Tuesday, April 30, 2013

Inequality in Asia

How have some countries succeeded in avoiding widening wealth gaps?

Why do some countries experience inequality, while others sidestep it? Widening wealth gaps are a major worry for governments throughout developing Asia. Middle-income countries like the People's Republic of China, Malaysia, and Thailand see wealth gaps as a threat to economic growth and stability.

Further widening of these disparities could eventually provoke social unrest as governments grapple with ways - such as tax hikes - to skew the system toward the less affluent. The stakes are high. But a concerted anti-inequality program should be informed by how inequality has - and hasn't - evolved across the region.

Conventional wisdom views inequality as a by-product of rapid development, implying that governments are all but powerless to stop it.

Yet the economies that powered Asia's economic miracle - Japan; the Republic of Korea; and Taipei - all showed relatively low and steady levels of inequality during their rapid growth.

These economies remain relatively equitable today, comparing well on inequality with the developed economies of the West. The Gini coefficients of South Korea and Taipei increased only marginally through the 1990s and 2000s. Their experience is salutary for similar-sized and less developed economies looking to minimize inequality.

Avoiding inequality starts with getting agriculture right. Success in raising agricultural productivity is not just good for farmers. It underpins the entire process of industrialization.

Getting agriculture right means addressing problems of ownership as well as investment in irrigation, roads, technology, and other infrastructure. In Korea and Taipei, post-1945 land reform spurred the first surge in rural productivity. In the PRC and Vietnam, the return of family farming and price liberalization marked the first steps in the reform process and helped spur rapid rural growth.

However, ownership issues may now be hampering further rises in productivity through consolidation of farms and a substitution of capital for labor. After an initial surge in rural incomes in the PRC and in Thailand, they began to lag urban incomes driven by huge productivity gains from industrialization. Korea and Taipei did not follow this path. Why? Those governments put huge effort into rural development, focusing not only on using technology to boost land productivity, but also on making farm workers more efficient to release surplus rural labor to work at urban factories.

Additionally, these governments nurtured small-scale industries close to farming communities to create nonfarm earning opportunities. In the Republic of Korea, this took the form of the saemaul, or "new village" movement. Moreover, early in their growth cycles they used import controls to keep farm prices above world market levels. While this solution would not work today, it helped to raise farm incomes at the expense of urban consumers.

"The saemaul movement had an impact," says Donghyun Park, principal economist at the Asian Development Bank. "It allowed people in rural areas to do basic infrastructure improvements and help themselves. Many people still come to [the Republic of ] Korea to learn about this."

These achievements demonstrate the key role of government in setting goals and investing in transport, irrigation, and other infrastructure. They also show how small-scale industries can bring nonfarm employment to rural areas. Use of public funds to reduce regional spatial inequalities, as the PRC has done with its western region development strategy, can also yield dividends.

One corollary of success on the farm was extra manufacturing jobs at cities. In the Republic of Korea, further investments into industry fostered self-sustaining job creation. Rapid urbanization reduced the size of the rural sector, ensuring that regional wealth disparities did not become a major drag on the economy.

Problematically, the rapid urbanization seen in Korea and Taipei made possible by their early integration into the global manufacturing system cannot be replicated everywhere.

Large farm product exporters such as Thailand now face the challenge of ensuring healthy farm incomes without subsidizing prices. The PRC faces the same dilemma. Although farm exports are not significant for the economy overall, the nation's sheer size requires a high level of food self-sufficiency.

For these middle-income countries, raising farm labor productivity remains a difficult but key hurdle in the way of higher rural wages.

"There's a lot of scope for raising agricultural productivity in both [the People's Republic of] China and India," says Park. "It can be a relatively cost-effective way of improving rural incomes."

Investment in education and health is another key ingredient of inequality-light growth. After World War II, both Korea and Taipei had higher levels of basic education and sanitation than most of Asia. They built earnestly on those foundations, ensuring more years of secondary education rapidly per student, and universal access that underwrote a high degree of social mobility. In contrast, basic literacy issues have held back most of South Asia, while Southeast Asia presently grapples with the challenge of raising the standards of secondary and tertiary education. Improving gender equality in education and social policies is another key to reducing income inequality - by bringing more women into paid labor.

Education is also a key to a solid manufacturing base. Without it, urbanization becomes merely a transfer of people from low productivity farm jobs to low productivity jobs in the informal services sector.

Manufacturing industries must reflect the supply of labor. Inequality rises when capital is cheap, funneling investment toward capital rather than labor-intensive industries. The cost of capital was mostly high in the Republic of Korea early in its development. Egalitarian industrialization also demands that plentiful labor does not boost formal sector wages much higher than those in the informal sector, due to minimum wage laws.

Once labor is no longer abundant, union demands for higher wages, along with better political representation, tend to reinforce equality and growth. Rapid wage rises, like those in Korea since the early 1990s, add to growth by spurring consumer demand and forcing companies to improve productivity. The low wage route to industrialization is not appropriate once labor is no longer in surplus. Indeed, it stifles growth and increases income inequality as income accrues to capital owners at the expense of average households.

There are no easy answers to reducing inequality that comes with economic growth. But the fundamental lesson appears to be implementing the right policies early in the growth cycle.

(Philip Bowring is one of the founders of Asia Sentinel. This appeared originally in Development Asia, published by the Asian Development Bank.)

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