Global income inequality: what it is and why

it matters?

Branko Milanovic

Moscow, 9-10 November 2006

Email: bmilanovic@worldbank.org

1. Inequalities today

Three concepts of inequality definedConcept 1 inequality

Concept 2 inequality

Concept 3 (global) inequalty

Inequality, 1950-2002:The mother of all inequality disputes

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Year

Gin

i Ind

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World unweighted World population-weighted World weighted except China

Global Inequality

Concept 1 inequality

Concept 2 inequality

2. Inequality between world citizens today

Methodological issues

• GDI per capita or HS mean• Definitional difference (H&E, undisbursed profits)

and• Practical difference (under-surveying of the rich

and under-reporting of property Y)• Mixing of the two biases both poverty and

inequality down• Moreover, movements in NA and HS statistics

are different • If HS mean is it HSY or HSX?

Methodological issues (cont.)

• Even if HS welfare indicator is selected definitions of X,Y vary in time & btw. countries

• Issues: self-employed Y, home C, imputation of housing, treatment of publicly provided H&E, use of top coding, under-estimation of property incomes

• What PPP to use• Equivalence scales & intra-HH inequality

The difficulty stems from contradictory movements

• Greater inequality within nations

• Greater differences between countries’ mean incomes (think of US vs. Africa)

• But catching up of large and poor countries

• All of these forces determine what happens to GLOBAL INEQUALITY (but they affect it differently)

3. First calculations of global inequality from household survey

data alone

Population coverage

1988 1993 1998 2002

Africa 48 76 67 63

Asia 93 95 94 95

EEurope 99 95 100 99

LAC 87 92 93 96

WENAO 92 95 97 99

World 87 92 92 92

Non-triviality of the omitted countries (Maddison vs. WDI)

GDI (US dollar) coverage

1988 1993 1998 2002

Africa 49 85 71 59

Asia 94 93 96 95

EEurope 99 96 100 99

LAC 90 93 95 95

WENAO 99 96 96 99

World 96 95 96 97

Number of surveys (C-based)

1988 1993 1998 2002

Africa 14(11) 30(27) 24(24) 23(23)

Asia 19(10) 26(18) 28(20) 24(16)

EEurope 27(0) 22(0) 27(14) 27(16)

LAC 19(1) 20(4) 22(2) 21(1)

WENAO 23(0) 23(0) 21(3) 20(2)

World 102(22) 121(52) 122(63) 115(58)

1988 1993 1998 2002

International dollars

Gini index

61.9

(1.8)

65.2

(1.8)

64.2

(1.9)

65.2

(1.6)

US dollars

Gini index

77.3

(1.3)

80.1

(1.2)

79.5

(1.4)

80.5

(1.1)

Global inequality(distribution of persons by $PPP or US$ income per capita)

4. Importance of differences between countries’ mean

incomes

Composition of global inequality changed: from being mostly due to “class” (within-national), today it is mostly due to “location” (where people live; between-national)

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50

60

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90

1870 2000

C lass

Location

Location

Class

1870

2000

Based on Bourguignon-Morrisson (2002) and Milanovic (2005)

1988 1993 1998 2002

Between country Gini (PPP dollars)

51.6 54.2 53.1 54.9

Share of total inequality (in %) 83 83 83 84

Between country Gini (US dollars)

69.5 71.7 70.8 73.3

Share of of total inequality (in %) 89 90 89 91

Share of between-country inequality in total inequality

Define four worlds:

• First World: The West and its offshoots• Take the poorest country of the First World

(e.g. Portugal)• Second world (the contenders): all those

less than 1/3 poorer than Portugal.• Third world: all those 1/3 and 2/3 of the

poorest rich country.• Fourth world: more than 2/3 below

Portugal.

Four Worlds 1960

Four Worlds 2003

Four worlds in 1960 and 20031960 2003

Number of countries

% of population

Number of countries

% of population

First 41 26 27 16

Second 22 12 7 2

Third 39 13 29 37

Fourth 25 49 72 46

Growth over 1980-2002 period as function of initial (1980) income

Population according to income of country where they live (2000): an empty middle

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20

30

40

Perc

ent

0 10000 20000 30000gdp per capita in ppp

China

India, Nigeria

WEur, Japan USA

Brazil, Russia

Mexico

histogram gdpppp [w=popu] if year==2000 & gdpppp<32000 & Dcont==1, bin(20) percent ylabel(0(10)40)

The key borders today

• First to fourth world: Greece vs. Macedonia and Albania; Spain vs. Morocco (25km), Malaysia vs. Indonesia (3km)

• First to third world: US vs. Mexico;

Germany vs. Poland; Austria vs. Hungary

In 1960, the only key borders were Argentina and Uruguay (first) vs. Brazil, Paraguay and Bolivia (third world), and Australia (first) vs. Indonesia (fourth)

Year 2002 Year 1960

Approximate % of foreign workers in labor force

Ratio of real GDI per capita

Greece (Albanians)

7.5 4 to 1 2.2 to 1

Spain (Moroccans)

12.0 4.5 to 1 2.3 to 1

United States (Mexicans)

>10.0 4.3 to 1 3.6 to 1

Austria (former Yugoslavs)

10.0 2.7 to 1 2.6 to 1

Malaysia

(Indonesians)

>10.0 5.3 to 1 1.5 to 1

5. Global inequality (cont.)

A 90-10 world: fifty-fiftyCumulative % of world population

Cumulative % of PPP world income/consumption

In a single country (UK)

5 0.2

10 0.7 2.0

25 2.9

50 9.6 25.0

75 24.7

90 50.4 71.5

Top 10 49.6 28.5

Top 5 32.7 18.4

What is a Gini of 64-66; how big is it?

Top Bottom Ratio

In $PPP: 5% 33% 0.2% 165-1

10% 50% 0.7% 70-1

In US$: 5% 45% 0.15% 300-1

10% 67.5% 0.45% 150-1

5 countries 31,850 580 55-1

10 countries 28,066 660 42-1

First order dominance (year 2002) expressed in terms of percentile of world income distribution

twoway (line inc_c group if contcod=="BRA") (line inc_c group if contcod=="RUS") (line inc_c group if contcod=="DEU") (line inc_c group if contcod=="IDN-R") (line inc_c group if contcod=="LKA"), legend(off) xtitle(country ventile) ytitle(percentile of world income distribution) text(92 5 "Germany")*/ text(60 14 "Sri Lanka") text(58 4 "Russia") text(44 5 "Brazil")/**/ text(35 10 "Indonesia")

Germany

Sri LankaRussia

Brazil

Indonesia

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pe

rce

ntil

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f w

orld

inco

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utio

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0 5 10 15 20country ventile

Note…

• Not even richest people in rural Indonesia intersect with poorest people in Germany

• Very little overlap between people in Sri Lanka and Germany

• But this is not true for Brazil and Russia: about a quarter of the population is better off than the poorest decile in Germany

• Important later for rules re. global transfers

Poor and rich people and countries, 1998

People

Countries

Poor Middle income

Rich Total

Poor 3879 210 96 4185

Middle 189 35 52 277

Rich 92 115 707 913

Total 4160 360 855 5375

6. Globalization, policy convergence and income

divergence

Causal effect of globalization (openness) on global inequality

• Channel 1. Different effect on within-national income distributions (difference between poor and rich countries; HOS and revisions)

• Channel 2. Different effect on growth rates of poor and rich countries (the openness premium should be higher for poor countries)

• Channel 3. Different effect on populous and small countries

• Depends on history: are populous countries rich or poor at a given point in time?

• Assume globalization is good for for poor, populous countries, no effect on within-national distribution

• In the current constellation, India and China grow faster => global inequality ↓ (mean income convergence, lower global inequality)

• Decouple poor and populous; let China and India be rich

• No change in individual effects of gloablization; mean convergence continues but global inequality may now go ↑

• Conclusion. Even if effects are known and unchanged, the outcome may differ.

Transition countries: continued output divergence despite policy convergence

twoway (line EBRD_sd year) (line gdpppp_sd year, yaxis(2)), legend(off) text(6.2 1997 "standard deviation of all > EBRD indicators") text(3.5 2000 "standard deviation of GDI per capita")

standard deviation of all EBRD indicators

standard deviation of GDI per capita

2000

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ev. o

f gdp

ppp

per

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45

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1990 1995 2000 2005Year...

LAC countries: continued output divergence despite policy convergence

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1985-1988 1988-1991 1992-1994 1995-1997 1998-1999

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St deviation of the Lora reform indexindicator

St. deviation of GDI per capita

7. Does Global Inequality Matter?

• No one in “charge” of it; there is no global government

• No one can do much about it

• No global taxation authority

Does global inequality matter?

• NO, according to Ann Krueger (2002):

“Poor people are desperate enough to improve their material conditions in absolute terms rather than to march up the income distribution. Hence it seems far better to focus on impoverishment than on inequality.”

• YES, according to Kuznets (1954)“…reduction of physical misery associated with

low income and consumption levels…permit[s] an increase…of political tensions”

BECAUSE

“the political misery of the poor, the tension created by the observation of the much greater wealth of other communities…may have only increased.”

What may be the effects of global inequality?

• Globalization increases awareness of differences in living standards (aspiration level changes; empirical studies show it)

• Leads to migration

• Greater likelihood of conflict (Jennifer Government)

We need some rules for global transfers

• They should flow from a rich to a poor country. That is easy.

• But they have to satisfy the same rules as at the national level, i.e.

• transfers should be globally progressive, that is flow from a richer person to a poorer person.

In addition transfers have national income inequality implications

Progressive transfer at the global level and worsening national distributions (may not

be politically sustainable)

T B

Income

Income distribution in poor country

Income distribution in rich country

Thus transfers have to satisfy

• Progressivity 1: reduce mean income differences between rich and poor countries

• Global progressivity: tax payers should be richer than beneficiaries

• National progressivities: in rich country, tax payers should be relatively rich (reduce rich country inequality) and in poor country, beneficiaries should be relatively poor (reduce poor country inequality)

Mechanism of global transfers

• Transfers are no longer from state to state, or from inter-state organization to a state, but from global authority to poor citizens regardless of where they live (=change in paradigm)

• A natural complement to global tax authority is relationship with (poor) citizens, not (poor) states

And in cash…

New Global Welfare AgencyTax on commodities consumed by the rich people in rich

countries

Money collected by the Agency

Aid in cash given to different poor categories of people in poor countries

Several key points: GCB

• Symmetrical treatment of poor and rich countries (limited sovereignty for both: rich govts lose some tax-raising authority; poor govt cannot decide the use of funds)

• No loans, but grants (pure transfers)

• No projects, but cash to citizens

• No fine targeting, but broad categories

• Use NGOs and citizen groups

• Book “Worlds Apart: Measuring International and Global Inequality”

• Email: bmilanovic@worldbank.org

• Website: http://econ.worldbank.org/projects/inequality