Why is inequality falling in Latin America?

If inequality is falling it’s worth taking a closer look as to why.

A range of new papers, seek to shed light on why inequality has fallen in some Latin American countries.

All of these suggest that the policy levers for tackling inequality and poverty are clear enough.

I noted in an earlier blog (here): inequality matters because high inequality can inhibit growth, discourage institutional development towards accountable government and undermine civic and social life leading to conflict especially in multi-ethnic settings.

So what has happened in Latin America? Lopez-Calva and Lustig have observed inequality has declined in 13 of the 17 countries with comparable trend data.

Whilst Palma has argued that the countries in Latin America with the worst income distribution in 1985 (Brazil, Chile, Guatemala, Nicaragua and Panama) have reduced inequality but only by a relatively minor amount and those countries with lower inequality in 1985 (Uruguay, Costa Rica, Argentina and Mexico) have actually increased inequality over the last 25 years.

Now a range of new papers, seek to shed light on why inequality has fallen at least in some Latin American countries.

One new paper for example, by Soares et al., at Carnegie note that due to ‘outstanding’ targeting, Conditional Cash Transfers (CCTs) cost less than 1% of GDP and account for 15-21% of the reduction in three Latin American countries: Brazil, Mexico and Chile.

Other papers such as Birdsall et al., argue that ‘social democratic’ regimes (eg Brazil, Chile and Uruguay) are more likely to reduce inequality than ‘left populist’ (eg Argentina, Bolivia, Ecuador, Nicaragua and Venezuela); and both are more likely to reduce inequality that non-left regimes (eg Colombia, Costa Rica, Mexico and Peru)

This is largely due to the greater level and more progressive orientation of social spending, especially in the social democratic regimes. Examples they include are spending on cash transfers targeted to the poor and increases in spending on health and education that reach the lower and middle classes (in education, reflected in particular in greater increases in spending on primary and secondary schooling rather than on public universities).

Lopez-Calva and Lustig concur that improved provision of education has been as a key factor in recent declines in inequality.  More broadly, government spending on transfers became more progressive in the 2000s in all of these countries, which has led to improvements in health, nutrition and basic infrastructure as well as education: these programmes have had a significant impact on poverty.

Cornia argues that factors explaining the decline in inequality in Latin America, 2002-2007 as follows:

the favorable external environment of 2002–2007, the rapid regional growth of GDP during this period, the longer term improvements in human capital formation and in its distribution, and the changes in economic and social policies part of the ‘new LOC Latin American model’ that is has been gradually taking shape during the past decade… [There are] changes that are less frequently emphasized in the literature were recorded starting from the mid-1990s. The first concerns the steady gains in educational achievements realized since the beginning of the 1990s by both center-right and left-of-center (LOC) regimes — both social-democratic and populist — and the parallel decline in many aspects of educational inequality… The second change is the slowdown in the growth of the labor force… Together with a faster growth of labor demand for unskilled workers and in the supply of skilled workers, the slower increase in unskilled labor supply possibly contributed to reducing unemployment and halting  the long-term rise in the wage premium. The third, and possibly most important, change concerns the shift towards democratization and the election of LOC governments. Indeed, during the past decade the political center of gravity of the region’s shifted with surprising regularity towards political regimes that place greater emphasis on distributive and social issues.

In Brazil, Barros et al. (2009, p.1) find that ‘half of the decline in labour earnings inequality was caused by an acceleration of educational progress, which took place in Brazil over the last decade. The other half of the decline in labour earnings inequality came from labour market integration. Given that the minimum wage sets the floor for unskilled workers earnings, and for social security benefits, one might imagine that the recent increase in the real value of the minimum wage is one of the forces behind the overall income inequality decline in Brazil’.

Indeed, the reproduction of inequality is narrowed down to five variables using the case of Brazil: father’s and mother’s education; father’s occupation; race; and region of birth. Parental education is the most important circumstance affecting earnings, but the occupation of the father and race also play a role (see Bourguignon et al.,).

All of this would suggest that the policy levers for tackling poverty and inequality are clear enough and include addressing more structural and institutional such as setting minimum wages; and increasing the level and progressive weighting of social spending, notably through cash transfers.

In short, as Austrian-American economist and political scientist, Joseph Schumpeter said (and Palma cites):

The fiscal history of a people is above all an essential part of its general history… The budget is the skeleton of the state stripped of all misleading ideologies. . . . The spirit of a people, its cultural level, its social structure, the deeds its policy may prepare — all this and more is written in its fiscal history.

The recent experience of Latin America certainly seems to support this assertion.