The Dynamics of Income Inequality in Mexico since NAFTA

That Mexico is a highly unequal country is a fact that has been recognized at least since Alexander von Humboldt wrote at the beginning of the nineteenth century that the region then known as New Spain was “the country of inequality.” Sadly, this is still true in the twenty-first century. For example, Corbacho and Schwartz (2002) point out that “Mexico’s income inequality is significantly more pronounced than the Latin American average, which is the region with the highest degree of inequality in the world.” Also, looking at the long-run trend in income inequality in Mexico leaves little room to be optimistic. Historical data show that while Mexico achieved an important reduction in inequality during the 1960s and 1970s, periods of very rapid economic growth, the country has experienced very little progress in income distribution since the 1980s (Székely 2005).

This situation, however, may have started to change in recent years. This paper provides evidence on the reduction in income inequality that has taken place in Mexico since 1994 and discusses some of the likely sources of this trend (see figure 1), which is important for at least two reasons: first, because it has almost completely reversed the widely documented increase in inequality that occurred in the 1984–94 period (Bouillón, Legovini, and Lustig 2003; Legovini, Bouillón, and Lustig 2005), and second, because the reduction seems to be the result of two important structural changes in the Mexican economy: the arrival of better-targeted social programs such as Progresa/Oportunidades and a reduction in labor income and wage inequality that seems to be associated with the improvement in educational levels in Mexico. A third contributing factor to the recent reduction in inequality has been the growing flow of remittances that many Mexicans living abroad send to their families left behind in Mexico.

Figure 1.

Mexico’s Gini Coefficient and Theil Index

Source: CEDLAS and World Bank (2010).

The possibility that both social policy and educational improvements partially explain the reduction in income inequality in Mexico cannot be underestimated. In fact, income inequality is diminishing in several Latin American countries, and it is possible that similar factors could be at play in many of those countries.¹ This could lead not only to an appropriate evaluation of the new social policies that are being implemented in the region but also to a reconsideration of the effect that higher levels of education, combined with globalization and trade liberalization, may have on inequality in middle-income countries.²

Table 1.

Overview of Mexican Economy

The paper first provides an overview of macroeconomic conditions in Mexico during the past decades followed by estimates of income inequality in Mexico using alternative definitions of income. Next, a Gini decomposition analysis is conducted to investigate the contribution of different income sources to the evolution of inequality in Mexico, and the role of income labor and wage inequality is discussed in explaining the dynamics of inequality. The conclusions follow.

An Overview of Mexico’s Economic Conditions since 1950

Table 1 provides an oversimplified summary of Mexico’s economic performance since 1950. In the first stage (1950–70), GDP grew at a relatively rapid pace (3 percent a year per capita), with price stability, low fiscal deficits, and a fixed exchange rate since 1956. The second stage (1970–82) was again a period of rapid growth (3 percent a year per capita), but with macroeconomic instability. During this period, Mexico suffered double-digit annual inflation and large devaluations in both 1976 and 1981. Mexico’s government incurred large fiscal deficits, and public sector external debt soared. The two initial stages were characterized by a semi-closed economy with high tariff and nontariff barriers. During the first stage, inequality remained relatively stable, whereas during the second stage there was a rapid reduction in income inequality in Mexico (Székely 2005).

The third stage (1982–94) was one of structural adjustment and important economic reforms. During this period Mexico went through...