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Emerging Income Inequality and Widening Economic Divide: the Case of Sri Lanka


Emerging Income Inequality and Widening Economic Divide: the Case of Sri Lanka Upali Vidanapathirana IDEAs Conference on Policy Perspectives on Growth, Economic ... – PowerPoint PPT presentation

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Title: Emerging Income Inequality and Widening Economic Divide: the Case of Sri Lanka

Emerging Income Inequality and Widening Economic
Divide the Case of Sri Lanka
Upali Vidanapathirana
  • IDEAs
  • Conference on Policy Perspectives on Growth,
    Economic Structures and Poverty Reduction7-9,
    June, 2007
  • Tsinghua University, Beijing, China


The puzzle
Indicators / Country or category Low income countries Low middle income countries Sri Lanka (2004)
GNP per capita Life expectancy (female) Infant Mortality Under 5 mortality Adult Literacy Les than 825 58.1 79.1 122.0 71.5 826-3255 69.8 24 29.3 93.1 1010 74 13 15 92
  • Liberalization orthodoxy claims that openness
    produces faster GDP growth rate on a sustainable
  • Such growth engenders income equality
  • Sri Lankas liberalization experience of about 30
    years is adequate to test this claim using
    context specific empirical data

Theoretical base of inequality and openness
  • Kuznets claims are not archetypical inequality
    is harmful to growth (Rodrik, 1996 Thorebecke,
  • Openness is not distribution neutral (Wood, 1999
    Anderson, 2005)
  • HOSS fails in many countries to give jobs to
    unskilled labour (Carter and Barham, 1996
    Lipton, 1985 nd 2007)
  • Inequality in open economies is explained in
    terms of archetypical Kuznet hypothesis where
    initial spurt in GDP growth increases inequality
    (Kuznet, 1955)
  • Openness accelerates growth rate but it is
    distribution neutral (Kraay, 2000)
  • HOSS theorem claims that openness increase
    scope for jobs and increases real wage rates of
    unskilled workers to cause equality.

Proximate determinants of inequality
  • Economic growth is the most potent determinant of
    income distribution its distributive implication
    depends on whether the growth was pro-poor or
  • Growth performance of priority sectors become the
    second most potent determinant. It tells us
    where the growth occur and whether it excludes
    some sectors and communities. In the case of Sri
    Lanka the rural sector estates house about 77
    percent of the population.
  • Employment generation is the third variable. If
    free trade serves unskilled labour better,
    naturally that should be pro-poor.
  • The tenor of public policy is another crucial
    determinant Fiscal contraction, for instance,
    aggravate conditions of inequality. This
    includes pruning financial flows to social
    welfare, physical and institutional
    infrastructure, and human development.
  • Arising from 4 above, the status of
    infrastructure including roads, markets, storage,
    irrigation canals, extension services etc
    undermines the distribution of economic
  • 6 Education is considered an equalizer of income
    distribution This depends on considerations of
    access and equity. So does health!

Why reforms in Sri Lanka in 1977?
  • Reforms in SL was conveniently referred to as
    crisis driven although in practice it was more
    of crisis creating (The reasons for reforms in
    Sri Lanka in 1977 much before its SA
    counterparts include ostensibly to address
    problems of low GDP growth, unemployment, poverty
    and inequality and also to correct problems
    arising from worsening economic fundamentals).
  • But in reality it was a political project of a
    rightist government!
  • Has reforms in Sri Lanka result in crisis? Many
    see a link between reforms and crisis in Sri
    Lanka(Lakshman, 1996 GOSL, 1990 Jayasuriya,

Objectives of the paper
  • To evaluate the Sri Lankan case of economic
    reforms (1977-2006) to ascertain whether the
    reforms have produced desirable outcomes in terms
    of equity and inclusiveness,
  • What specific factors have engendered and/ or
    hindered such outcomes,
  • What are the lessons of experience Sri Lanka
    provide to other developing countries

Methodological issues
  • The post-liberalization era is divided into two
    phases i.e., the first wave-1978-1988) and the
    second wave (1989-2006)
  • The liberalization experience is compared with
    the pre-reform era (1970-1977) to contrast the
    development trajectories
  • Focuses on both income inequality and the
    broader space of economic divide and to identify
    some of the proximate determinants
  • Data sources include CFS (CBSL) and HIES (DCS)
    series here, one faces a huge challenge as data
    are not consistent for a variety of reasons. The
    paper uses other eclectic sources of data too .

Income distribution by deciles (1973-2003/04)
  • Decile distribution data are rather congested
    Yet, they show that income shares of the first
    two quintiles declined relentlessly since
  • Conversely the top most deciles gained
  • The income share of the 1st decile fell from 2.79
    in 1973 to 1.86 in 2004. The dividends of
    reforms have by passed the poor.
  • The share of the 10th decile swelled from 28.03
    in 1973 to 36.45 in 2004. The rich amassed the
    benefits of reforms

Income inequality trends (income data)
Quintiles 1973 1978/79 1981/82 1986/87 1996/97 2003/04
Bottom 7.2 5.7 5.7 5.0 5.7 5.1
2nd 12.1 10.3 9.5 9.1 10.0 9.1
3rd 16.2 14.3 13.3 13.5 14.1 13.4
4th 21.6 19.8 19.5 20.1 20.8 20.5
Top 42.9 49.9 52.0 52.3 49.4 52.0
Quintile distribution (1973-2004)
  • The gains to the top 40 percent have increased
    from 64 percent in 1973 to 72 percent in 2004.
  • However, what is more important perhaps is the
    changes in the income share of the top 1 percent
    which represent the ultra rich (For which we do
    not have data).
  • Using the Mishras classification income share of
    19.3 for the first 40 in 1973 was permissible
    but this condition deteriorated sharply during
    the post reform period.

Figure 1- Lorenz Curves for years 1973, 1981 and
1996. Source Central Bank of Sri
How Gini ratio changed over the period 1963-2004
Other indices of income inequality
Description 1973 1978/79 1981/82 1986/87 1996/97 2003/4
Gini ratios Spending units Income receivers Quintile Ratios (Q1Q2)/Q5 Q5/Q1 Theil Index 0.35 0.41 0.45 5.9 0.28 0.43 0.50 0.32 8.7 0.35 0.45 0.52 0.29 9.1 0.39 0.46 0.52 0.27 10.4 0.39 0.43 0.48 0.32 8.6 0.33 0.46 0.50 0.27 10.1 0.38
  • Indicators are unanimous that income inequality
    has worsen.
  • Inequality level was lowest in 1973 worst in
    1986/87 (towards the end of the first wave).
    Second wave marks signs of leveling off but this
    trend was reversed again in 2004.
  • The figures quoted are comparatively worse and
    here most of the SA countries perform much
    better. For instance, Gini ratio is around
    0.3-0.4 for all the SA.
  • The quintile ratio of 10 plus (meaning, the share
    of the top income decile is about 10 times the
    bottom income decile) compares with about 6 in
    India and Pakistan

Consumption data
  • Consumption data are generally supposed to be
    better than the income data.
  • However, Sri Lankas consumption data series is
    not as consistent as the income data series of
    the DCS.
  • DCS data series became comparable since 1990/91

Consumption Data
Quintiles 1980/81 1990/91 2002
Bottom 2nd 3rd 4th Top 8.9 12.9 16.5 21.3 40.4 8.8 12.9 16.5 21.5 40.2 7.7 11.5 15.4 21.5 43.7
Consumption data-Changing pattern of Gini ratios
Discussion of Income/expenditure distribution
  • In the mid 1970s, poor gained both absolute and
    relative terms (Fields, 1980). These changes
    were directly policy driven. The changes had far
    reaching consequences (Land Reforms, 1972
    Nationalization of Plantation Companies, 1975
    Ceiling on Housing property, 1973 Compulsory
    savings for rich, 1994 and so on).
  • 1977 reforms reversed this process (Tax
    concessions, amnesties, stipulations to increase
    land rent for share tenancy, privatization
    programme, removal of the universal food subsidy,
    reduction of social welfare expenses, removal of
    fertilizer subsidy, closure of PMB, closure of
    seed farms, elimination of state monopolies,
    reduction of expenditure on irrigation and road
    infrastructure and so on).

Widening the divide
  • Specific situations of reforms affecting
    nutritional levels of adults in the first wave
    and children under 5 in the second wave are
  • Drop-outs in education and the gaps in
    educational quality by regions form another
  • Regional, sectoral and gender biases in terms of
    income, health, educational and employment
    opportunities cover another major problem area.

Filters-GDP Growth
  • Growth rates falling and becoming volatile
  • In booms the top deciles gain but in busts the
    bottom loses disproportionately .
  • Was the growth pro-poor? Who gain and where?

Table 1.1-Economic growth as a filter
Indicator/year 1970-1978 1978-1988 1989-2004 1970-2004
Average growth rate Average rate of growth of agricultural sector Gini ratio Reduction of income inequality ()1 3.07 1.41 0.35 (1973) -22 4.98 2.95 0.46 (1987) 31 4.83 1.48 0.46(2004) 0 4.48 1.93 0.35-0.46 31
Source Computed using data from the annual
report of the Central Bank of Sri Lanka-2004 and
W D Lakshman, (1997). Negative figures indicate
reduction of poverty (
Growth trends compared
Priority sectors and growth
  • In terms of distribution of income rural estate
    sectors matter a lot 77 of the population and
    more than 90 of the poor dwell here
  • Agricultural income has fallen minimum
    procurement prices have fallen credit to the
    sector has fallen irrigation investments have
  • Industrialization has centralized to the Western
    province (which is the top gainer of reform
    dividends) so does the booming services sector

Table 1.2- Priority sectors (industrialization
Indicators / Period 1970-77 1978-88 1989-2004
Annual growth rate of Industrial GDP (deflated using GDP deflator). Annual growth rate of exports (in US ) Annual growth rate of GDP 6 14.4 3.06 8.8 6.1 4.98 12.4 16.7 4.45
Spatial distribution of industrial units
Are food grains unproductive?
Falling real prices of food grains
Filters-Fiscal compression
  • Investments on physical and institutional
    infrastructural have fallen
  • Soft targets like education and health sectors
    suffered the most
  • Subsidies including food , fertilizer, credit,
    are immediate casualties

Falling public expenditure on agriculture
Reemergence of Malaria in the second wave
Impact of Financial reforms
Employment filter
  • Jobless growth falling employment elasticity
    of growth leaving many un- or under employed.
  • Changes in the structure of employment favouring
    unorganized/ informal/ casual sectors.
  • Privatization leading to lay-offs and
    casualization of work
  • Wage levels falling in real terms
  • Conditions of work deteriorating

Employment as a Filter Table 1.3 Data on the
elasticity of employment
Year GDP (1996 factor cost price) Total Employment Change of GDP Change of employment Employment elasticity of agricultural GDP Employment elasticity of GDP
1971 229 3649 4.09 1.08
1979 321 4647 40.1 27.34 1.77(0.22) 0.68 (0.08)
1987 462 5271 43.92 13.43 0.09(0.008) 0.30(0.03)
2003 929 6947 101 31.79 -0.16 (-0.01) 0.31 (0.02)
1.4-Percentage employed by status of Employment
Category of employment 1973 1978/79 1981/82 1986/97 1996/97 2003/04
Regular Casual Employers Self employed Unpaid family workers 60.9 -- 1.4 30.9 6.7 36.5 25.6 1.5 23.0 13.5 30.4 36.2 2.2 22.8 8.5 29.7 28.6 1.6 30.0 10.2 22.8 35.3 1.3 30.0 10.6 20.9 35.8 1.7 32.9 8.7
1.5-Dichotomies in weekly earnings by organized
and the unorganized sectors
Inflation filter
  • Exchange rate-inflation link.
  • Inflation is specially bad for workers in the
    agricultural and other unorganized sectors
    (whose wage rates are not indexed).
  • It is also bad for producers whose bargaining
    power is limited it lowers internal terms of
    trade for farmers when input costs rise at a
    faster rate than output prices.

Exchange rate-inflation nexus
Real wages falling for plantation workers in the
second wave
Overall welfare
  • Sri Lankas initial welfare gains are lost she
    has failed to increase the lead or even to
    maintain the lead.
  • Other conditions of socio-political gains also
    are fast disappearing
  • Suicides in the agricultural belts portray this

Suicides in Sri Lanka
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The lessons
  • Findings show that there is a marked divergence
    between the theory and practice of liberalization
  • In the case of Sri Lanka the dividends of reforms
    were short-lived but the social costs were
    deep, pervasive, long-drawn.
  • Income inequality has undoubtedly increased
    there is ample evidence to show that the other
    forms of divides are widening.
  • These trends are directly linked to the reforms
    and various filters of inequality also are
  • Context specific data shows that reforms thus far
    have failed to produce the promised results.
  • The dangers are not over. Pressure for market
    driven reforms in the land, water,
    infrastructure, health and education markets are
    building they will remove the remaining
    safeguards and with that inclusiveness will
    disappear from the skies of Sri Lanka forever.
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