HSIA Ling-en January, 9th 2008

hsia@hotmail.fr Université Paris I Panthéon Sorbonne

Essay: “ Impact of trade on inequalities?

Is the globalization guilty? “

Contents:

I Positive impact of trade on inequalities within industrialized countries

II Increasing inequalities in developing world

III Moderate convergence between North and South

Introduction

The issue of the bad consequences of globalization is regularly present in the public

debates all the more since trade and capital flows have attained an extraordinary level in the

world, since the first phase of globalization, before WWI. World trade of goods and services

has grown five times in real terms since 1980, and its share of world GDP has risen from 36

percent to 55 percent over this period while trade in assets has grown three times more rapidly

than trade in goods and services during the same period. This phenomenon was made easier

by both a huge decrease in transportation costs and the emergence of communication and

information technologies.

Here, we will focus on the economical aspect of globalization which can be defined as a

process by which the countries of the world are unified into a single economy. The question is

not to know the benefits of this globalization in term of global wealth overall, which is quite

obvious both empirically and according to traditional trade theories, but to know the influence

on the population welfare. One of the ways to asses this welfare is to measure inequalities.

Here, the economic inequality refers to disparities in the distribution of individual income.

Since the middle of the 20th century, what are the characteristics of these inequalities and what

is the part of globalization in this increase? Has each aspect of globalization the same

consequences? This study will be proceed in three phases which are illustrated by some

graphics in the appendix. Firstly, the evolution and the causes of inequalities within

Industrialized countries (OECD countries). Secondly, within the developing countries, also

called least-developed countries (LDCs) interchangeably, and finally, we will see a cross-

country comparison.

I Positive impact of trade on inequalities within industrialized countries

Hecksher-Ohlin theory assume than there is a net gain from trade but it implies

winners and losers within the country, i.e. inequality. This inequality can be studied with the

labour market: In developed countries, the implication of Stolper Samuelson theorem is that

trade has positively correlation with inequalities due to the competition with low skilled labor

from developing countries forcing down the wages of domestic less-skilled workers. This

statement is more noticeable in the USA and in the UK, while the issue is in term of rising

unemployment in Western Europe, where the fear of offshoring is more significant.

But trade, due to the world competition, also increases purchasing power of poorer segments

of the population through a lower price in the goods which represent a bigger part of their

consumption basket as food, textile or low-cost manufacturing goods.

Furthermore, we should keep in mind that trade implies growth and more tax income. Hence

the redistribution consequences of the rising tax income have also a reducing effect on

inequalities (if this kind of policies is led). Conversely, the high level of the capital mobility

currently may cause a shrink in the tax base, thus the government income are reduced.

Besides, the deunionisation over the last decades in these countries has also consequences on

the determination of wages so on distribution of labour earnings, therefore on inequalities.

Moreover, there are also geographic inequalities. For instance, though there is a European

integration, there are still a lot of disparities in term of unemployment and revenue according

to the different regions.

The rising inequalities due to trade are quite obvious in industrialized countries even if

the impact is not as significant as we could think. The consequences is actually emphasizes by

other parameters. Rising inequalities exist also in developing world but the causes are

dissimilar.

II Increasing inequalities in developing world

Developing countries are actually not a homogenous group but in this study we will

simplify as all countries which are not OECD members.

In the emerging markets, there is a rural exodus because of the dynamism located in the cities

which imply a growing inequality between countryside and cities. On the other hand, the

increase of trade in agriculture has a favourable impact on inequalities (1). According to the

Hecksher-Ohlin theorem, a country exports agricultural products because it has this kind of

workers (mostly low skilled labor) in relative abundance. In addition, the rising in the

productivity of these workers, which are an important part of the total workforce, has an

increasing impact in their salaries then reduce the inequality with the rest of the population.

The falling inequalities in Brazil recently can be explained partially because of that.

Actually, this trade is made more difficult because of the existence of some barriers as tariffs,

quotas or subsidies from the richer countries who do not want to liberalize this sector.

Nevertheless it is empirically shown than the impact of tariff reduction is found to be quite

advantageous in reducing income inequality in all the countries.

In the sectors which employ a lot of low skilled labor (textile for instance), the consequences

of trade are nearly the same than for agriculture. In accordance with the Stolper-Samuelson

theory, the rising of the price of these goods (compared to the domestic price in the case of an

autarky), implies a raise in the low-skilled labor returns. Besides, the initial conditions of

endowments and the geographical location have a greater impact on the poorer countries than

on industrialized countries. While some developing countries are endowed in some profitable

raw materials, some countries which are not endowed have a much more difficulties to

develop themselves economically. According to the gravity equation theory, distance matters.

For instance, some African countries which have no access to any river or sea are much more

put at a disadvantage because of the transportation costs all the more since they are quite far

away from the bigger markets. In addition, one of the most serious arguments is the massive

increase in the capital flow, especially foreign direct investment (FDI). These inflows are used

in the high skilled labour sector, led mostly by the Multinational enterprises, which raises the

wages of high-skilled workers (who are already high income) and capitalists. In the same

mind, the spread of technological progress, facilitated by globalization, serves the high-

technological sector’s interests, so the high skilled workers.

Finally, the inequalities have widened mostly because of the financial globalization

and the spread of technological progress but still, the inequality evolution of these LDCs

compared to OECD countries is getting on a new trend.

III Moderate convergence between North and South

According to some studies and despite the difficulties of getting data, we notice a

decrease of inequalities comparing developed and developing countries, in accordance with

the Solow theory of convergence.

The openness to trade of LDCs has a positive impact on the price of the good, which is

exported, so on the wages of these workers. As previously, the Stolper-Samuelson theorem on

wages can be used at the world level. Even if the causality of trade on inequality is not that

obvious, there is a kind of catching up. If we compare the growth in GDP per capita,

proportionally to population, it seems to be a convergence. If some emerging countries as

China and India (which have a huge population), go on growing, the gap is going to be

reduced.(2) By the way, these countries are among the biggest actors of trade today.

However, trade can be biased by free trade area, as NAFTA, or customs union, as EU which

make trade easier between limited countries even if the World Trade Organization is designed

to supervise the international trade. On the other hand, tariffs are essential for some countries

in order to get government income.

In this case the rise of trade is a good channel to decrease the cross-country inequalities

provided that the policies made in the poorer countries are likely to adapt to the world trade

(research and development, education, transportation infrastructures…). Most of Eastern Asia

has made these kinds of policies on the contrary of most Sub-Saharan countries, where the

politic instability, to be added to some cases of corruption, is not helping. Civil wars and

terrorism can explain even better the lack of dynamism in this region rather than

globalization.

Moreover, the increasing of a North-South financial flows, which still is much lower than

North-North one, has an impact of narrowing wealth gap. Furthermore, for a decade, we have

even noticed a clear appearance of South-South financial flows and partnerships between

China and African countries, for example.

Besides, facing the huge rising of oil, each country does not gain or lose the same way. While

most of developing countries from Organization of Petroleum-Exporting Countries (OPEC)

win from this increase, most of the countries are losing because of the raise of the price of raw

materials. But the lost is unequal in the long run. Developed countries are much more likely to

adapt themselves in developing other technologies although poorer countries have no other

solution than suffering of these additional costs which lower their competitiveness.

Conclusion

Globalization has a various impact on the inequalities between countries and within

countries and between richer and poorer countries. Globalization could be guilty in a short

term point of view but other parameters as the problem of peace and lack of education access

have consequences too.

Trade seems getting countries wealthier, on average, instead. Then a convergence is

happening partly because of trade, hence the inequalities are likely to be reduced between

poor and rich countries. If trade is not profitable, we can imagine a situation of global

protectionism, where it is not obvious that all countries will be better developed.

An optimistic viewpoint is the Kuznets theory (3): economic inequality increases over time

while a country is developing, then after a critical average income is reached, inequality

begins to decrease. There is a kind of arbitrage to be made between economic efficiency and

social justice maybe even more during the phase of development.

Nevertheless the measure of inequalities is not the sole way to see a social progress. It is

worth to notice that the absolute poverty of these populations, on average, have fallen even if

the situation in Sub-Saharan Africa is not getting better (4).

Appendix

(1) This graph shows the inverse relation between the amount of trade (ratio of agricultural exports to

GDP) and the inequality of the distribution of the revenue (the Gini coefficient ranges from zero,perfect equality,

to one, perfect inequality).

Sources: Povcal database; WIDER database; World Bank, World Development Indicators database(2007); and IMF staff calculations

(2)

(3)

Source : Wikipedia

(4)

Source: the Economist