The paper reviews the extent of the income inequality decline that took place in Latin America in 2002-10 and then focuses on the factors that may explain such decline. These include a lowered skill premium following an expansion of secondary education among the poor, and the adoption of more equalising tax, labour market subsidies and macro policies by a growing number of progressive governments. The hypotheses discussed were tested on the basis of the Income Distribution in Latin America (IDLA) dataset that includes data for 18 countries for the years 1990-2009.
Finally, the paper reviews the changes in inequality during 2009-12 and discusses whether and how the recent decline can be sustained over the next decade in the context of sluggish world growth. The paper concludes that ‘social democratic reforms’ could go a long way in further reducing income inequality. However, structural reforms will be required—in both the poor and rich parts of the region—to deal with the deep-seated structural inequality that has affected the region since the beginning of the last century.
Key Findings:
- In economies where agriculture is still an important source of employment, there is a need to support smallholders’ competitiveness by increasing their access to land (still a major problem in most of Central America, a few Andean countries, Paraguay and parts of Brazil), investing in rural infrastructure, reducing the urban bias of public policy, and adopting an exchange rate that favours the traded sector.
- A second structural problem that needs fixing is the segmentation of the labour market and persistent spread of informal employment. In fact, wage inequality and the urban-rural income gap reflect to a large extent the gap between formal and informal wages. Informality also feeds inequality by narrowing the scope of contributory social protection and exacerbating the need for social assistance transfers. While the expansion of the formal sector depends on broader issues of capital accumulation, labour productivity and modernisation of production, the problems could in part be tackled immediately as several informal workers are currently employed in formal sector firms.
- A third structural problem affecting long-term growth and inequality concerns the pattern of economic integration in the world economy, and the implicit structure of production in the region. As argued by Ocampo (2012), trade liberalisation during the last quarter century has led to rapid export growth but only to a moderate growth in GDP and labour productivity, persistent vulnerability to external shocks, a ‘re-primarisation’ of exports and the risk of de- industrialisation. A continuation of this pattern of trade integration and production is thus unlikely to help reduce inequality because of its modest growth impact and because it shifts resources to the capital-intensive primary commodity and non-traded service sectors. This problem could be approached by adopting an ‘open economy industrial policy’ that supports the development of labour-intensive manufacturing and service sectors by means of active production measures, technological upgrading, entry into new sectors, a strengthened regional integration, and a rebalancing of the asymmetries that characterise Latin America’s trade with China.
- Finally, if unaddressed, other structural biases of the Latin American economy––low savings, dependence on foreign capital, and continued pressures towards sudden real appreciation during bonanzas or sudden real depreciation in periods of crisis—may well block future inequality gains by retarding the shift to a long-term sustainable, equitable and structurally different growth path.
