Abstract
The
aim of this essay is to analyse the links between openness to trade
and the poverty level in developing countries. In particular, this
survey takes into account liberalisation as the key role to produce
two benefits: economic growth and poverty alleviation. However,
market liberalisation (thanks to the invisible hand) not always
pushes the economic system to way out of the vicious circle of
poverty. There are evidence in which public policies led to a worst
situation than the existing state before their applying. As a matter
of fact, public policies depend on both the scenario in which they
are implemented and on others inner mechanisms which rule the market
(such as, welfare policies, monetary policies, inflation, price
levels, democracy index). The main finding is that not all scholars
agree that both poverty alleviation and openness to trade are related
by the theme of growth. Specifically, empirical evidence is often
incomplete because of deficiency in variables considered in
econometric models as well as Gross Domestic Product is not an
appropriate index to measure poverty. The conclusion is that the
discussion on this topic is widely open and far from a final
solution.
Keywords:
Developing
Countries, Economic Development, Economic Growth, International
Trade.
JEL
Classification:
F43,
F63, I30, O10, O40.
Table of
contents
1.
Introduction
– 2.
Trade
and poverty: is there a way out?
– 3.
Trade
and poverty: are they really connected?
– 4.
How
openness to trade impacts on poverty? From the economic theories to
the empirical evidence
– 5.
Conclusions
– 6.
References.
4.
How
openness to trade impacts on poverty? From the economic theories to
the empirical evidence
According
to economic theories, when a country decides to way out from a
self-sufficient regime, by opening up to international trade,
generally improves its welfare. Empirical
studies (DOLLAR and KRAAY, 2001) showed that no autarkic government
performed high rates of growth. For instance, KANAAN (2000),
reporting evidences from Tanzania's experience, proved that when this
country decided to pass from an open economy to an autarkic regime it
reduced its trade by 50%,
collecting a series of negative performances (lack
of raw materials,
collapse
in imports and exports,
fall
in fiscal revenue)
and a significant decline in welfare (high
levels of inflation,
lack
of goods and services,
unemployment). Furthermore,
DOLLAR and KRAAY (2001) explained that if a developing country is
more open to trade, it may manage a faster growth. For instance,
China and India grew a lot after their openness to international
trade, contributing to relieve significantly their poverty level,
thanks also to income redistribution generated by the growth. In
contrast, those developing countries which did not take part in
globalisation fell down their GDP, worsening poverty rate. Today,
most economists agree with the theoretical argumentations and, over
the years, they have attempted to confirm the connections between
openness to trade and poverty alleviation by several empirical
results. However, it also exists a wide literature which not always
provided a convincing “scientific”
support to the assumptions made by economic theories. Multiple
studies confirmed the hypothesis that trade liberalisation and
poverty reduction are not directly linked, but an important tool of
connection between the two phenomena is represented by economic
growth. In fact, trade liberalization helps growth and, in turns,
growth leads to poverty reduction. So,
how may we justify this statement? To
bypass the existing difficulties about measurement of the
aforementioned phenomena, WINTERS et
al.
(2004) investigated the channels that can affect the phenomena,
attempting to find one or more links between trade liberalization and
poverty reduction in developing countries, in order to allow
governments to focus on policies targeted to improve welfare. As
we saw in the previous paragraph, the authors identified four
channels by which trade and poverty may be connected (1). Firstly, from the
macroeconomic point of view, different opinions agree that
international trade may contribute to growth. But, can the latter set
upon the poverty, alleviating it? This matter is still an open
question. WINTERS
et
al.
(2004) sought to investigate how to relate the former with poverty
alleviation, by analysing macroeconomic aspects tied to economic
growth and then how to put them in practice, by trade or other kinds
of policies, to reduce poverty. Specifically, by openness to trade,
consequences involve, generally, investments, productivity,
production, income and consumption in addition to imports and
exports. The authors stated that trade-growth connection is a closely
empiric question, listing a wide literature to support this thought. I
disagree with this opinion because not always “scientific”
evidence may clearly explain the reality, which depends on multiple
variables (endogenous and exogenous) and the effects on developing
countries may be different, and depending, for instance, on their
geographical positions, government regimes, infrastructures and
communication systems. Moreover, are we
really sure that growth can alleviate poverty or have the authors
intentionally considered evidence in favour of their aim? Often, the value of
GDP is used as the sole index to evaluate the size of economic
growth. So, when GDP increases then GDP per capita may increase as
well. But, how much this increase may affect poverty alleviation? In addition, can we
support the idea that increase in GDP per capita means that people,
and especially poor, have an higher income than before? The matter is widely
controversial. Indeed, an higher
GPD means that one country is richer than before, but does not
correspond to the extent that each person who lives in that country
has a better income. That is not true for different reason. By way of
non-exhaustive example:
openness to trade
may have both positive and negative effects on poor. Obviously, it
depends on poor and on their capabilities to exploit new
opportunities offered by international trade. And, though it is
generally true that trade liberalization improve welfare, every
change produces winners and losers;
fiscal policies
and, as a rule, all social policies may have a huge impact on income
redistribution. So if the extra income produced by trade is equally
redistributed, one may confirm that openness to trade relieves
poverty. If not, one cannot state it, because if GDP per capita
rises do not means uniquely that poor have a better income.
DOLLAR and KRAAY
(2001) found that not all developing countries who opened up their
markets to international trade enhanced the income of poor. In a
first group of them (China, India, Malaysia, Thailand and Vietnam)
both GDP per capita and income of poor rose, whereas in another one
(Brazil, Mexico and the Ivory Coast) the former increased, while the
latter declined. But, even in this case, the results were not so
robust because, for instance, for the first group, the reasons might
consist in the similar geographical area and so in their abilities of
exploiting the proximity cooperation, easing, in turns, their
integration in the world economy. The
authors discovered that the differences in the income of poor between
these two groups were due to the magnitude of growth. Hence, they
concluded that a strong growth may cause a reducing poverty, while a
weaker growth might produce the opposite effect. So, it is not so
clear how international trade may affect the intensity of growth. To
measure the degree of openness to trade, the authors compared two
countries in the same geographical area and they found that it may
depend on several factors such as fiscal
policies,
stabilisation,
property
rights
and exchange
rates. Secondly, the
scholars considered households and markets. The former is an
important keystone, especially in the developing world, from both the
economic and social point of views. Indeed, poverty alleviation means
essentially reducing poverty state of persons. And persons, single or
in group, set up families. The latter is important as well, because
markets mean new opportunities and, therefore, employment and
salaries for workers. And this may improve welfare. Both households
and markets are closely connected by price levels. As openness to
trade may influence price variability, it may have, in turns, a
negative impact either on markets (e.g., destroying it due to
competition) or households (e.g., reducing their real wealth). Price
levels is also a macroeconomic issue because linked to interest
rates, which may affect investment, production and growth. POLLIN and
ZHU (2005) showed that a low inflation rate is a policy as an end in
itself, because policy makers are more interested in promoting growth
and employment. The survey argued that there are no proofs that an
high inflation do not support economic growth. Even within low income
countries high growth levels can be compatible with a high inflation,
especially if price fluctuation depends on “investment
demand pressures in an expanding economy”
(BRUNO, 1995). Hence, if prices
fluctuate there might be a double final effect for poor:
on one hand, by
price changes, which impact on real income;
on the other hand,
by growth rates, which may affect earned income.
By
the way, that is a huge problem for the stability of a country and
not only for poor, even if inflation rate tends to impinge more on
poor than rich. As a matter of fact, stability is one of the most
important target to reach during economic growth to prevent that
price fluctuation nullify all benefits produced by an improvement in
the income of poor. If not, instability takes the risk to create more
“victims”
among poor, mainly in the short run, when shocks due to growth create
winners and losers among population. Empirical evidences (DOLLAR and
KRAAY, 2001) observed that one of the positive effect by integration
process of domestic economy in the world trade consists in declining
the average inflation rate, while other authors (CHOWDHURY
and MALLIK, 2001), examining four South Asian countries (Bangladesh,
India, Pakistan and Sri Lanka), proved that there is a positive
relationship between inflation and growth. Hence, why stability
is so important for growth? Economic growth, in
an extreme meaning, may be considered as a shock for the economy
within developing countries, and therefore a factor of instability.
Indeed, when one refers to a shock, the literature tends to associate
it with a negative event. But economic growth is not a negative
occurrence. Growth need to be combined by appropriate policies,
otherwise it may be cause adverse effects. In other words, by way of
non-exhaustive example, it may be promoting by:
reducing inflation
rate, in order to avoid of impinging on poor;
social policies, in
order to support poor who did not exploit the new opportunities due
to economic development (e.g., unemployment insurance);
exchange rate
stability, in order to allow positive investment flows;
political
stability, in order to attract
investment, both internally and from outside.
Thirdly,
the academics took into account wages and employment. One might
criticise this terminological setting, because it should be better
talking about employment and then wages and not vice versa. Indeed,
to evaluate the impact on poverty by trade, income seems to be is one
of the most important variable used to determine poverty level. But
it is not so. In a open-to-trade country, wages are not assessed
internally, but they are an exogenous variable calculated outside the
domestic borders. So, it will be the next adjustment process which
will determine employment level. So, if the matter is pushing
developing countries out of poverty, a simple finding might be fixing
wage levels over the “poverty
line”,
but this solution does not mean that welfare improves. In addition,
in developing countries the issue seems to concern only unskilled
workers. So if policies want to relieve poverty, it might be
sufficient increasing wage levels for unskilled labour force. According
to both HECKSCHER-OHLIN’s theory and STOPLER-SAMUELSON’s theorem,
trade liberalization should help poor countries to reduce poverty due
to comparative advantages, by exporting labour intensive goods. This
because least developing countries have an abundant endowment of
unskilled workers and their economic systems are mainly agricultural.
So, if the price of labour-intensive goods increases, both the
production and real wage will rise as well. These economic theories
are important because some scholars (KRUEGER, 1983) considered the
matter of poverty strictly connected with the real wages of unskilled
workers. In contrast, other authors (FEENSTRA and HANSON, 1995)
argued that also the real wages of skilled workers rose relatively to
those of unskilled ones. But in this case, the most interesting
finding is not the increase in relative real wages for skilled
workers, but that also the real wages for unskilled workers rose. Last
but not least, the scholars examined trade liberalisation from the
“political”
point of view. In other words, they studied the effects on public
revenues and expenditures by openness to trade and their impact on
poverty. Generally speaking, the main result seems to consist in
reducing revenues, but neither theories nor evidences supported this
idea. Reducing in tariffs may affect negatively poverty because of
revenues decline. But, in contrast, trade liberalization increases
the size of the pie and by extending the tax base it may have a
positive effect on public resources (with different taxes from
tariffs, such as Value
Added
Tax)
and, consequently, on poverty. The latter effect is only political,
because it depends on government policies and, especially, on those
targeted to support the income of poor (e.g., complementary policies
to aid poor that are affected negatively by openness to trade).
Footnotes
(5) In a previous paper, WINTERS (2000) identified six
trade-poverty links:
1) price changes;
2) factor markets;
3) changes in government revenue and
expenditure; 4) changes
in risk and vulnerability; 5) effects
on economic growth; 6) adjustment
strains.
(to be continued)
Author: Emanuele COSTA
Published by: Working Paper
