Can Policymakers Stem Rising Income Inequality?


By David Coady and Sanjeev Gupta

The issue of rising income inequality is now at the forefront of public debate. There is growing concern as to the economic and social consequences of the steady, and often sharp, increase in the share of income captured by higher income groups.

While much of the discussion focuses on the factors driving the rise in inequality—including globalization, labor market reforms, and technological changes that favor higher-skilled workers—a more pressing issue is what can be done about it.

In our recent study we find that public spending and taxation policies have had, and are likely to continue to have, a crucial impact on income inequality in both advanced and developing economies.

In advanced economies, this is especially important given that the ongoing fiscal adjustment needs to be continued for many years to reduce public debt to sustainable levels. But it is equally important in developing economies where inequality is relatively high.

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Fiscal Consolidation: Striking the Right Balance


By David Lipton

(Version in Español, in عربي)

The debate on austerity vs. growth has gained in intensity, as countries in Europe and elsewhere struggle with low growth, high debt, and rising unemployment. In essence, policymakers are being asked to tackle a continuation of the worst crisis since the Great Depression.

This would be no easy task under any circumstances. But it is made considerably harder by the fact that a number of countries need to engage in fiscal consolidation simultaneously. Complicating the picture further is the fact that monetary policy in most advanced economies is approaching the limits of what it technically can do to stimulate activity, while global growth remains weak.

There is no getting around the need to reduce debt levels. High debt leaves countries exposed to interest rate shocks, limits their capacity to respond to future shocks, and reduces long-term growth potential.

At the same time, we all know that fiscal consolidation―reducing deficits by cutting spending or raising revenues―can and usually does stifle growth. With more than 200 million people out of work worldwide, and with growth in advanced countries forecast at a mere 1½ percent for 2012, getting the pace of consolidation right is therefore of paramount importance. So how do policymakers strike the right balance?

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This Time Is Different—Fiscal Policy in Low-income Countries


By Carlo Cottarelli

When it comes to the crisis, most of the media attention is focused on advanced and emerging market countries. But low-income countries have been badly hit too, reflecting their growing integration in the world economy. We can see sharp declines in exports, FDI, tourism, and remittances. Output growth in 2009 will be less than half of the pre-crisis rate of over 5 percent. Sub-Saharan Africa is the worst affected, with a contraction of real per capita GDP of almost 1 percent.

This is the bad news. But there is some good news in all of this. Low-income countries have been able to use fiscal policy as a countercyclical tool this time around, far more than in the past. Fiscal deficits are expected to increase in three-quarters of low-income countries in 2009, with an average expansion of 3 percent of GDP. Revenues have grown slower than GDP, reflecting the disproportionate impact of the crisis on trade and commodity revenues, as well as weakening tax compliance. Expenditures are expected to increase by about 2 percentage points of GDP.

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Supporting an Upswing in Africa Through Good Economic Policies


By Antoinette Sayeh

Ensuring that sub-Saharan Africa emerges strongly from global recession will require both a sustained recovery in the global economy and sound domestic policies. The good news is that domestic policies are already supporting economic activity.

Many countries entered the crisis in much better shape than in the past. The region’s fiscal position was on average in balance in 2008, compared with big deficits in past cycles. Debt levels were also much lower than in the early 1990s, supported of course by recent debt relief initiatives. Inflation had been brought under control across most of the region. And, reflecting sounder and more open policies, countries had accumulated much larger buffers of foreign reserves—the median ratio of reserves to GDP was 14 percent last year, compared to about 5 percent in the early 1970s.

Nigerian market: many African economies are in better shape than during previous crises (photo: Reuters)

Nigerian market: many African economies are in better shape than during previous crises (photo: Reuters)

This favorable starting point gave many countries in the region a fair amount of breathing space. They were able to respond to the crisis by allowing fiscal deficits to rise and interest rates to fall, reaping the rewards of previous good policies.  Countries with flexible exchange rates also let them adjust to the changing external environment. Such policy responses helped economies absorb some of the impact of the external shocks. Not all countries were able to take this route, however. Faced with large macroeconomic imbalances that pre-dated the global slowdown, a few countries had to tighten their fiscal or monetary policy stance.

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