Billed as the great equalizer between the
rich and the poor, globalization has been anything
but. An increasingly integrated global economy is
facing the strains of widening income disparities
- within countries and across countries. This has
given rise to a new and rapidly expanding
underclass that is redefining the political
landscape. The growing risks of protectionism are
an outgrowth of this ominous trend.
It
wasn't supposed to be this way. Globalization has
long been portrayed as the rising tide that lifts
all boats. The surprise is in the tide - a rapid
surge of information-technology-enabled
connectivity that has pushed the global labor
arbitrage quickly up
the
value chain. Only the elite at the upper end of
the occupational hierarchy have been spared the
pressures of an increasingly brutal wage
compression. The rich are, indeed, getting richer
but the rest of the workforce is not. This spells
mounting disparities in the distribution of income
- for developed and developing countries, alike.
The United States and China exemplify the
full range of pressures bearing down on the income
distribution. With per capita incomes of US$38,000
and $1,700, respectively, the US and China are at
opposite ends of the global income spectrum. Yet
both countries have extreme disparities in the
internal mix of their respective income
distributions.
This can be seen in their
so-called Gini coefficients - a statistical
measure of the dispersion of income shares within
a country. A Gini index (the Gini coefficient
multiplied by 100) of zero represents perfect
equality, with each segment of the income
distribution accounting for a proportionate share
of total income. Conversely, a reading of 100
represents perfect inequality, with the bulk of a
nation's overall personal income being
concentrated at the upper end of the distribution
spectrum. In other words, the higher the Gini
index, the more unequal the income distribution.
The latest Gini index readings for the US (41) and
China (45) are among the highest of all the major
economies in the world - pointing to a much
greater incidence of inequality than in economies
with more homogeneous distributions of income,
such as Japan (25), Europe (32), and even India
(33).
While the US and China suffer from
similar degrees of income inequality, they have
arrived at this point through very different
means. In the case of the United States, there is
nothing new about elevated readings of income
inequality. America's Gini coefficient has been on
the rise for more than 35 years - moving up from
about 35 in 1970 to more than 40 today. What is
new is how America's income distribution has
become more unequal in a period of rapidly rising
productivity growth - a development that has been
accompanied by an extraordinary bout of real-wage
stagnation over the past four years.
Economics teaches us that in truly
competitive labor markets such as America's,
workers are paid in accordance with their marginal
productivity contribution. Yet that has not been
the case for quite some time in the US. Over the
past 16 quarters, productivity in the non-farm US
business sector has recorded a cumulative increase
of 13.3% (or 3.3% per annum) - more than double
the 5.9% rise in real compensation per hour
(stagnant wages plus rising fringe benefits) over
the same period.
It is probably no
coincidence that the relationship between
productivity growth and worker compensation has
broken down as the forces of globalization have
intensified. First in manufacturing, now in
services, the global labor arbitrage phenomenon
has been unrelenting in pushing US pay rates down
to international norms. But the real-wage
compression in the US has not been uniform across
the income spectrum. In large part, that has
occurred because increasingly broad segments of
the US labor market are now exposed to a uniquely
powerful competitive force - IT-enabled arbitrage.
Courtesy of the hyperspeed of sharply
accelerating Internet penetration, the global
labor arbitrage has pushed into areas that
historically have been unaccustomed to wage
competition. In earlier research I found that the
disconnect between compensation and productivity
growth during the current economic expansion has
been much greater in services than in
manufacturing. This once non-tradable segment of
the US economy is now feeling the increasingly
powerful forces of the global labor arbitrage for
the first time.
The Internet has forever
changed the competitive climate for most
white-collar knowledge workers. Courtesy of
near-ubiquitous connectivity, the output of the
knowledge worker can now be e-mailed to a computer
desktop from anywhere in the world. That brings
low-cost, well-trained, highly educated workers in
Bangalore, Shanghai, and Eastern and Central
Europe into the global knowledge-worker pool.
That's now true of software programmers, engineers
and designers, as well as a broad array of
professionals toiling in legal, accounting,
medical, actuarial, consulting and
financial-analyst positions.
Within this
global pool of like-quality workers, a powerful
arbitrage acts to narrow wage disparities. As a
result, real-wage compression in open economies
such as the United States has moved rapidly up the
value chain - sparing an increasingly small
portion of those at the very top of the
occupational hierarchy. In short, the IT-enabled
global labor arbitrage is a guaranteed recipe for
mounting income inequality. In the US,
Washington's penchant for cutting taxes on the
wealthy probably hasn't helped matters either.
In China, it's a different story
altogether. China remains very much a tale of two
economies - a booming development model at work in
the increasingly urbanized coastal part of the
nation in stark juxtaposition with relatively
stagnant economic conditions persisting in the
rural central and western portions of the country.
While fully 560 million urban Chinese are now
participating in the economy's rapid development
dynamic, that still leaves a rural population of
some 745 million on the outside looking in.
Interestingly enough, the accelerating
trend of rural-to-urban migration has done little
to arrest the inequalities of the Chinese income
distribution over the past 15 years. This is
somewhat surprising in that urban per capita
incomes in China ($1,531 in the top 35 cities in
2004) are slightly more than three times those in
rural areas ($488). But the increase in China's
overall Gini index from 35 in 1990 to 45 in 2003
not only reflects the impacts of an ever-widening
income disparity between coastal China and the
rest of the nation, but it is also a function of
the increased divergence in the distribution of
urban incomes. On this latter point, a recent
report of China's Academy of Social Sciences notes
that average incomes in the bottom quintile of
urban Chinese workers are less than 5% of average
incomes in the upper quintile.
Significantly, Chinese income disparities
in the Internet age may well have a very different
connotation than in the past. With increased
information-technology (IT) connectivity in
western and central China - mainly in the form of
the village kiosk - the rural poor now have
real-time access to the "outside world". This
gives them a very vivid picture of the prosperity
they are missing. In that vein, the Internet has
the potential to spark resentment and social
instability in China's two-track development model
- the very last thing the government wants. The
Chinese leadership is very focused on the
income-distribution issue, and is expected to make
this a major topic of debate and policy action at
the upcoming National People's Congress.
That campaign has already begun. On
February 21, a "new socialist countryside" program
was unveiled jointly by the State Council (China's
cabinet) and the Communist Party - focused on
providing increased support for farmers together
with improved education and health care for the
rural population. The plan also gives special
attention to the role of finance in stimulating
rural development, especially through increased
bank lending to farmers, along with increased
private incentives for investments in rural credit
cooperatives. This multi-year initiative is aimed
squarely at the income-distribution issues noted
above.
As different as the problems are in
the US and China, there is no economic issue in
either country that hits the political hot button
like income disparities. And with both countries
suffering from relatively high degrees of
inequality, neither can be expected to backtrack
insofar as the political response is concerned.
Given the mounting trade tensions between the two
nations, this poses a worrisome problem: America's
increasingly populist politicians have responded
to the income-distribution problem by turning
protectionist - portraying China as the culprit
for the pressures bearing down on middle-income US
workers. Even if this view is dead wrong, for
China there seems to be no immediate escape from
the growing political wrath of Washington.
China, on the other hand, continues to
cling to an export- and investment-led growth
dynamic that not only fuels political resentment
in the US but also seems to have a natural bias
toward widening disparities in its income
distribution. Yet this same approach drives the
vigorous employment growth that is absolutely
vital to provide China with the scope to keep
dismantling its inefficient state-owned economy.
The Chinese leadership knows full well that this
is not a sustainable growth formula. Its recent
focus on stimulating private consumption and
services is a clear recognition that a new recipe
is needed. But this will take time - and quite
possibly a good deal of it.
Meanwhile,
China is engaged in a very delicate balancing act
between reforms, which seem to be exacerbating
income disparities, and externally focused growth,
which seems to be evoking a protectionist
backlash. In response, the Chinese leadership is
turning to the micro-management techniques of
market-based socialism for answers - namely, a
gradual shift in its currency policy to diffuse
external pressures and targeted income support
measures to counter internal pressures. Only time
will tell if this is the right approach.
Inequalities of the distribution of income
have long been the Achilles' heel of economic
growth and development. In an era of IT-enabled
globalization, that seems more the case than ever.
History tells us that the pressures of widening
income disparities are often vented in the
political arena. The steady drumbeat of
protectionism is a very worrisome manifestation of
that lesson. To the extent that the risks of
protectionist actions come into play, the US
dollar and real interest rates would probably bear
the brunt of the financial market response.
Stephen Roach is chief economist
at Morgan Stanley. He wrote this article for
Morgan Stanley's Global Economic Forum,
March 3.
