Income inequality in Latin America
May 8, 1999
In a recent speech in Washington to business people from Latin America at a conference organised by the Council of the Americas American Secretary of State Madeleine Albright deplored the income and educational disparities in Latin America saying they were greater than in any other continent. "Neither democracy nor prosperity can endure" she said "unless they're broadly based. The policies of free markets and open investments... are vulnerable to challenge if too many people feel shut out or left behind". She claimed that the income gap had increased since the eighties.
The point is not a new one. Indeed the Inter-American Development Bank (IDB) had done a study on the topic and a report entitled `Facing Up to Inequality in Latin America' was prepared under the direction of IDB Chief Economist Ricardo Hausmann. He was interviewed on the report for the magazine IDB America. Though the situation in Guyana is different in that income stratification is not as severe much of what he had to say is of interest and relevance to Guyana.
Noting that the top l0 percent of the population earned average incomes eight times greater than those in the bottom 30 percent he said the difference was even more dramatic when households were considered.
"This is because in the top l0 percent nearly all adults work, but only one adult per family works in the bottom 30 percent.
Income is one major factor in inequality. Another is education. People in the top l0 percent have about l2 years of schooling, putting them at a greater advantage over the bottom 30 percent, where people typically go no further than the fourth or fifth grade.
A third key factor is the number of children per household. Those in the top l0 percent have fewer than two children, while those in the bottom 30 percent have twice that".
Asked the principal reasons for Latin America's inequality Hausmann replied:
"There is a mix of reasons, such as stage of development, and what we might call "natural endownments", or geography.
Development really has five dimensions. The first is that as development proceeds, returns to capital decline. This is because capital becomes more abundant overall, while its share as a part of national income drops. At the same time, the share of income paid to skilled and unskilled labour increases. Latin America is now in the midst of this shift in income, from capital to labour, which improves the prospects for greater equality.
The second dimension is demography, Countries that have high rates of population growth also have high inequality. The lower the income, the higher the number of children. Again, fertility rates in Latin America are dropping.
Third is education. Where relatively few get educated, such as in Latin America, inequality is high. But as more young people get educated and the older, less-educated generation passes away, inequality eventually starts to decrease.
Fourth is inequality that emerges from diffferences between rural and urban societies. In the countryside, most people are generally equal. But people in urban areas on the average have much higher incomes than in rural areas, so as urban areas grow, and you put the two together statistically, you get more inequality. In Latin America, there are four rural people for every six urban dwellers, accentuating this effect.
Finally, there is a process of formalisation. As development proceeds, more people work in the formal economy, where wage differentials are smaller than in the informal sector. Latin America still has a very large informal economy".
Noting that the report rejected populist policies while at the same time arguing that greater equality was better for growth the interviewer asked Hausmann how he resolved this apparent contradiction. He replied:
"Let me say some things about populist policies.
Take the minimum wage. In Latin America the minimum wage that is on the books is not received by people in the bottom 30 percent of the income scale. Paraguay, one of the poorest and most unequal countries in the hemisphere, has the highest minimum wage. We find that the minimum wage has very small - maybe even negative - distributional effects.
Similarly, we argue that the attempt to build progressive taxation on a shaky foundation of inefficient tax collection systems has resulted in very little revenue actually collected. That leaves the government with two choices, both of them bad: either provide inadequate services, or resort to the highly regressive inflation tax.
What we are saying is this: create an efficient tax system that collects with relatively broad taxes and low rates. The progressivity of the fiscal system will come mainly from the spending side, by focusing on education, health and basic infrastructure. The reason is because the richest top l0 percent in Latin America doesn't use public education and doesn't use public health".
There are several lessons to be learnt. First, the importance of education. Not only does it provide the cadres vitally needed for a developing country but it lessens income inequality by providing access to better jobs. Secondly, as people earn more they take more control of their lives, their expectations rise and they tend to have less children. Guyana is in a more primitive stage of economic development than most of Latin America (Trinidad is much more on par than we are) but we can learn from their experience.