The Effect of Globalization on World Poverty and Income Inequality

A Cross-Sectional Analysis

Bachelor Thesis, 2016
31 Pages, Grade: 1,7


Table of Contents

1. Introduction - Divided Views on Globalization

2. Theoretical Framework
2.1 Modern or Dependent?
2.2 Findings and Causal Mechanisms in Previous Literature

3. What is Globalization? - Finding a Definition
3.1 Explaining Poverty and Inequality

4. The Research Design
4.1 Introduction and Description of Applied Variables
4.2 Correlation Analyses

5. Limitations and Concluding Thoughts

6. Publication Bibliography

7. Appendix

1. Introduction - Divided Views on Globalization

The world’s 85 richest people possess more financial wealth than the world’s 3.5 billion poorest; evidently, inequality presents “one of the biggest economic, social, and political challenges of our time” (Seery/Arendat 2014, p. 7). Poverty is inextricably linked to the issue of inequality and therefore must be analyzed in the same context (Edelman, 2013). Countries with high levels of inequality most likely have high levels of poverty, and the inverse corresponds (EAPN Social Inclusion Work Group 2009). Poverty limits equality of opportunities for education, health, and standards of living, dividing society into the “haves” and the “have-nots.” Whether in scholarly research and academic literature or the current political climate, critics point to rapid globalization as the source. Presently, the controversy of the Transatlantic Trade and Investment Partnership (TTIP) between the European Union and the United States could not be of higher contentious debate; but the arguments made thereof may be only a fragment of an even bigger dispute: what degree of global integration is best and what are its potential consequences? Moreover, how truly beneficial is globalization over-all? Supporters argue it enhances economic growth and diminishes poverty. Critics believe it contributes to added wealth for the rich and increasing poverty for the poor, and consequently, the loss of the middle class and widening of the social gap. Both sides back their arguments with ‘facts’ and studies, confidently proposing their views:

[…] the confidence with which officials of international financial institutions and opinion-makers in influential newspapers and magazines assert their belief in the value of global free markets in expanding the horizons for the poor is only matched by the passionate intensity with which activistprotesters hold their opposite belief. (Bardhan 2005, pp. 1-2)

In this paper, we will try to determine if any of the theoretical camps are “right” and if so, which one. We will first review current literature to clarify which arguments frame the respective pro and con attitudes towards globalization. This will include theoretical approaches as well as previous studies done in the field. We will then empirically analyze the issue ourselves with the newest available data. To do so, we will first need to establish practicable definitions of globalization, poverty and inequality, and then try to find relationships between these factors. Lastly, we will interpret our results. To conclude, we will summarize our findings and discuss any limitations of our research.

2. Theoretical Framework

2.1 Modern or Dependent?

To frame our analysis, we will first consider two contrasting theories of development, the theory of modernization and the theory of dependency, and their implications for globalization and underdevelopment, and thus, poverty and inequality. These contrasting theories may give insight as to how current views of globalization became so divided.

Modernization theory explains development as a stepwise, linear transition from a traditional society to a modern one. The first world and third world are therefore merely “opposite poles in a linear spectrum” (Greig et al. 2007, p. 90). The process by which undeveloped countries become modernized occurs through emulating norms and values commonly exhibited in already modern cultures. These include democratization, individualism, egalitarianism, and the rationalization of all spheres of society. According to this theory, as countries emulate the western prototype they become developed (Bernstein 1971). Under- development in the form of poverty and inequality is hence caused by endogenous factors, such as a country’s insufficient implementation of modern prototype characteristics. However, modernization theory exhibits an optimistic approach, as exogenous assistance towards the path of development can promote progress (Greig et al. 2007). Such exogenous assistance may entail the intensified contact with already modern countries through globalization and especially trade.

The principles for free trade emerged out of a similarly optimistic approach based on David Ricardo’s theory of comparative advantage. Ricardo refines the theory of Adam Smith, who argued that trade between actors is desirable when each has an “absolute advantage,” meaning trade should occur when each can produce their respective, traded commodities more efficiently than the other (Smith 1776). Ricardo’s theory proposes that even when one country has a higher, more efficient productivity for all traded goods, industrial specialization and international trade still increases the mutual economic benefits for both countries (Ricardo 1817). The approaches of Smith and Ricardo are then extended to neoliberalism, which further supports “laissez faire” policies of deregulating markets. The self-regulating markets create higher levels of prosperity which will then trickle down through society and hence reduce poverty (Steger 2013). While this argumentation is used by pro-globalizers and for the legitimization of free trade between developing and developed countries, anti- globalizers and supporters of the dependency theory reject the validity of this concept.

Dependency theory divides the world’s societies into countries of the center and the periphery (Ferraro 2008). The relation between the systems is unequal as the center dominates the periphery and imposes an unfair trade structure. Causes of this can be traced back to the imperialistic age when the resources of developing countries (the periphery) were exploited without investing in their infrastructure. Hence, the wealth of the periphery is now largely dependent on trade of their primary commodities to industrial nations. These raw materials then undergo a value adding process in which they are transformed into manufactured goods sold by the developed countries. As value is added, the primary product selling nations are unable to import the expensive manufactured goods (Ritzer 2010). This mechanism limits the progress for the periphery and keeps undeveloped countries underdeveloped (Greig et al. 2007). The neomarxist extension of dependency theory believes that there is a global accumulation of capital into few owners. This is the centralization and concentration of wealth, which widens the social gap (Ritzer 2010). The opening of markets provides corporations the possibility of outsourcing jobs in their quest to minimize labor costs. This “race to the bottom” simultaneously keeps worker’s wages low while increasing the profits of a small “corporative compradors class” (Steger 2013). In contrast to modernization theory then, dependency theory sees exogenous factors as the cause for poverty and inequality. Today’s divided views of globalization, and whether to further integrate into world markets or engage in protectionism, might ultimately be a question of whether one believes in modernization or dependency.

When it comes to predicting in which direction inequality will proceed, most theories are not as black and white as modernization and dependency. Even when the assumption that globalization leads to more economic growth is true, it does not automatically lead to a lessening of income inequality. Simon Kuznets (1955) developed a model in which he predicts the levels of inequality in relation to the development of a respective society. He claims that inequality will first rise in a society’s transition from a rural to an urban culture. Company owner’s profits elevate, as well as wages for those workers choosing to migrate into industrial jobs in the cities. At the same time, agricultural income stagnates or decreases. The gap is then lessened and inequality decreased when during the continuing transition to industries, about half of the working population is integrated into the new sector (Kuznets 1955). In the case of globalization, one would therefore first observe increased inequalities in developing states, and as they progress, a decrease in it, shaping an inverted U - the Kuznets curve.

Theorists Kremer and Maskin do not find enough empirical proof for either the modern- ization or dependency approach, and hence developed a theory based on skill level of workers (Kremer/Maskin 2003). In the global north, there are relatively many skilled workers compared to unskilled. In the global south, this condition is reversed. Because of the abundance of skilled labor in comparison to unskilled, wages for skilled workers will be comparatively low, while unskilled labor wages will be comparatively high, with again a reversed effect in the global south. However, when these economies interconnect, “factor prices” will equalize and “the wage of skilled workers will rise in the North and fall in the South, while the wage of unskilled workers will fall in the North and rise in the South” (Kremer/Maskin 2003, p. 2). The wages in the south then grow closer together, while those in the north widen, leading to more equality in the south and less in the north (Kremer/Maskin 2003). Kremer and Maskin’s theory is directly applicable for this study, claiming that in a globalized world, developed states experience more inequality while undeveloped nations experience less.

2.2 Findings and Causal Mechanisms in Previous Literature

With this theoretical frame, we may now look at some of the previous conducted studies and opinions given in literature.

Bourguignon (2013) claims that inequality within countries rose in the past two decades, mainly through the burst of people with high end income. Globalization shaped the context for this process by enabling enhanced competition, which in turn bolsters technological innovations. The innovations in communication spread the popularity of high-level athletes, actors and musicians, as well as the markets for traders, investment bankers and managers, giving many of them great wealth. In line with Kemer and Maskin, Bourguignon believes that higher competition and the possibility of outsourcing will especially pressure low skilled workers in developed countries, as they will experience the rise in inequality the most (Bourguignon 2013).

One of the most prominent supporters of economic globalization is the World Bank, personified through, among others, David Dollar. He argues that the “reality of what is happening with poverty and inequality is far more complex, and to some extent runs exactly counter to what is being claimed by anti-globalists” (Dollar 2004, p. 12). Since the beginning of the newest wave of globalization in 1980, for the first time in history, due to their global integration poor countries’ economies grew faster than rich countries’. This is achieved for example through an increased flow of information, providing the poor with the prospect of relevant knowledge for development. Additionally, the rise in competition led to a higher turnover ratio of companies with only the most productive surviving, increasing the countrie’s overall productivity. Growth is then dispersed to all social classes, as can be seen by the reduction of poverty. In Dollar’s argument, there exists no proof of an increasing within country inequality. Contrastingly, the protectionism displayed by developing countries in earlier decades served mostly the higher income classes. With market integration, low- skilled workers have the opportunity to compete with the low-skilled laborers in richer countries. Though this has put pressure on the global north, social democratic redistribution reactions contained the widening of inequality there. Higher competition also advances previously discriminated social groups (e.g. women), who are now a needed workforce in growing economies. Lastly, these developments give the people in poor countries a better opportunity to invest in education and move them from rural to better paid industrial jobs (Dollar 2004). Dollar’s flagship examples are China, India, Vietnam and Uganda.

Birdsall (2001) criticizes that results like Dollar’s are biased, with China and India as “successor” states making up a large part of the world population. While they experienced significant growth in the wake of opening their markets, it is arguable that their markets are still more protected than the markets of other countries like Mexico, Argentina, or Thailand, who have not experienced growth in these magnitudes (Birdsall 2001). Because of differing domestic institutional structures, countries do not develop in one general way (Danacica 2006). The nature of their economical emphasis, e.g. selling primary commodities or manufactured goods, will greatly influence their growth (Birdsall 2001).

Mander et al. (2001) argue that global inequality is rising sharply and “the global trading and finance system is one of the primary causes” (Mander et al. 2001). Profits of potential growth centralize in the hands of only a few, mainly in the global north. By assimilating economic regulations of free trade globally, domestic governments no longer have sovereignty to protect their workers, small businesses, and social services. Furthermore, in “Structural Adjustment Programs” free trade institutions like the World Bank loan poor countries money in order to develop, but in return, force them to drop domestic social programs that do not pay revenues. Lastly, the monopolization and mass production introduced through transnational corporates hurts many local farmers (Mander et al. 2001).

Neutel, Heshmati (2006) confirm Dollar’s implications in a large case study. They discuss potential causal mechanisms, as globalization fosters technological advancement which in turn enhances economic growth. This is compounded by the increased economic activity in open markets, from which all of society, including the poor, benefit. Additionally, technological innovations will improve the health situation and educational opportunities. Integrating globally may boost countries’ profits of tourism. Lastly, they argue that countries who are politically integrated more often exhibit policies of “good governance” which include the aim for reduction of poverty (Neutel/Heshmati 2006).

The conclusion we can draw from the previous literature is that authors are mainly divided into two groups, mirroring the contrasting theoretical framework. Hence, when looking at the consequences of globalization, they would propose opposite outcomes. Globalization either a) leads to more inequality and poverty, or b) less inequality and poverty. A higher degree of globalization should thus relate to one or the other.

3. What is Globalization? - Finding a Definition

Measuring globalization will be especially challenging, as there is no precise definition present in previous literature, but rather a variety of diffuse ones. Steger (2013) believes in globalization as a “contested concept”. The contest thereby not only includes the content of which globalization should constitute, but also the ambit in which it occurs. Globalization is used to “describe a process, a condition, a system, a force, and an age” (Steger 2013, p. 7), which is why it often times delineates opposing or very different operations for various facets of life.

The majority of authors define globalization through an economic approach and view this dimension as the heart of the phenomena. "Globalization is shorthand for global capitalism and the extension of global markets" (Birdsall 2001, p. 8). Rapley (2004) explains that these markets emerge to one single global economy, in which the trade of goods and services is dramatically enhanced. Globalization itself hence cultivated as the result of economic developments, such as the reduction of trade barriers and the rise of deregulated free trade markets through fiscal and monetary reforms (Birdsall 2001). Consequently, a “greater freedom of movement, acceleration migration and the increase of the direct foreign investments and technological transfers” postulated. (Danacica 2006, p. 1).

But if globalization is just the further intensification of trade and financial flows made possible through innovative technological opportunities, then there is nothing new or particularly distinctive about the phenomena (Greig et al. 2007). In fact, many see globalization as “economic integration” and something that “has been going on for a long time” (Dollar 2004, p. 4). Greig et al. (2007) argues that the process of globalization could even be traced back to the exploration of the New World in 1492. Danacica (2006) and Dollar (2004) both describe globalization in three historic waves that started around 1870. From the late nineteenth century leading to 1914 and the First World War, international trade amounts almost doubled, driven by commerce treaties between France and Great Britain; while at the same time, international migration from Europe to the United States was prospering. The great depression and the two World Wars turned societies to Nationalism and economies to Protectionism and interrupted the process of globalization. The second wave of globalization then developed after 1945, mostly for developed countries, as international economic cooperation became institutionalized in the General Agreement on Tariffs and Trade (GATT) and the European Coal and Steel Community (ECSC). The third wave commenced after 1980, when lesser developed countries, following China’s example, began to involve themselves in free trade policies and opening up their formerly protected economies. “What is distinctive then about this latest wave of globalization is that the majority of the developing world […] has shifted from an inward-focused strategy to a more outward-oriented one” (Dollar 2004, p. 7). While the economic interpretation of globalization often observes the concept as nothing new, this view tends to neglect important factors that offered the outline for its development in the first place. For instance, most of the intensifications seen in finances were the result of politically introduced reforms and treaties. Although politics paved the way for economic globalization, they are just as well affected and limited from its consequences. National governments lose not only their independence, but also their sovereignty, to supranational organizations such as the European Union (EU) or to the interests of global market dictators of Multinational Corporations (MNCs), all while state boundaries seem to erode (Dreher/Sturm 2013; Greig et al. 2007; Rapley 2004; Steger 2013). Moreover, new international political actors in the form of Non-Governmental Organizations (NGOs) have evolved as the voice of global civil society (Steger 2013).

Lastly, one needs to note that an economic globalization also incorporates the exchanges and flows of “ideas, information, and people” (Birdsall 2001, p. 4). This induces the share of values between societies and eventually a homogenization in cultures (Rapley 2004). It is disputed whether this convergence is as Ritzer (2010) states, an Americanization of the world, or rather as Greig et al. (2007) argues, a hybridization of global cultures. Steger (2013) generalizes this process as the expansion of social networks and interdependencies. Different authors argue for different approaches to comprehend globalization, in any case, its multidimensional character cannot be denied (Vujakovic 2009). Because “globalization contains multifaceted and differentiated processes, it is safe to say that virtually no areas of social life escape its reach” (Steger 2013, p. 14). To conclude with our definitions we will regard the recommendation of Rapley (2004) and summarize the concept into an economical, political and sociological category. For this study globalization will be considered in a broader sense to minimize potential dispute and maximize the usefulness within macro-level research:

Globalization is a process which connects economies, governments and social networks on a world scale and intensifies their interactions and global integration.

3.1 Explaining Poverty and Inequality

Next, we can consider the far less controversial concepts of poverty and inequality. For this study both poverty and inequality will refer to levels of income in a particular country, so that it may be applicable for later research. Poverty can be divided into an absolute and a relative measurement. People in absolute poverty earn and own less than a defined minimum necessary to provide for elementary human needs. This includes proper housing, the access to clean water, and the provision of medicine and food. This occurs mostly in developing countries, though “some people in the European Union [..], for instance homeless people or the Roma in some settlements, still experience this type of extreme poverty” (EAPN Social Inclusion Work Group 2009, p. 3). For developed countries poverty is mostly referred to in a relative form, in which the poor “struggle to live a normal life and to participate in ordinary economic, social and cultural activities” as their income is significantly lower than the average (EAPN Social Inclusion Work Group 2009, p. 3). An internationally agreed on measure, which is used by the EU for the (relative) national poverty line for income, is 60 percent of the median income. While absolute poverty can be measured universally, relative poverty will differ from state to state, thus often making inter-country comparisons difficult (EAPN Social Inclusion Work Group 2009).


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The Effect of Globalization on World Poverty and Income Inequality
A Cross-Sectional Analysis
University of Mannheim
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effect, globalization, world, poverty, income, inequality, cross-sectional, analysis
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Kelvin Okundaye (Author), 2016, The Effect of Globalization on World Poverty and Income Inequality, Munich, GRIN Verlag,


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