Is Globalization Good for the Poor in China?

• Author: Shang-Jin Wei
• Position: Advisor in the IMF's Research Department

Developing countries worry that opening up to trade with the rest of the world may make the poor poorer and the rich richer, with China sometimes cited as an example of growing income inequality. A recent IMF study, however, finds that the reality is far more complex.

What trade openness does for the poor in developing countries is a controversial issue. It is sometimes argued that the poor have been made worse off by globalization or, at least, that the benefits have gone disproportionately to the rich.

Much of the research that has examined the impact of globalization has been based on cross-country comparisons. This approach is tainted with two key problems. The data on income and inequality in different countries cannot always be compared because of differences in the definition of variables and data-collection methods. It is also difficult to control for differences in culture and institutions, including the legal system, that may influence growth or inequality.

Professors T.N. Srinivasan and Jagdish Bhagwati argued in a paper written in 1999 that cross-country regressions are deficient and cannot be relied on to unravel the complex links between globalization, growth, poverty, and inequality. They insisted that the most compelling evidence must come from careful case studies. One may not fully agree with Srinivasan and Bhagwati, but their warning should give sufficient pause for us to complement the cross-country studies with careful studies of individual countries. The data are much more comparable, and the culture and institutions are also much more similar, for different regions within a country than they are across countries.

In that spirit, we decided to closely examine the impact of globalization on the living standards of the poor and on income inequality in China (see box). While the Chinese economy has dramatically increased its openness over the past two decades, income inequality has risen as well. The World Bank estimates that China's Gini coefficient-a measure of the inequality of income distribution in a society (0 being perfect equality and 100 being complete inequality)-rose from 28.8 in 1981 to 38.8 in 1995. From these aggregate statistics, it is tempting to conclude that embracing globalization has contributed to the rise in inequality. But our study suggests a different conclusion, which might be of interest to both globalization enthusiasts and skeptics.

What makes China a good case study?

Reason #1. A large country, China represents a lot of observations and a chance to make statistically powerful inferences. It is harder to do a similar analysis for smaller economies, like Bangladesh and Costa Rica, that have also recently experienced huge increases in their ratios of trade to GDP.

Reason #2. China is a developing country that has embraced globalization in the areas of trade and foreign direct investment. Before 1978, when the government formally adopted a policy of opening to the outside world, China's foreign trade was negligible, but, since then, the ratio of trade to GDP has quadrupled-from a mere 8.5...