This article first appeared in Forum, The Edge Malaysia Weekly on October 30, 2017 - November 5, 2017

Why is the distribution of income more unequal in Third World countries? The economist Simon Kuznets developed a hypothesis to explain why developing nations tend to have a more unequal distribution of income.

Income inequality is inherent during the early period of a nation’s industrial growth. However, according to Kuznets, the income gap will narrow after a certain level of per capita income is achieved. The reasons for the initial income disparity include the fact that the profits of industrial growth go directly to business owners, who represent a small percentage of the population.

At the same time, the existence of “surplus labour” at the low end of the economic scale serves to keep wages down for the poorer members of the society. In addition, the upper classes tend to possess the skills and education that enable them to profit from the early stages of industrial development.

This hypothesis has since been used as a justification for government policies in developing nations that emphasise the attainment of rapid industrial growth, regardless of the immediate effects on income distribution, based on the view that such inequalities will automatically self-correct as growth continues.

However, recent research has indicated that Kuznets’ hypothesis fails to adequately explain the reasons for income inequality in the Third World. Thus, other factors must contribute to this situation.

One such factor is the distribution of the ownership of property, or land. In the Third World — where labour is relatively abundant and land and capital relatively scarce — the property share of agricultural income is higher. Where land distribution is quite unequal, income inequality may grow over time because the larger farmers absorb technical progress faster than the smaller farmers.

In other words, more wealthy farmers are able to invest in the technologies and materials that enable them to derive higher incomes from their land.

It has been found that land reform has a powerful equalising effect on income distribution. An example peculiar to Malaysia is the Felda scheme.

Another factor is the lack of educational opportunities for the poorer members of society. In developing nations, only the higher-income groups are able to attain the levels of education required to obtain high-income occupations. As a result, the educational system tends to perpetuate inequality of income from generation to generation, rather than acting as an avenue of social mobility.

There is also the problem of the entrenchment of elites. The rich elites have greater access to educational opportunities and are thus able to obtain the professional skills required for maintaining high levels of income. These skills increase in value by virtue of the fact that people with wealth and education often have the option of emigrating to other countries where income levels are even higher.

Another unfair advantage the elite classes have is that they tend to pay lower taxes than the poor because of a regressive taxation policy. For example, in the 1980s, in a certain South American country, those who earned less than the minimum wage paid 37.3% of their earnings in taxes. In contrast, those with incomes a hundred times as large paid only 13%. What results is a skewed class structure, in which the established elites have enormous clout in political and social matters.

The unequal distribution of income can also be attributed to the failure of government policies in Third World nations. During the early stages of growth, national governments tend to place too much emphasis on the attainment of wealth and too little on finding ways to solve domestic economic problems. However, welfare measures and infrastructure improvements are necessary to overcome conditions of inequality. A better strategy would involve tolerating a higher deficit while creating jobs.

Thus, increasing income equality will require a change in the policies of many Third World governments. Issues such as land reform and fair taxation will have to be addressed. Governments will also have to increase investment in educational programmes.

Beyond education, there is a whole range of ancillary activities that will also produce similar effects in improving the quality of labour: nutrition, health and other social investments. By focusing on such efforts, the governments of Third World nations can move towards greater income equality. This, in turn, will mark a step forward in closing the gap with other countries in this regard.

In the case of Malaysia, the primary objectives of economic policy can be encapsulated in the phrase “growth with equity” — ensuring a growing economy in which all benefit. The goal of improving equity in income and wealth distribution has been at the apex of Malaysia’s national development agenda.

Samirul Ariff Othman is an analyst with a think tank and is a consultant for government agencies and international institutions. He majored in Microbiology and Business Administration and did graduate studies in International Relations at Macquarie University, Australia. The opinions in this article are his personal views.

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