We live in an era of unparalleled affluence. More people enjoy better lives than at any time in human history. High priests of economic orthodoxy credit the diffusion of market capitalism for this bounty. Poverty persists, but the conventional wisdom is that time and the right policies will spread the wealth. And the right policies, assert the experts, are macroeconomic stability, market liberalization, privatization plus the use of market solutions to provide public goods, and the reduction of barriers to trade, investment and portfolio flows.
That policy mix goes by the name of the “Washington consensus,” since it is championed by the U.S. government (and several latecomers) and the international financial institutions headquartered in that city. It has guided public policy for most of the postwar era, with remarkable results. It created affluence throughout the industrialized world, quite a feat given the devastation that many of those nations faced at the end of World War II.
In the aftermath of the Asian financial crisis, there have been growing complaints about the viability of that policy framework. Most focus on the “one-size-fits-all” prescription that ignores the particular history and economic circumstances of a given country.
A second, more recent, complaint is that the Washington consensus is concerned only with the big picture, allowing governments to gloss over inequalities and to work instead on generating wealth. That, the argument goes, is permissible for two reasons: first, because there is only a weak link between inequality and growth, and second, because of the belief that “a rising tide will lift all boats.”
Unfortunately, there is a slight problem: Inequality is actually on the rise. It’s true that until 1960, the benefits of wealth were widely shared. But since 1960, that is no longer the case. Last year, the U.N. Human Development Report noted that “the income gap between the richest fifth of the world’s people and the poorest fifth, measured by average national income per head, increased from 30 to one in 1960 to 74 to one in 1997.” The result is a world of grotesque disparities. The richest nations of the world have 20 percent of the population, 86 percent of GDP, 82 percent of world exports, 68 percent of foreign direct investment. The poorest 20 percent have 1 percent of each.
Moreover, the gaps are widening within countries, as well as between them. “Trickledown is not automatic,” explained Giovanni Andrea Cornia, director of the United Nations University World Institute for Development Economics, in a recent interview. “There has been a limited ability to reduce poverty despite the presence of good growth.”
Working with the U.N. Development Program, WIDER has built the world’s largest database on income inequality. The picture that it paints is not a pretty one: There is rising inequality in 45 out of 77 countries, and in another four, inequality stopped declining over the long term.
If those results are weighted by population size and GDP-PPP, or gross domestic product-purchasing power parity, inequality rose or stopped declining in nations accounting for 79 percent of the population and 77 percent of the GDP-PPP of the sample countries.
There is a third objection to the Washington consensus: Not only is it indifferent to the effects of inequality, but the policies it recommends actually increase disparities. Cornia argues that the programs the IMF insists upon have a disproportionate effect on the poor. “Excessive deflationary programs, and the associated public expenditure cuts, have in many cases reduced human capital investment, with the poor least able to cope,” he said. “Stabilization programs that focus on rapid demand compression generally exacerbate poverty.”
Trade liberalization similarly affects the disadvantaged. Contrary to popular opinion, capital doesn’t flow to the cheapest places — if it did, Africa would be booming. Instead, technology goes to the groups that can use it most efficiently. This, says Cornia, “raises the returns to skilled labor and reduces the demand for locally abundant unskilled (if literate) labor. Indeed, recent trade liberalization in Latin America has been associated with increased wage inequality.”
Financial deregulation has created a new class of rentiers who have access to funds and shifted income to bondholders. Privatization has usually benefited the wealthy — as in Russia — since they are the only people with the funds to buy formerly state-owned assets.
Finally, Cornia points out, the Washington consensus begins with the assumption that income redistribution by the state is not a legitimate government function. Instead, a government should level the playing field and then lift its hand from the economy. That might make sense in a developed country with a thriving civil society, but it’s a recipe for disaster in countries without institutional checks and balances to prevent unscrupulous, well-connected individuals from exploiting the system.
Growing poverty and hunger amid unprecedented prosperity offends the conscience. But there is far more at stake than sleepless nights for liberals. Even hardened souls have good reason for concern. Citing the WIDER research, U.N. Secretary General Kofi Annan last year said that “countries that are afflicted by war typically also suffer from inequality among domestic social groups. It is this, rather than poverty, that seems to be the critical factor. The inequality may be based on ethnicity, religion, national identity or economic class, but it tends to be reflected in unequal access to political power that too often forecloses paths of peaceful change.”
Cornia explained how inequality produces unrest. “A lack of balance creates ‘slumization’ in big cities as people go to where they can find work. That creates all the problems associated with large urban concentrations. Among other things, it increases inefficiency.”
That is economist-speak for boatloads of immigrants being smuggled into the U.S. in the quest for work. It’s shorthand for the money that quest puts in the pockets of organized crime groups, the way it increases corruption and forces governments to spend money to counter it. After all, money spent trying to isolate the poor is not being spent on other, more productive purposes.
Politicians are waking up to the threat posed by rising inequality. The topic dominated discussions at the recent meeting of the World Economic forum in Davos, whose agenda is the best indicator of the prevailing Zeitgeist. But the WIDER research suggests that renewed attention to this age-old problem is not enough. Rather, we have to rethink fundamental assumptions that have guided policy over the last few decades. That is going to be very difficult, especially since the people making those decisions have done very well indeed by the Washington consensus.
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