As the debate about inequality grows in the U.S., what lessons can be drawn from Latin America, which — although still highly unequal — is the only region that managed to reduce income inequality in the last decade?
Despite being the world’s largest economy, the U.S. is the most unequal among the industrialized countries. In 1979, the top 20 percent of Americans received 43 percent of income, while the top 1 percent got 9 percent. Today, however, the top 20 percent of the population captures over 50 percent of pre-tax income, while the top 1 percent receives nearly 15 percent.
Meanwhile, Latin America has steadily become more middle-income while reducing poverty.In16 of 17 countries there has been a significant decline in income inequality over the past 10 years. How did they do it?
First, nearly half of the decline in inequality can be explained by improvements in household labour income. Economic growth created greater demand for domestic goods, moving more people into the labor force, driving wage increases. This helped reduce the wage gap between college-educated workers and those without a degree. In the U.S., this education gap has increased in recent years.
Second, Latin America leads the world in social programs that give financial aid to people in poverty, conditional on keeping their children in school and keeping up with vaccines and medical checkups. These transfers make up between 0.5 and 3 percent of GDP, but they account for nearly a third of the decline in inequality and are the principal means of poverty reduction for 18 countries in the region, benefiting 113 million people. Social transfers cannot replace weak social services, but they have transferred financial resources without much intermediation.
In the U.S., although taxation is generally progressive, it is weaker on direct social transfers. The earned income tax credit is the key component of redistributive fiscal policy, but it works through the taxation system – which often misses the poorest households that fall through the cracks of social safety nets and labour markets.
Finally, a “demographic dividend” (lower fertility rates and increasing life expectancy) in Latin America allowed labour-market participation to expand.
In the U.S., the closest thing to a demographic dividend would be comprehensive immigration reform to enable an influx of legal labor-market entrants and its multiplier effects, boosting local economies.
Latin America is hampered by centuries of class, race and gender-based discrimination. But there are lessons for the U.S., where the architecture of the social and employment protection system was designed for a booming economy, not a faltering one. While economic growth in the developed world continues to be tenuous, redistributive measures will demand more pre-emptive action in social policies than in labour markets. This is a key Latin American lesson: markets only go so far in redressing inequality gaps.