Poverty, Inequality, and

Development
Chapter 6

Voices of the Poor

http://go.worldbank.org/H1N8746X10
Centesimus Annus
34. It would appear that, on the level of individual nations and of
international relations, the free market is the most efficient instrument
for utilizing resources and effectively responding to needs. But this is
true only for those needs which are "solvent", insofar as they are
endowed with purchasing power, and for those resources which are
"marketable", insofar as they are capable of obtaining a satisfactory
price. But there are many human needs which find no place on the
market. It is a strict duty of justice and truth not to allow fundamental
human needs to remain unsatisfied, and not to allow those burdened
by such needs to perish. It is also necessary to help these needy
people to acquire expertise, to enter the circle of exchange, and to
develop their skills in order to make the best use of their capacities
and resources. Even prior to the logic of a fair exchange of goods
and the forms of justice appropriate to it, there exists something
which is due to man because he is man, by reason of his lofty dignity.
Inseparable from that required "something" is the possibility to
survive and, at the same time, to make an active contribution to the
common good of humanity.

Poverty across countries
Country
(in order of increasing GNP per
capita)
% of Population below $1 a day
Bangladesh 29.1
Kenya 26.5
Sri Lanka 6.6
Indonesia 7.7
Philippines 14.6
Jamaica 3.2
Paraguay 19.5
Costa Rica 6.9
Malaysia <2
Brazil 9.0
Inequality across countries
Country
(in order of increasing
GNP per capita)
The Poorest 40% get
% of income
Ratio of Highest 20% to
lowest 20%
Bangladesh 22.9 4.0
Kenya 10.1 18.3
Sri Lanka 22.0 4.4
Indonesia 20.4 5.1
Philippines 15.5 8.4
Jamaica 16.0 8.2
Paraguay 8.2 27.1
Costa Rica 12.8 12.9
Malaysia 12.9 11.7
Brazil 8.2 25.7
United States 16.1 8.5
But careful ! In these surveys, both the very poor and the very rich and underrepresented.
But careful ! In these surveys, both the very poor and the very rich and underrepresented.
But careful ! In these surveys, both the very poor and the very rich and underrepresented.
Poverty, Inequality, and GNP per
capita
Theres no simple relation between
poverty/inequality and per capita
income.
Inequality (high or low) seems to be very
persistent; but it typically changes (up or
down) when output per capita changes.
There might be a complicated relation,
involving the interaction of many factors.
Poverty, Inequality, and GNP per
capita
Inequality is probably determined by
history
social cleavages,
politics and government policies
Careful statistical/econometric analysis
is necessary to identify the effect of
each factor.
The Growth Controversy:
Seven Critical Questions
What is the extent of relative inequality, and
how is this related to the extent of poverty?
Who are the poor?
Who benefits from economic growth?
Does rapid growth necessarily
cause/require greater income inequality?
Do the poor benefit from growth?
Are high levels of inequality always bad?
What policies can reduce poverty?
The Growth Controversy:
Seven Critical Questions
Inequality and poverty need to be
defined carefully if we want to
Compare countries to each other;
Assess progress in fighting them;
What kind of policies/incentives need to
be designed.
What kinds of growth improve welfare?
What are the main things to be done?
Measuring Inequality and
Poverty
Measuring Inequality
Size distributions
Lorenz curves and Gini coefficients
Functional distributions
Measuring Inequality and
Poverty
Measuring Inequality
size distributions
How much income does household X earn?
Sort people according to income and put
them in major groups.
Ignore differences in the source of income (or
capabilities, for example)
A quartile is a fourth (25%) of the population;
a decile is a tenth; a quintile is a fifth.
The Kuznets
ratio:
the ratio of
the share of
income of the
highest 20%
divided by
the share of
income of the
lowest 40%.
Household
Measuring Inequality and
Poverty
Measuring Inequality
Lorenz curves
Arrange population according to the share of
income they receive, from lowest to highest.
Calculate cumulative percentages (the lowest
5%, the lowest 45%, etc.)
Plot the cumulative percentage of households
against the cumulative percentage of the
income they earn.
http://mysite.avemaria.edu/gmartinez/Courses/ECON320/xls/Lorenz_Curve.xls
The Lorenz Curve
The Greater the Curvature of the
Lorenz Line, the Greater the Relative
Degree of Inequality
Four Possible Lorenz Curves
Which is the
least unequal
country?
Which is the
most unequal?
Can we rank
them all?
Measuring Inequality and Poverty
Measuring Inequality
Gini coefficients (an aggregate measure
of inequality)
Its a quantitative measure of how far a
society is from being perfectly equal.
Calculate the area between the perfect-
equality curve and the actual curve.
Divide that area by the total area under the
perfect-equality curve.
Estimating the Gini Coefficient
http://mysite.
avemaria.edu
/gmartinez/C
ourses/ECON
320/pdf/Calcu
lationGini.pdf
The Gini Coefficient
The Gini coefficient is interesting because
Its anonymous: it doesnt treat some people as
better than others, it just reports their income.
Its scale-independent: measuring income in
dollars or in rupees doesnt change it.
Its population-independent: changing the amount
of people but keeping income distribution
constant doesnt change it.
It follows the transfer principle: transferring
income from a richer to a poorer person (without
changing their order) improves it.
The coefficient of variation (stdev/mean) also follows
these principles.
Measuring Inequality and Poverty
Measuring Inequality
Functional Distributions
What is the income that goes to each
kind of factor of production? That is,
what is the labor share in income? What
is the profit-rent-interest share in income?
Functional Income Distribution in a
Market Economy: An Illustration
According to this theory, incomes
are determined by demand for the
input (and therefore by its
marginal productivity) and by its
supply.
Non-market influences (or market
imperfections) are ignored.
Measuring Poverty
Measuring Poverty
Poverty is
Lack of income;
Lack of drinking water
Lack of access to health care
Lack of protection against adverse
shocks
Measuring Poverty
Measuring Absolute Poverty
The Absolute Poverty Headcount H
simply adds the number of people whose
income is below an agreed upon poverty
line.
The Headcount index H/N divides this
number by the population.
The international poverty line is $1 a day,
but adjustment to local conditions can
lead to a different number.
Measuring the Poverty Gap
The poverty gap is different but H or
H/N would be the same.
Measuring Poverty
Measuring Absolute Poverty
Total poverty gap



where Y
p
is the absolute poverty line
Y
i
is income of person i
TPG Y Y
p i
i
H
=
=

( )
1
Measuring Poverty
Measuring Absolute Poverty
Average poverty gap



where H is number of persons under
poverty line
TPG is total poverty gap
APG
TPG
H
=
Measuring Poverty
Measuring Absolute Poverty
The Normalized Poverty Gap is the Total
Poverty Gap divided by the product of the
poverty line and the population



p
H
i
i p
NY
Y Y
NPG

=

=
1
) (
Measuring Poverty
Measuring Absolute Poverty
Foster-Greer-Thorbecke measure
Is a very general form of poverty measure
that satisfies
anonymity (no person is worth more than another),
population independence (a larger population
doesnt change it, ceteris paribus),
monotonicity (making a person richer wont
decrease the index) and
distributional sensitivity (taking income away from a
poor person makes the poverty index worse).
Measuring Poverty
Measuring Absolute Poverty
Foster-Greer-Thorbecke measure




If o=2, you get a measure that is extremely
sensitive to the depth and severity of poverty.

=
|
|
.
|

\
|

=
H
i
p
i p
Y
Y Y
N
P
1
1
o
o
| |
2 2 2
2
) ( ) 1 ( ) / (
p
CV NPG NPG N H P + =
Coefficient of variation of incomes of the poor
Measuring Poverty
Measuring Absolute Poverty
The Human Poverty Index (UNDP)
Deprivation of life (percentage whose life
expectancy is below 40%)
Deprivation of education (percentage of
illiterate people)
Deprivation of economic provisioning
(percentage without access to health care
and safe water plus percentage of
underweight under-5 children)
Measuring Poverty
Measuring Absolute Poverty
Is $1 a day too low?
Is $2 a day too low?
Lots of people live between $1 a day and
$2 a day, and although there are fewer
people below $1 a day, the proportion of
people living under $2 a day hasnt fallen
much.
Measuring Poverty
Measuring Absolute Poverty
How about $15 a day as the standard to
say that someone is poor?
If $15 a day makes your poor in the US,
why should you be non-poor if you make $10
a day in Zambia?
How about using income rather than
consumption, and national accounts
rather than surveys?
The number of poor people seem to be much
fewer.
Poverty, Inequality, and Social
Welfare
Whats so bad about inequality?
Extreme income inequality leads to
inefficiency.
Lack of access to credit leads to
underfinancing of good productive
opportunities.
Since the middle-class has the highest
average and marginal saving rates, income
inequality leads to lower saving and
investment.
Poverty, Inequality, and Social
Welfare
Whats so bad about inequality?
Extreme income inequality leads to
inefficient allocation of assets.
Overemphasis on higher education to the
detriment of basic education.
Inefficiently large farms next to inefficiently
small farms.
Poverty, Inequality, and Social
Welfare
Whats so bad about inequality?
Extreme income inequality leads to
political and social instability
The poor try revolution while the rich try
corruption and rent-seeking to retain power.
Most people think its unfair.
Rawlss veil of ignorance.
A sense of unfairness lowers welfare.
Poverty, Inequality, and Social
Welfare
Whats so bad about inequality?
St. Augustine on the Preferential Option for
the Poor
God does not demand much of you. He asks
back what he gave you, and from him you
take what is enough for you. The superfluities
of the rich are the necessities of the poor.
When you possess superfluities, you possess
what belongs to others. (Exposition on Psalm
147, 12).
Poverty, Inequality, and Social
Welfare
Whats so bad about inequality?
CIC: 2444 "The Church's love for the poor . . .
is a part of her constant tradition." This love
is inspired by the Gospel of the Beatitudes, of
the poverty of Jesus, and of his concern for
the poor. Love for the poor is even one of the
motives for the duty of working so as to "be
able to give to those in need. It extends not
only to material poverty but also to the many
forms of cultural and religious poverty.
Poverty, Inequality, and Social
Welfare
Dualistic development and shifting
Lorenz curves: some stylized
typologies
modern sector enlargement
modern sector enrichment
traditional sector enrichment
Improved Income Distribution
under the Traditional-Sector
Enrichment Growth Typology
Sri Lanka,
Kerala (India).
Low growth
by great
struggle
against
poverty.
Worsened Income Distribution
under the Modern-Sector
Enrichment Growth Typology
Latin America,
Africa
Growth only in
modern sector:
unchanged
proportion of
traditional
sector workers.
Crossing Lorenz Curves in
the Modern-Sector
Enlargement Growth
Typology
OECD, East Asia
The poor get richer
as they become
modern-sector
workers, increasing
the share of the
middle class.
Those who are left in
the traditional sector
get a smaller share
of income.
With careful
math, one can
show that the
Gini coefficient
will first
worsen and
then improve.
Poverty, Inequality, and Social
Welfare
So is inequality bad?
Kuznetss inverted-U hypothesis
Historically, he found that inequality falls
and then rises as countries develop.
The reasons may be complicated
and the validity of the hypothesis is an
empirical question.
The Inverted-U Kuznets
Curve
Kuznets Curve with Latin
American Countries Identified
Circles represent
Latin America:
without them
theres no inverted-
U pattern.
The evolution of
inequality over
time is most often
due to
sociopolitical
factors.
Poverty, Inequality, and Social
Welfare
Growth and inequality
High overall growth may or may not be
accompanied by improved income for the
poorest 40%.
Low growth may or many not lead to low growth of the
incomes of the poor.
The poor almost always share in (some of) the
benefits of growth.
But whether growth leads to less inequality
depends on who does the growing.
Absolute Poverty: Extent and
Magnitude
Poverty: some progress (1987-1998)
The share of people living under $1 a day
fell in most regions of the world; remained
the same in some; and only rose in the
ex-communist countries.
This is in spite of population growing from
5 billion to 6 billion, with pop. growth
concentrated in poor countries.
Where Poverty Has Fallen,
and Where It Has Not
Poverty in the Developing World Is
Shifting toward South Asia and Sub-
Saharan Africa
Absolute Poverty: Extent and
Magnitude
Growth and poverty
Growth is bad for the poor. They are
marginalized from modernization, so inequality
rises and even absolute poverty may rise as jobs
disappear.
Poverty/Inequality-reduction programs are bad for
growth. Redistribution curtails incentive for saving
and work.
The poor save a surprisingly large proportion of
their income. And extra income for the poor is
invested into better nutrition, education, health.
Absolute Poverty: Extent and
Magnitude
Growth and poverty
Growth comes from taking advantage of profitable
opportunities. If the poor cant invest because
they dont have access to credit, fewer profitable
opportunities will be taken. Then
poverty/inequality-reduction is good for growth.
Unlike the elites of the Industrial Revolution,
todays Third-World elites are not high savers and
do not devote large resources to improving the
productivity of their business concerns.
Absolute Poverty: Extent and
Magnitude
Growth and poverty
Poverty and destitution lead to
unproductive workers.
Higher incomes for the poor create a
strong domestic market.
Poverty/Inequality reduction generates
support for development policies and
programs.
Is Growth Good for the Poor?
Is Growth Good for the Poor?
No, if its
Jobless
Is growth labor-
intensive?
Ruthless
Does inequality
worsen?
Voiceless
Does democracy
expand?
Rootless
Are people able to retain
their cultural identity?
Futureless
Does growth squander
resources for future
generations?
Human Development Report, UNDP
Is Growth Good for the Poor?
Yes, if it is accompanied by
Expanded opportunity
Are the losers compensated by the winners?
Is competition open and fair?
Are services (education, health, transportation,
communication) good and reliable?
Macroeconomic stability
Are the costs of stabilization worth the benefits?
Specialization in the countrys comparative
advantage
Growth and the Poor
Higher
average
income
levels are
associated
with higher
income for
the poor.
Growth and the Poor contd
Higher
average
income
growth is
associated
with higher
income
growth for
the poor.
Economic Characteristics of
Poverty Groups
Rural Poverty
There are fewer income, health,
education, and insurance possibilities in
rural areas than in urban areas.

Economic Characteristics of
Poverty Groups
Women and poverty
Poor households are usually female-headed.
But females have less access to education,
credit, jobs, etc., and often live in more deprived
areas.
Within families, females often get fewer
resources.
Often, nutrition-improvement programs work
better if targeted at women.
Ethnic minorities, indigenous
populations, and poverty
Policy Options
The Range of Policy Options:
Some Basic Considerations
Areas of intervention
Change the functional distribution
Give more income to labor and less to capital.
Change asset and skill inequality: the sources of
income inequality.
Land reform; microcredit; basic education
Make taxes more progressive.
Poverty reduction programs: direct transfers or
subsidies for food, education, health, etc.
The Range of Policy Options:
Some Basic Considerations
Policy options
Changing relative factor prices
Traditional-sector workers have very low
incomes and minimum-wage laws are seldom
enforced.
Artificially high modern-sector wages (due to
unions or laws) reduce the growth of the
modern sector, condemning more people to
poverty and exclusion.
The Range of Policy Options:
Some Basic Considerations
Policy options
Changing relative factor prices
Market-determined wages (which would be
lower) in the modern sector would increase
employment and incomes for the poor.
Market-determined cost of capital (which
would be higher) would encourage firms to
hire workers rather than buy capital.
The Range of Policy Options:
Some Basic Considerations
Policy options
Transfer payments and public provision
of goods and services
Make sure its targeted to the poor.
Prevent the poor from becoming dependent
on it but encourage appropriate risk taking.
Discourage switching from work to program.
Avoid resentment by nearly-poor-but-not-
enough who are working.
The Range of Policy Options:
Some Basic Considerations
Policy options
workfare is better than welfare if it
Does not undermine incentives for acquiring
human capital needed for private sector jobs
Increases net benefits including
externalities
Is difficult to identify the needy without work
requirement
There are relatively few poor people
There less social stigma / political resentment
from workfare
Poverty Declines as National
Income Rises
The Range of Policy Options:
Some Basic Considerations
The need for a package of policies
Eliminate price distortions: more
efficiency, more employment and less
poverty
Structural change in asset ownership
Progressive taxes and transfers; safety
net

Global Inequality
Global Inequality
Measures
Unweighed
Lesotho and China get the same weight
Population-weighed
More populous nations get more weight, but
people are assumed to have identical
incomes.
Global Household surveys.
Global Inequality
Measures
Unweighed
Global inequality has been getting worse:
dominated by lots of countries in Sub-
Saharan Africa and Latin America.
Population-weighed
Global inequality has been getting better:
dominated by China, India, and East Asia.
Global Household surveys
Inequality seems worse because of US,
China, and India.