerated economic growth ("U.N. Report," 2008). When the World Bank reclassified China as an upper-middle income country, the per capita incomes in this category increased in the period between 2000 and 2010 by an average of 5.9% ("U.N. Report," 2008). The rise in income per capita in the lower-income country India brought an average increase of 5.1% per year for the decade between 2000 and 2010 ("U.N. Report," 2008). The overall increase in average per capita income in low-income countries was 3.7% per year during the period from 2000 to 2010, with a corresponding increase in high-income countries of just 0.5% ("U.N. Report," 2008). World Bank figures show that high-income nations are substantially wealthier than middle-income nations ("U.N. Report," 2008). For example, in 2010 the average per capita income in a high-income country was $24,500 more than the average per capita income of an individual in an upper-middle income country, and $29,950 more than the average per capita income of an individual in a lower-income country ("U.N. Report," 2008).

The Gini index comparison. Without adjusting for the population of nations being compared, the Gini index rank orders countries based on average per capita income and establishes a base for calculating cross-country inequality ("U.N. Report," 2008). Each nation stands for just one data point in this rank order, regardless of their relative population sizes ("U.N. Report," 2008). This is an important element since, for example Canada's population of 33.7 million people is treated in the Gini index as equivalent to China's 1.3 billion people ("U.N. Report," 2008). What the Gini index does well, however, is provide a measure that can be used to show if nations are diverging or converging with respect to average income levels ("U.N. Report," 2008). For instance, richer countries are faring better than poorer countries when the Gini index rises ("U.N. Report," 2008).

Notably, according to an analysis that used the Gini index, for all practical purposes between the years 1960 to 1982, income inequality among countries was almost unchanged ("U.N. Report," 2008). Sharp increases were seen in the period between1982 and 1994, which indicates that the income inequality across countries was increasing. Milanovic (2009) attributed this increase in cross-country income inequality to three factors: (1) Declining in the relative incomes of countries in Latin America during the 1980s; (2) declining relative income in the 1980s and early 1990s in the former Soviet Union and in the transition countries of Eastern Europe; and (3) the disastrous performance of a number of African countries. Income inequality dipped for a time after 2000 because economic growth in African countries, Eastern Europe, Latin America, and former Soviet countries increased ("U.N. Report," 2008). Regardless of that post-2000 decline in income inequality, by 2010 the Gini index was still elevated compared to1970s and 1980s levels. The current high Gini index signals increased income inequality that is attributed to two primary factors: institutional forces and market forces.

Population size can be accommodated in the world Gini index such that countries are weighted by their population size with large population nations having a greater influence on the Gini index than do small population nations. The weighted world Gini index shows a steady decline from the year 1962 forward. This decline in income inequality is due to the steep rise in economic growth of China and India compared to nations that are richer. Over one-third of the world's population resides in China and India. As a result the impact that these two countries have on the population-weighted Gini is substantive. Recalculating the Gini index while accounting for the national populations results in markedly different trajectory of the trend line. The population-weighted Gini index shows an upward trend after 1982 -- so, too, does the unweighted Gini index. This signals an overall increase in income inequality across the globe.

One line of thinking promotes a theory based on market forces with strong influence over national income include increased internationalization of companies and "skill-based technical change (SBTC)" that are believed to have brought about greater demand for highly skilled workers. Other researchers propose different reasons for the increase in global income inequality. Card and DiNardo (2002) assert that "contrary to the impression conveyed by most of the recent literature, the SBTC hypothesis falls short as a unicausal explanation" ("U.N. Report," 2008). Economist Paul Krugman and other scholars argue that income inequality is attributable to institutional forces. Examples of institutional forces include deregulation, declines in organized labor numbers and associated declines in unionized pay rates and benefits, stagnating minimum wage rates, and national policies that are advantageous to the wealthy. Milanovic believes that government should not dissemble at the prospect of intervening with the market. Rather he asserts that issues related to global income inequality cannot "be taken out of the social arena by evoking 'the market'…The market economy is a social construct, created, or rather discovered, to serve people, and thus raising questions about the way it functions is fully legitimate in every democratic society" ("U.N. Report," 2008).

Milanovic (2011) provided a robust history of inequality that dates back to the time of the Romans. He wrote that the Goths defeated the richer Romans, but those struggles did not reflect the scope of absolute differences that exist between companies today (Milanovic, 2011). Milanovic argued that the Big Bang of income inequality was precipitated by the industrial revolution.

At first countries' incomes were all bunched together, but with the Industrial Revolution the differences exploded, and the countries have "flown" further apart from each other. . . [it] pushed some countries forward onto the path to higher incomes while others stayed at the point where they had been for millennia. . . . Global inequality has been rising, first quickly, then more slowly, but nearly uninterrupted since the Industrial Revolution (Milanovic, 2011: xii).