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  • Channels from Globalization to Inequality:Productivity World versus Factor World
  • William Easterly

Globalization and inequality are on the minds of many these days. To antiglobalization protesters, "transnational corporations . . . expand, invest and grow, concentrating ever more wealth in a limited number of hands." 1 Sinister agents such as the International Monetary Fund and World Bank are aiming at an outcome "in which all productive assets are owned by foreign corporations producing for export."2 Recently, "'globalization from above'" has shifted "toward a more destructive phase, marked by increased militarization, worldwide recession, and increased economic inequality."3 The protesters usually believe globalization is a disaster for the workers, throwing them into "downward wage spirals in both the North and the South." They point out that the total income of the poorest half of humanity is less than the worth of just 475 billionaires.4

Apart from such extreme rhetoric, what are the facts on globalization and inequality? Through what channels does globalization affect inequality between and within countries? Globalization is the movement across international borders of goods and factors of production. Conventional analysis of the effects of globalization on inequality looks at the effect of trade and factor flows on returns to factors, on factor accumulation, and on national income. In this paper, I examine how predictions of globalization's effect on inequality vary depending on whether income differences arise from productivity differences—"Productivity World"—or from different factor ratios—"Factor World."

There is no attempt here to answer the big question of whether globalization raises or lowers inequality. Rather, I follow many previous authors in setting out [End Page 39] textbook alternatives and then discussing whether factor endowments or productivity channels are consistent with particular outcomes. I thus examine the actual behavior of inequality and trade, trends in trade and factor flows, factor returns, and relative incomes to assess which model is more relevant in particular cases.

Channels by which Globalization Affects Inequality in Standard Models

In this paper, globalization is defined as the free movement of capital, labor, and goods across national borders. In discussing the effects of globalization, I have in mind unhindered flows as compared to a situation with restricted flows or, in the extreme case, no flows at all. Factor World is defined as equal productivity levels across nations, whereas Productivity World is defined as differing productivity levels. These are polar cases, of course, as there are intermediate instances of differences in both factor endowments and productivity; however, they are used here for pedagogical clarity.

Factor Movements

In the Factor World model of factor movements, free movement of factors tends to reduce inequality between nations while having different effect on inequality within rich and poor nations. In Factor World, international inequality—income differences between countries—is due to different capital-labor ratios. Rich nations have more capital per worker than poor nations. Rates of return to capital will be higher in poor nations than in rich nations while wages will be higher in rich nations than poor nations.

The equations are as follows. Let Yi, Ai, Ki, and Li stand for output, labor-augmenting productivity, capital, and labor, respectively, in country i, which can be either rich (R) or poor (P).

Let ki = Ki/Li and yi = Yi/Li. The rate of return to capital r and wage w in country i is

[End Page 40]

If AR = AP= A, then the per capita income ratio between the two countries when A is the same is

If there is free mobility of factors, then capital will want to migrate from rich to poor nations, while workers will want to migrate from poor to rich nations. This will decrease the capital-labor ratio in rich countries, while increasing it in poor countries. These flows will continue until capital-labor ratios are equal across nations and factor prices are equal, steadily decreasing income gaps between nations (reducing international inequality). Compared to the no-factor-mobility state, returns to capital will rise in rich countries and fall in poor countries. With factor mobility, wages will fall in rich countries and rise in poor countries. If everyone has raw...

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Additional Information

ISSN
1534-0635
Print ISSN
1520-5479
Pages
pp. 39-81
Launched on MUSE
2005-02-07
Open Access
No
Archive Status
Archived 2012
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