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Elephantiasis of Income Distribution

Elephantiasis of Income Distribution

By Kabeer Bora

Recently, the much maligned ‘elephant graph’ has been subjected to a tremendous amount of scrutiny. Pandora’s Box has been opened by an institute called ‘The Resolution Foundation’, accentuating the left-right divide in Economics. But what exactly is this graph?

In 2012, Branko Milanovic wrote a paper for World Bank Economic Review which discusses the relationship between income growth and increasing trade between countries. This relationship when put on a graph resembles an elephant, hence the name. The paper is named “Global Income Distribution: From the Fall of the Berlin Wall to the Great Recession”, euphemistically – from the fall of communism to the debacle of capitalism. They do a comparative analysis on a percentile’s income of 1988 and the income growth that particular percentile experiences by 2008.

Global Income Distribution

Graph for Global Income Distribution (1988-2008) | Photo Courtesy: Havard Press

According to the paper, global growth hasn’t helped the poorest of the world, i.e. the poorest of the poor in Africa.

According to the paper, global growth hasn’t helped the poorest of the world, i.e. the poorest of the poor in Africa. As can be seen from the graph, the rise in the low percentiles (bottom 1-3%) haven’t seen much growth, in comparison to the other deciles. One might have expected a growth in the real wages in the lowest decile; after the fall of communism, most would say that lower the wages, the more jobs they would attract. However, for some reason or the other, that is not the case, and I leave it to the readers to decide upon the causes of it, since the fraternity has had diametrically opposite opinions on this one.

The period 1988-2008 could be the most globalised ever in world history, and hence the study of this period is important to understand what the future has in store for us. During this period, according to the author, the peak in the graph (see point A) is the 55th percentile in the income ladder in the world, which experiences the highest wage growth in the globalised period. This period exists largely due to the breakneck speed of China’s economic machinery, and partially due to the comparatively laggard growth of India. Deng Xiaoping initiated the fabled economic reforms in 1978 and India had similar liberalised reforms in 1991. These reforms helped the populaces have massive real wage gains, hence the peak is mostly occupied by people from China and India; in fact, 9 out of 10 at the peak belong to emerging countries. So in absolute terms, the upper middle classes of China, India, and a few similar placed economies have gained the most.

Points B and C is where the graph gets interesting and ‘controversial’. Point B is the lower classes of advanced capitalist countries like USA and UK, who have had the lowest relative income growth – it’s the working classes in the capitalist countries who have had to compete with the cheaper workers in China and India, and of course offshoring entire units of production too have played a big part in decelerating income growth. Some scholars, like Marxist economist Prabhat Patnaik have underlined the disillusionment amongst the working poor of UK as the reason for Brexit, which can be partially explained with the help of the Elephant graph.  

Flaws in the Study

The aforementioned empirical study was published in 2012, but why has this become relevant all of a sudden? Resolution Foundation is a research institute based in the UK which has published their analysis of the elephant graph; they have been able to debunk a few of the ‘exaggerated’ claims made by the report by Milanovic. They claim that it’s not all down to a more globalised world that the working classes of the rich countries have experienced income stagnation, but more of a technical flaw in the study carried out by Milanovic.

The technical flaw lies in dealing with population growth of the developing and underdeveloped countries.

Milanovic uses a design that fails to take into account the disproportionate population growth rates in developing and developed countries. How that changes the study design can be explained with the help of a simple example: for instance, there are 750 poor and 250 rich people in the world, and due to poor socio-economic circumstances the poor have higher fertility rates, as result of which they bear more kids than the rich, which ultimately leads to their share of population increasing from 75% to 85% in the World. Therefore, the earlier 75th percentile is the 85th percentile of today. Hence, a straightforward comparison between the 75th percentile of today with the 75th percentile of yesterday would obviously show a decline in income growth.

The technical flaw lies in dealing with population growth of the developing and underdeveloped countries.

Also, one other key factor missed by the Milanovic report is the fact that many of the countries that exist today didn’t exist in 1988. Hence, data was not available for a few countries and data from some countries was difficult to procure (Soviet Union). After accounting for the changes in the study design, the new report managed to put many of the ‘exaggerated’ claims made by the Milanovic report to rest, as is evident from the graph below. However, even the new report doesn’t do away with the fact that the top 1% have had a higher income growth than the working classes of their respective countries. What is even more worrisome is the fact that the bottom 1-3%, even after accounting for the changes in the new model, has had the same growth rate as that of the working poor in the advanced capitalist economies.

The government must ensure equitable distribution of resources.

These empirical studies are important for a nation like India to take note of, when the narrative from the central government is inclined towards opening up the economy. The government must ensure equitable distribution of resources. Last week, the U.S. based Hay Group released a report saying that the salary growth in real terms since the financial crisis is 0.2%, while the GDP has gained over 63.8%.

In my previous article, I spoke about the need to have an alternative to the GDP indicator to measure economic well-being; the Elephant graph and this report by the Hay Group give immense strength to my argument. India shows a salary growth trend of the ones experienced by mature economies, while China has a growth of 10.6% over the same time period. Such findings do cause some skepticism with regard to the kind of capitalism Dr Manmohan Singh had thought of in 1991, are we better or worse off? According to Hindu mythology, our elephant-headed deity, Lord Ganesh is a god of success, and in some parts is also worshipped as a God of wealth. We bid adieu to our Lord last week, and we have been the empirical data in hand the very same day. It is evident as to who is blessed by the Lord and who isn’t.

Kabeer Bora is pursuing Bachelor of Economics at the University of Auckland, NZ.

Featured Image Source: Pexels

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