Introduction
Introduction
The elimination of absolute poverty in developing countries is a key policy goal for governments and international organizations, as it significantly impacts societal well-being A 2013 World Bank report indicates that poverty levels have been decreasing since the 1980s, highlighting progress in this critical area.
Despite notable advancements, extreme poverty persists in many developing regions, with nearly one billion individuals surviving on less than $1.25 daily and approximately 2.7 billion living on under $2.50 per day (World Development Indicators, 2013) The majority of poverty reduction has taken place in middle and high-income nations, while low-income developing countries have seen minimal progress.
China and India have made significant strides in reducing poverty, contrasting sharply with many low-income countries where poverty rates remain stagnant, nearly unchanged from three decades ago While the Millennium Development Goal (MDG) aimed to halve poverty levels by 2015 is within reach, numerous developing nations continue to grapple with substantial obstacles in their poverty alleviation efforts Additionally, critical issues such as high child and maternal mortality rates, gender inequality, and lack of access to education persist as major developmental challenges in these regions.
Economic growth is crucial for reducing absolute poverty, prompting many developing countries to implement structural adjustment reforms recommended by Bretton Woods institutions in the early 1980s Key policies included adopting flexible exchange rates and embracing international trade, which attracted foreign investment and spurred economic growth In the 1990s, the World Bank advocated for a broader strategy to lower poverty levels, emphasizing environmental sustainability, human capital investment, privatization of state-owned enterprises, and overall economic development.
In the early 2000s, a heightened focus on poverty reduction prompted a transformative approach to growth in developing nations Governments were urged to create their own development programs, leading to the establishment of Poverty Reduction Strategy Papers (PRSPs) as key tools in combating poverty These PRSPs outlined comprehensive policies and strategies that addressed both economic and social issues, while also considering external financial requirements Central to the PRSPs was a thorough analysis of poverty and actionable plans to tackle its challenges This framework became essential for development assistance and debt relief provided by the World Bank and the International Monetary Fund (IMF) through the Highly Indebted Poor Countries (HIPC) initiative, with the ultimate goal of helping countries achieve their Millennium Development Goals (MDGs).
In many developing countries, the lack of essential human needs like shelter, food, education, and healthcare significantly contributes to poverty (Cypher and Dietz, 2004) These fundamental needs are central to the Millennium Development Goals (MDGs) In the 1990s, the United Nations Development Programme (UNDP) shifted from income-based poverty assessments used by the World Bank to a more human-centered approach, resulting in the creation of Human Poverty Indices (HPIs) These indices focus on three critical forms of human deprivation, starting with the deprivation of life.
Newborn children are expected to have a longer life expectancy when essential human needs are prioritized in Poverty Reduction Strategy Papers (PRSPs) Multilateral and bilateral donors base their aid to developing countries on the performance indicators outlined in these PRSPs The UNDP Human Development Report 2013 highlights significant progress in reducing global human poverty, particularly in lower-income countries, contradicting earlier claims by the World Bank, which focused on income poverty measures Instead, human poverty measures emphasize overall human development Emerging economies like China, India, and Brazil have played a crucial role in decreasing global poverty levels through their robust economic growth, as noted by Ravallion and Chen (2007).
In recent years, many Asian countries have revitalized their economies through technological innovations, enhancing their production and export capabilities However, these advancements are overshadowed by mortality risks faced at birth, alongside challenges in basic education and economic provisioning, particularly affecting individuals without access to clean drinking water and underweight children.
Countries like China and India have shifted from agriculture-based economies to technologically advanced ones, leading to rapid growth that outpaces many developed nations In contrast, sub-Saharan Africa and Latin America primarily rely on natural resources and agricultural products for economic expansion The surge in commodity prices prior to the recent financial crisis significantly enhanced growth in sub-Saharan Africa, where exports of agricultural products, minerals, and oil accounted for approximately 70% of the region's export revenue, as reported by the Africa Development Bank (AFDB) and others.
In recent years, reforms and policies have enabled many developing countries, especially in Asia, to experience notable economic growth However, despite these advancements, a significant number of these nations have found that the benefits of this growth have not reached lower-income populations effectively.
Economic growth often leads to increased income inequality, which can hinder overall development This high level of inequality diminishes the advantages of economic progress for the poorer segments of society.
Widespread poverty and increasing income inequality pose significant challenges in the development process, making their reduction a primary goal of economic development policies A critical question is whether the impoverished truly benefit from economic growth and how income distribution influences efforts to combat poverty.
This thesis investigates the relationship between economic growth and poverty reduction across three major developing regions: South and East Asia, Latin America, and sub-Saharan Africa By providing a detailed empirical analysis, it contributes to the ongoing discussion about economic growth, income inequality, and poverty alleviation The research highlights how varying levels of economic growth have influenced poverty reduction in these regions and compares the effects of growth on income inequality in both developed and developing areas.
This thesis examines the key developing regions of South and East Asia, Latin America, and sub-Saharan Africa, while also incorporating developed countries from the OECD region The inclusion of OECD countries is significant as they have largely addressed fundamental human development challenges Understanding these critical human issues is essential, as economic dynamics can vary widely among countries and regions due to factors like the nature of economic growth, shared historical contexts, international trade, and regional integration.
In recent years, South and East Asia have emerged as leaders in economic growth, largely driven by the rapid development of giants like China and India, which have played crucial roles in reducing poverty The region has successfully transitioned from agrarian economies to ones with substantial industrial activity, thanks to technological advancements However, mass poverty persists In contrast, Latin America, characterized by shared institutions and languages due to its common heritage, achieved independence earlier than many Asian and sub-Saharan African nations While it experiences lower poverty levels, income inequality remains a significant issue Sub-Saharan Africa, lacking a unified colonial history, faces the highest concentration of poverty globally, with its economies primarily reliant on agriculture and exports of natural resources.
Economic Growth and Income Equality
Economic growth aims to foster development and reduce poverty, but the distribution of its benefits is crucial Field (1980) identified three growth types linked to income inequality The first, modern-sector enlargement growth, expands the industrialized sector, boosting absolute incomes and reducing poverty, especially as workers transition from low-income traditional sectors to higher-income modern sectors The second type, modern-sector enrichment growth, benefits only specific groups within the modern sector, leading to increased average incomes but worsening income inequality and stagnant poverty levels, often seen in Latin America and sub-Saharan Africa Finally, traditional sector enrichment growth focuses on raising incomes in the subsistent sector, achieving poverty reduction even at low income levels and promoting a more equitable income distribution.
The prospect for alleviating absolute poverty therefore depends on the rate of sustained economic growth and how its benefits are distributed in the society.
Research indicates that economic growth is a key driver in reducing poverty levels, with some studies suggesting that income inequality does not significantly impact this relationship (Dollar and Kraay, 2002) However, the importance of income distribution in the context of growth and poverty reduction should not be underestimated, as highlighted by Ravallion and Chen.
Research by Fosu (2008), Ali and Thorbecke (2000), and Easterly (2000) highlights the complex relationship between economic growth and poverty reduction, indicating that while economic growth can lower poverty levels, income inequality can hinder this progress This implies that countries may experience varying poverty levels despite similar economic growth rates Kuznets' inverted-U hypothesis (1955) supports this notion, suggesting that initial economic growth may exacerbate income inequality before eventually leading to its decline as development continues Early growth often benefits the modern sector, creating high wages but limited job opportunities for the poor, which can increase income inequality However, sustained economic growth fosters improvements in human capital and technology, leading to greater employment opportunities and a reduction in income inequality Ultimately, this pattern suggests that transitioning from agricultural to industrial economies can significantly enhance productivity and reduce poverty.
The Kuznets hypothesis suggests that while developing countries may initially experience rising income inequality during the early stages of economic growth, particularly under Field’s (1980) modern sector enlargement model, this inequality is expected to decrease as the modern sector expands and incorporates low-income individuals This implies that developing nations can potentially follow a development trajectory similar to that of developed countries to avoid the inverted 'U' pattern of income inequality.
Understanding income inequality among the poor is crucial for grasping the severity of absolute poverty and the effects of government policies on low-income groups Research by Ravallion (1995), Deininger and Squire (1998), and Schultz (1998) has explored the link between economic growth and income inequality, with most studies finding no significant correlation This thesis aims to re-examine the relationship between income inequality and economic growth using a consistent and efficient estimator, differing from those employed in previous research.
In recent years, income inequality has been on the rise in many countries, regardless of their economic growth status (World Development Indicators, 2007) According to Ravallion (2011), while China has experienced sustained economic development since its structural reforms, it has also seen a significant increase in income inequality Conversely, Brazil has managed to reduce income inequality, even with moderate economic growth.
In recent years, advanced economies have witnessed a significant increase in income inequality, with the United States exhibiting the highest levels of income disparity among high-income OECD countries (Smeeding, 2005).
Sustained high rates of economic growth have significantly contributed to poverty reduction in many countries in Southern and Eastern Asia However, rapid economic growth can sometimes disadvantage the poor, as it often favors a small group within the modern sector, leaving others behind Therefore, the nature of economic growth plays a crucial role in determining its effectiveness in alleviating poverty and reducing income inequality.
Thesis Contribution
This thesis contributes significantly to the understanding of the relationship between economic growth, income inequality, and poverty by offering a comprehensive regional comparative analysis across both developed and developing nations While previous studies, such as Fosu (2010), have examined specific regions like Eastern Europe and Central Asia, this research uniquely compares the dynamics of economic growth and poverty across three major developing regions and high-income OECD countries Despite the lack of available data on poverty lines in advanced nations, the inclusion of OECD countries allows for an insightful comparison regarding income inequality and human development, which reflects human poverty Previous findings by Smeeding (2005), Stevans and Sessions (2008), and various World Bank reports indicate that income inequality in advanced economies has risen, potentially hindering poverty reduction efforts for middle and lower-class families Additionally, the recent global economic downturn has adversely impacted growth across both developed and emerging economies, further complicating the poverty landscape.
This has impacted negatively on income levels and standards of living The thesis compares how the developed and developing worlds have transformed economic growth into improving standards of living
Research has predominantly focused on income-based poverty measures like the headcount ratio and the poverty gap index, often overlooking the significance of human development-based poverty metrics, which are essential for economic advancement This thesis incorporates Human Poverty Indices (HPIs) alongside traditional income measures to provide a more comprehensive understanding of poverty.
Income-based poverty measures place little emphases on human development.
The 2013 MDGs report highlights that while poverty has been halved, significant progress in human development remains elusive Health and education are essential components of human capital, making Health Poverty Indicators (HPIs) vital for poverty reduction and achieving the MDGs HPIs provide a comprehensive measure of socio-economic development, demonstrating that countries can attain notable advancements in poverty alleviation even with low income levels Conversely, nations that experience considerable income growth may still see minimal improvements in human development.
Third, this thesis contributes to the literature by employing an estimating technique that is more appropriate for the analysis than what is mostly used in the literature.
Many studies utilize OLS, fixed effects, or random effects estimation methods, as noted by Adam (2004), Fosu (2008), Easterly (2000), and Tridico (2010) However, these techniques often overlook the endogeneity issue prevalent in dynamic panel data analysis, where correlations between explanatory variables and the error term can skew results This thesis aims to explore the interplay between economic growth, poverty, and income inequality through a dynamic model that incorporates a dynamic panel data estimator Specifically, we apply the System Generalized Method of Moments (SYS-GMM), developed by Blundell and Bond (1998), to effectively tackle endogeneity, account for country-specific heterogeneity, and address potential serial correlation Additionally, we incorporate other crucial explanatory variables—often neglected in empirical studies—because economic policies impacting inflation, unemployment, foreign aid, and education significantly influence income distribution and poverty levels.
Thesis Organisation
The thesis is structured into several key chapters: Chapter Two reviews empirical literature on economic growth, income inequality, and poverty; Chapter Three analyzes trends in these areas across selected regions; Chapter Four details the methodology and model specifications, addressing econometric challenges; Chapter Five presents model estimations and discusses the empirical findings; finally, Chapter Six summarizes the thesis and offers policy recommendations.
Literature
A Brief Review of the Literature
This chapter examines the empirical relationship between economic growth, income inequality, and poverty, highlighting the consensus that economic growth is crucial for reducing absolute poverty and addressing income inequality A key concept in this discussion is the Kuznets inverted 'U' hypothesis, proposed by Kuznets in 1955, which posits that income inequality initially worsens during the early stages of economic growth but improves over time as development progresses This suggests that while developing countries may face increased income inequality at the outset, they are likely to achieve a more equitable income distribution as they advance economically.
The inverted ‘U’ hypothesis has spurred numerous studies on the link between economic growth and income inequality Khasru and Jalil (2004) examined the Kuznets hypothesis through an empirical analysis of data from 24 countries, employing a fixed effect estimation technique for their panel data model Their findings revealed an un-inverted ‘U’ pattern overall, indicating that while the latter part of the hypothesis holds true for many nations, it does not apply to developing countries such as Ecuador, Cyprus, Egypt, Turkey, and Chile, nor to newly industrialized nations like Singapore.
While the impact of economic growth on poverty reduction is widely recognized, its effect on income inequality remains debated Research by Psacharopoulos et al (1995) in Latin American countries indicates a negative correlation between economic growth and income inequality Conversely, other studies, including those by Ravallion and Chen, present differing perspectives on this relationship.
In 1997, research indicated that rising aggregate incomes did not significantly reduce income inequality in developing countries It's important to note that the studies employed scatter points to analyze the correlation between economic growth and income inequality Further investigations by Deininger and Squire (1998) and Schultz (1998) also revealed no significant relationship between economic growth and income inequality.
The relationship between economic growth and poverty has gained significant attention, particularly regarding the impact of income inequality on this dynamic A study by Tridico (2010) examined how economic growth influences poverty and income inequality across 50 emerging and transitional economies (ETEs), highlighting the crucial role that income distribution plays in fostering economic development.
Between 1995 and 2006, economic development was defined as a comprehensive process encompassing economic growth, institutional changes, and human development The findings indicated that economic growth did not lead to a reduction in poverty levels.
Despite an estimated average growth of 4.7 percent among these countries, the lack of accompanying developmental factors has resulted in minimal impact on poverty levels.
He also investigated the impact of economic growth on income inequality and found that economic growth worsened income inequality during the period.
He suggests that high income inequality may stem from inadequate education and reduced public spending He concludes that unless educational standards are enhanced and governments foster strong institutions and human development strategies, income inequality is likely to rise alongside economic growth.
Adam (2004) analyzed data from 60 developing countries to explore the link between economic growth and poverty reduction He concluded that while economic growth contributes to decreasing poverty levels, the extent of this impact varies based on the definition of economic growth used Adam identified two measures: survey mean income and changes in GDP per capita His findings indicated that economic growth consistently leads to poverty alleviation, with a more significant reduction observed when mean income is employed as the measure compared to GDP per capita.
Regional Studies
Regional analyses have explored the connection between economic growth and poverty, with Fanta and Upadhyay (2009) examining data from 16 African countries to assess how economic growth impacts poverty levels.
Economic growth is essential for reducing poverty levels in Africa, but its impact varies across different countries Research indicates that economic growth generally leads to a decrease in poverty By achieving higher levels of economic development, nations can enhance their citizens' standard of living Consequently, it is recommended that policies focus on promoting economic development while also addressing income inequality throughout the continent.
Stevans and Sessions (2008) analyzed the relationship between economic growth and poverty levels in the United States from 1959 to 1999 using an error-correction model Their findings indicated that economic growth is significantly linked to poverty reduction across all families in the U.S., with the most substantial effects observed during the economic expansions of the 1960s through the 1990s During these periods of high and sustained growth, employment opportunities increased, particularly benefiting poorer workers compared to times of economic downturn.
Sadoulet and Janvry (2000) investigated the relationship between economic growth, income inequality, and poverty in Latin America, revealing that the region exhibits significantly higher income inequality compared to other areas with similar per-capita income levels Their study, covering the years 1970 to 1994, highlighted that economic growth effectively reduces poverty when income inequality is low, indicating a high cost associated with income inequality They emphasized the necessity for government policies to address this issue, as relying solely on economic growth is insufficient for improving income distribution To achieve a meaningful reduction in absolute poverty, they recommended that countries should maintain low levels of income inequality and invest in higher education.
Lee and Perera (2013) explored the impact of economic growth and institutional qualities on poverty reduction in Asia between 1985 and 2009 They emphasized that persistent poverty in developing countries is influenced by multiple factors beyond just economic growth, such as government stability, rule of law, corruption, and democratic accountability Their findings indicate that economic growth played a significant role in lowering poverty levels in South and East Asia.
Economic growth can lead to a higher reduction in poverty levels without altering income distribution Research indicates a negative correlation between government stability, rule of law, and poverty, suggesting that improvements in institutional quality contribute to lower poverty rates over time Interestingly, reductions in corruption and enhancements in democratic accountability and bureaucracy have not significantly impacted poverty or income inequality While moderate corruption may not initially hinder economic growth, it ultimately poses risks to development and exacerbates poverty Consequently, Asian governments should implement policies aimed at reducing corruption and fostering strong institutions.
Comparative Global Studies
Notwith standing these studies, there is not much global comparative evidence on the relationship between economic growth, income inequality and poverty levels.
One of the few studies is Fosu (2010) who provided global evidence on how economic growth translated into poverty reduction among developing countries.
The study analyzed the effects of economic growth on poverty levels across various regions, including Eastern Europe and Central Asia (EECA), South Asia (SAS), sub-Saharan Africa (SSA), Latin America (LAC), and the Middle East and North Africa (MENA), covering the period from 1981 onwards.
Between 2005 and 2005, poverty levels decreased across all regions, except for Eastern Europe and Central Asia (EECA), for both the $1.25 and $2 a day poverty lines Notably, all regions, except for the Middle East and North Africa (MENA), experienced greater declines in poverty from the mid-1990s to 2005 The significant economic growth since the early 1990s can be attributed to structural reforms implemented by many developing countries since the early 1980s While growth plays a crucial role in reducing poverty, income inequality significantly influences poverty patterns Economic growth can effectively lower poverty levels when accompanied by favorable income distribution Therefore, it is essential to focus on reducing income inequality, especially in nations with adverse income distribution.
In summary, numerous studies in economic development indicate that economic growth typically leads to a decrease in poverty levels However, the connection between income inequality and economic growth remains unclear.
Research indicates that there is generally no significant correlation between income inequality and economic growth This thesis explores the connections between economic growth, poverty alleviation, and income inequality by employing a novel approach, as outlined in the previous chapter.
Research
Regional Trends in Economic Growth, Income Inequality and Poverty
This chapter examines economic growth, income inequality, and poverty levels across selected regions, including sub-Saharan Africa, South and East Asia, and Latin America, alongside the OECD region It compares the impact of economic development on poverty and inequality from 1985 to 2010, divided into two key sub-periods The first sub-period (1985-1995) focuses on structural reforms aimed at boosting economic growth and reducing poverty and inequality The second sub-period (1996-2010) highlights the effects of the information technology boom, the implementation of Poverty Reduction Strategy Papers (PRSPs), and debt relief initiatives for low-income developing countries.
Economic Growth
Generally, GDP growth has been volatile over the years for all of the regions.
After the 1982-83 recession, many countries, particularly in South East Asia, experienced significant economic growth throughout the mid-1980s, largely driven by structural adjustment programs from Bretton Woods institutions These programs encouraged developing nations to embrace international trade, ease foreign exchange restrictions, and invest in human capital By the mid-1990s, all regions, especially South and East Asia, saw increased GDP growth, fueled in part by the information technology boom Countries like Thailand, Singapore, and Hong Kong reaped substantial benefits from this economic expansion, a trend that persisted until the late 1990s when most Asian economies faced a financial crisis.
The adoption of Poverty Reduction Strategy Papers (PRSPs) in the early 2000s significantly boosted economic growth across the developing world GDP growth increased steadily from the early to mid-2000s in all developing regions, with notable similarities in trends between Sub-Saharan Africa and Latin America, especially as natural resource and commodity prices surged during this period.
Between 2007 and 2009, the world faced a significant decline in GDP growth due to the financial crisis and the Great Trade Collapse, triggered by speculative attacks on mortgage-backed securities In the United States, falling asset prices led banks to become hesitant in issuing loans, prompting households to cut back on consumption, especially of durable goods, resulting in a substantial decrease in output Despite the Federal Reserve's efforts to lower interest rates and implement policies to counter the economic downturn, GDP growth fell across all regions globally.
Countries that excelled under the Poverty Reduction Strategy Papers (PRSPs) received significant aid incentives and substantial debt relief through the Heavily Indebted Poor Countries (HIPC) initiative, allowing them to redirect funds from external debt payments to productive economic sectors While these policies fostered economic growth and development in the region, poverty levels in Sub-Saharan Africa worsened from 1995 to 2010 Additionally, the economic growth seen in Latin America and Sub-Saharan Africa during this period was partly driven by robust export growth and rising commodity prices, especially for oil and minerals, prior to the recent financial crisis In contrast, developed countries, particularly the United States, faced their lowest average economic growth since the Great Depression between 2007 and 2009.
Significant regional disparities exist in how poverty responds to economic growth in the developing world, particularly in sub-Saharan Africa, where factors such as increasing income inequality and weak institutions hinder poverty reduction Fosu (2010) identifies two reasons for persistently high poverty levels in this region: economic growth may not accurately reflect actual increases in household incomes, and income inequality may have risen over time In contrast, South and East Asia have seen economic growth translate into improved income levels for the poor, as evidenced by the poverty gap index Most of these gains are attributed to China and India (World Bank, 2013), indicating that further efforts are needed to address poverty in lower-income countries within South and Eastern Asia.
These developments are quite interesting because during the late-1980s to the early
In the 1990s, income poverty levels in Sub-Saharan Africa and South and East Asia were comparable, but over time, South and East Asia has seen a significant decline in poverty, while Sub-Saharan Africa continues to struggle with high poverty rates Analyzing the economic growth patterns and the reforms implemented reveals that the technology-driven growth in South and East Asia has positively influenced the incomes and living conditions of the poor, unlike the resource-dependent growth in Sub-Saharan Africa This raises concerns about the effectiveness of popular economic reforms and policies, such as the Poverty Reduction Strategy Papers (PRSPs) and the Millennium Development Goals (MDGs), in improving the incomes of the impoverished in Sub-Saharan Africa.
Moreover does the Latin American region have lower poverty levels than the SSA because the region is relatively more industrialised?
Summary and Conclusion
Policy Implications and Recommendations
Empirical analysis indicates that economic growth has significantly reduced poverty levels in the developing world, evidenced by declining human and income poverty rates However, addressing poverty requires more than just increasing the incomes of the poor; improving life expectancies and economic provisioning are also crucial While many Sub-Saharan African countries have made strides in this area, factors like macroeconomic stability, government program financing, and effective foreign aid play vital roles in poverty alleviation Therefore, governments should prioritize not only economic growth but also the promotion of macroeconomic stability and the effective allocation of development assistance Effective use of foreign aid is essential, as misappropriation can exacerbate poverty; thus, reducing bureaucracies and combating corruption are necessary steps Multilateral institutions and bilateral donors should target aid to countries that optimize its benefits for the poor, particularly in enhancing healthcare and economic resources, ultimately leading to reduced poverty and income inequality while fostering economic development.
Many developing countries, especially in Sub-Saharan Africa, face significant challenges in eradicating absolute poverty due to poor government policies, political and ethnic violence, widespread corruption, and a lack of political will.
To achieve meaningful economic growth that enhances people's lives, governments must focus on stabilizing the macroeconomic environment, as this stability is crucial for sustained development Ensuring a peaceful political atmosphere, free from violence and unrest—especially in regions like Africa and parts of South and East Asia—is vital, as it allows resources to be allocated to essential development sectors, including health and economic provisioning, which are key to eradicating human poverty Furthermore, multilateral institutions and development partners should collaborate with governments in developing nations to reassess and update existing development targets, particularly in light of the Millennium Development Goals (MDGs) With the aim of halving extreme poverty by 2015 nearing completion, it is imperative to establish new targets that address current challenges, while also prioritizing goals that focus on eliminating poverty and fostering human development.
While economic growth has led to decreased poverty and enhanced living standards in developing nations, income inequality remains a significant barrier to this progress, especially in emerging and advanced economies To effectively address poverty, it is crucial for countries to tackle the rising issue of income inequality We advocate for governments to implement policies focused on wealth redistribution that benefit low-income and middle-class families.
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