In Depth: Should countries pursue openness?
The accelerated pace and intensity of trade liberalization, openness and integration over recent decades has been a ‘win-win’ between countries but at times a ‘win-lose’ within countries. While increasing prosperity overall, free trade may bear partial responsibility for raising inequality by reducing the income of relatively small and concentrated social groups.
However, attempting to address inequality by reversing globalization is counterproductive and disastrous for sustained economic growth. GCI 4.0 results show that more open economies are more innovative and tend to be characterized by more competitive markets. Policies should, therefore, focus on improving the conditions of those specifically impacted by globalization rather than favouring protectionism. Combining GCI data with other sources suggests that redistributive policies, safety nets, investments in human capital, and more progressive taxation could help reduce inequality without compromising a country’s level of competitiveness.
Globalization has contributed to reducing both global poverty and between-countries inequality. Trade has contributed to generating prosperity across all countries in the past few decades.31 The benefits of trade openness have been particularly remarkable in South-East Asia and China, where export-led economic growth has quickly raised the living standards of a sizable portion of the population. In China, for example, between 1996 and 2014 the number of people living on less than US$3.20 per day collapsed from 890 million to 129 million.32 In Viet Nam, evidence suggests that the 2001 US-Viet Nam bilateral trade agreement reduced poverty by increasing wage premiums in export sectors, reallocating labour from agriculture to manufacturing and stimulating enterprise job growth.
Economies that participate the most in the global economy are also the most competitive. The GCI highlights the centrality of international openness for productivity. It enables greater and faster diffusion of ideas and technology, which boosts innovation (Figure 17). Open countries also tend to have more competitive markets, which compels domestic companies to innovate and procure the latest technologies to compete with the best international firms (Figure 18).
Since 1980, within-country income inequalities have increased in most economies. Over the past three decades, the Gini coefficient increased in 17 out of the 22 OECD countries for which long-term data is available. In the United States, where the increase is among the highest, the share of income accruing to the richest 1% of the population has more than doubled to about 20% over the past 30 years, while the share attributed to the middle class has fallen.33
Many emerging economies have also experienced an increase in inequality. While distributional effects are often attributed to declining manufacturing workforces, they are also evident in many countries that have experienced sustained economic growth and decreasing poverty. In China, for example, between 1995 and 2015 the Gini coefficient increased from 36.3 to 40.2,34 and the share of income accruing to the top 10% of the population increased from 33% to 41%.
Openness to international trade bears part of the blame for rising inequality, but there are other important factors. Evidence supports the idea that international trade can drive down wages and employment in the manufacturing sectors most exposed to foreign competition.35 However, the expansion of automation, the rise of the digital economy and generalized reduction in taxation progressivity have also had a significant impact.36
To reverse economic integration in an attempt to curb income inequalities would be highly ineffective and counterproductive. Protectionist policies will not address the continuing impacts of factors such as automation and digitization on the structure of economies and distributional outcomes. They will, however, harm the transfer of technologies, the innovation process and economic growth. In the short term, protectionism could also negatively affect workers engaged in global value chains. Redistribution of economic gains would be better achieved through well-designed international agreements and national policies.
Countries have succeeded in lowering inequality by making greater efforts to redistribute income. There is evidence showing that the tax-benefit systems found in most advanced economies have helped to attenuate inequality37 and protect vulnerable households from adverse economic shocks. Figure 19 shows that economies that redistribute the most can attain lower inequality levels while at the same time continuing to maintain policies of openness. Although safety nets are more common in advanced economies, some emerging economies, too, have recently started to successfully reduce inequality through public policies and programs.38
Policies promoting more equal access to human and financial capital are crucial in narrowing inequalities. Measures such as income transfers may mitigate some cyclical causes of inequality, but to address structural inequalities requires complementary measures aiming to level the playing field for disadvantaged households. These can include broadening access to quality education and healthcare, greater financial inclusion, more progressive taxation and efforts to curb tax evasion.
Active labour market policies also play a central role. While safety nets are useful to smooth transitions across jobs, structural changes in the labour market can make it difficult for workers who lose their job to find another at a comparable wage level in the short time. With the current speed of technological disruption, workers in the middle of their careers may see a significant contraction of demand for their current skills.39 A recent study suggests that over the next decade, in a set of companies representing 15 million workers in total today, 1 million jobs will disappear but 1.7 million new jobs requiring new skills will be created.40 Further, by 2022 at least half of all current employees will require significant reskilling and upskilling.41 Policies to address this tremendous challenge are clearly needed—as is investment in infrastructure, which has been shown to sustain real income growth among the lower-skilled and foster employment and re-qualification in de-industrialized areas.
Market forces alone cannot be relied on to address inequality. Policies that redistribute gains and opportunities from winners to losers are required to ensure that trade is inclusive. While a growth agenda is central to achieving national prosperity, there is a need for complementary policies—both passive (income transfers) and active (e.g targeting education and reskilling). Workers vulnerable to international trade need to be resilient to income shocks—but should also be encouraged to acquire the skills necessary to benefit from the changing economic landscape.