Inclusive growth for shared prosperity

Announced in April 2013, the twin global goals of the World Bank – eliminating extreme poverty by 2030 and boosting shared prosperity – have become the guiding principles of its development work.  While reducing poverty has always anchored the Bank’s work, the goal of boosting shared prosperity – measured by the income of the bottom 40 percent – is new.

How do we enhance shared prosperity through inclusive growth? This was the subject of discussion at a recent seminar at the World Bank.  Organized by the Global Practice of Macroeconomics and Fiscal Management, the seminar by Aart Kraay of the World Bank’s research department focused on the following two issues[1]:

1. Is high growth inclusive in the sense provides opportunities to all segments of society to participate and benefit from the growth process?
2. Can specific public actions – policy and institutional changes – boost the incomes of those in the bottom 40 percent of the income distribution?

Using a large panel of industrial and developing countries over the past years, Aart showed that social welfare – as measured by a number of welfare functions including the Bank’s shared prosperity measure – on average increases equiproportionately with mean incomes as growth takes place.  This is because changes in inequality measures (e.g., income share of the bottom 40 percent in overall income) are not systematically correlated with changes in average incomes.

But there are countries where rising growth has not benefitted all income groups equally.  Data from the World Bank[2] indicate that during the most recent five-year annual average of income growth between 2006 and 2011, the bottom 40 percent of the population did better than the country average in 58 of 86 countries.  In Asia and Latin America regions there have been periods when income growth of the bottom 40 percent has been significantly different from the overall income growth.  In Latin American countries in the 2000s, income growth of the bottom 40 percent was 1.2 times the average country growth; and in Asia in the 1900s and 2000s, income growth of the bottom 40 percent was only about 0.6 of mean growth.  In both China and India, while the bottom 40 percent have benefitted from high growth, their incomes have not risen equiproportionately with the average income growth of the country.  Therefore, growth could improve or worsen income inequality, and different income groups may reap different benefits of rising growth.

What could countries do to boost the incomes of those in the bottom 40 percent over and above the gains in average income?  Could there be a win-win situation whereby shared prosperity can be boosted without reducing overall growth?  Aart’s presentation showed that using cross-country regression methodology it is difficult to find a robust correlation between policy and institutional variables and changes in measures of inequality.  The implication is that there is no simple recipe for enhancing shared prosperity.  It could be that the importance of different policy variables is context-specific.

In discussing the policy and operational implications of Aart’s paper, Shanta Devarajan of World Bank’s Middle East and North Africa Region felt that there are cases where growth and enhanced shared prosperity can go together.  His view is that in many developing countries, the non-poor have already captured most of the rents in the existing policy environment.  Therefore, efforts to increase growth would benefit the poor.  For example, he claims that there is a positive relationship between competitive exchange rates and faster growth.  In many developing countries, he argues that an overvalued currency has been used as a tool for making imports cheap, which generates rent for the non-poor.  Devaluation to make the exchange rate competitive will increase agriculture exports of many of these countries which in turn would help those involved in agriculture, i.e., a subset of the bottom 40 percent.  Investment in infrastructure is another public action that could help in enhancing growth and boosting shared prosperity.  For instance, transport costs remain very high in Africa, averaging 14% of the value of exports compared to 8.6% for all developing countries.  Without effective road infrastructure and coherent coordination of transport infrastructure policies across its borders, Africa’s share of world trade may shrink affecting growth as well as chances for the poor to benefit from it.  Reducing subsidies (food, fuel, among others), which are quite common in developing countries, and targeting them to the poor could improve the fiscal situation and be a win-win solution.

Having experienced high growth in the 2000s, the then Indian Prime Minister Manmohan Singh wrote in the country’s Eleventh Five Year Plan “The rapid growth achieved in the past several years demonstrates that we have learnt how to bring about growth, but we have yet to achieve comparable success in inclusiveness.”[3]  Indeed, that is the big question that many of our member countries are looking to answer.  The challenge therefore for the Bank is twofold: first is to assist countries in raising growth rates at sustainable levels.  A second is making growth more inclusive by finding ways to boost the incomes of the bottom 40 percent.

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