The Financial Express

Climate change, economic growth and income inequality

| Updated: March 26, 2021 21:39:44

Climate change, economic growth and income inequality

There was a general consensus during the middle of last century that economic growth measured by GDP growth is the most powerful instrument to reduce poverty, and therefore by implication reduces income inequality and also improves the quality of life of the people in developing countries. Empirical evidence based on cross-country and individual country case studies by many researchers provided  support to the hypothesis. Both the World Bank (WB) and the International Monetary Fund (IMF) also have lent their full support to such a  hypothesis. In fact,  economic growth measured by GDP still continues to  be these two institutions' mantra for global poverty alleviation and reducing income inequality.

Indeed, over the last few decades global income inequality between countries  has been on the decrease, particularly due to steady increase in incomes resulting from economic growth measured in terms of GDP  in developing countries like China, India and Brazil and the like. The most common measure of income inequality is the gini co-efficient which measures the statistical dispersion of income and wealth distribution of a country's population. The statistical estimation method involves comparing the cumulative proportions of the population against the cumulative proportions of income they receive. The value of the co-efficient lies between 0 and 1, where 0 indicates perfect income equality and 1 represents perfect inequality. However, the estimate can be extended to a global scale among countries.

According to a World Bank report entitled "Poverty and Shared Prosperity 2016: Taking on Inequality", the Gini coefficient of global inequality fell from 0.67 in 2008 to 0.62 in 2013. In fact, between 2008 and 2013 global inequality fell for the first time since the industrial revolution. This reversal of the trend was largely due to steady increases in income in developing countries, in particular, countries like China, India and Brazil. Also,  economic slowdown in developed economies in the period following the Global Financial Crisis (GFC) of 2008 further helped to reduce income disparity between developed and developing countries during the period.

While income inequality between countries has declined, income inequalities within countries have continued to rise. However, it must be borne in mind that income and wealth inequality is just one aspect of the multi- dimensional issue of inequality in a country setting. Other dimensions of inequality include inequalities based on demographics such as gender, race, ethnicity, religion and age; and the other important one  is public decision making process or more precisely political power  and access to public resources funded by the state such as education, health care, housing and other services.  Of course, it is needless to say that these different types of  equalities are closely interrelated.

Historically, economic growth since the industrial revolution has contributed to rising standards of living around the world. Rapid economic growth has been powered by the ever increasing use of natural resources, especially energy from fossil fuels. Over the last half a century for which data is available clearly show a highly positive correlation between global GDP growth and increased greenhouse gas (GHG) emissions. Climate change  induced by GHG emissions is now increasingly becoming a  civilisational threat.  Its manifestations are seen in rising temperature, increased and more frequent natural disasters . They have far-reaching  consequences for the economy affecting output, investment, employment and productivity. It is suggested that if this singular focus on economic growth using increased levels of fossil fuel and the destruction of the natural environment continue, it will lead to an irrational income distribution with affluence for few and high levels of unemployment and poverty for the rest. 

Furthermore, the statistical relationship outlined earlier leads to conclude that higher income countries are more responsible for a greater impact on climate change than those countries with lower income. This analogy can then further be extended to say that the rich people bear more responsibility for GHG emissions than the poor as the rich consume far more than the poor, thus make more demand on the use of natural resources.

According to the traditional growth paradigm  as advanced in the Solow model, capital accumulation is regarded as the engine of growth. Capital deepening allows labour to be more productive. Such a model also presupposes technology as another main driver of growth. In such a supply driven model, potential output is determined by a combination of labour, capital and technology. But according to the alternative model based on Keynesian aggregate demand as advanced by Nicholas Kaldor, demand is emphasised as the principal driver of output and income growth. The Kaldorian model then links capital accumulation with endogenous technological progress which enables to generate higher output (higher growth)  to respond to higher demand. This over time will lead to increased productivity.

Historically, increasing labour productivity has closely been associated with rising fossil fuel use which remains the principal source of GHG emissions i.e., climate change. The steady rate of GHG emissions will help achieve a relative rate of growth in GDP but that will also cause further environmental degradation in close proportion to growth in GDP.

This relative rate of  economic growth will lead to increased output and consumption. The production of goods and services (output) requires energy and materials such as metals, minerals, water, food and fibre, all of which come from the environment. The impacts of resource extraction, production, transportation and waste generation are central to understanding environmental degradation.

From economic analytical point of view, environmental costs associated with output (GDP) growth has not been factored in for the market to price them or counter-intuitively to say that the market mispriced of  GHG emissions causing climate change. All those arguments simply say that  there was a market failure, hence state interventions are needed to remedy the situation to enable the market to function using climate change mitigation measures. In fact, the market did not even know that environmental costs ever existed for almost two centuries until scientists started to point them out.

According to the Keynesian model,  aggregate demand or spending determines output. Output creates GHG emissions which lead to climate change. The broader income distribution effects of climate change received attention over time. It is argued that at a high level of aggregate demand with full employment, GHG emissions accelerate. Combining the two can put a squeeze on profits, thus lowering investment causing output to fall. This will lead to fall in employment in the short run due to deficient demand while productivity growth slows down leading to  lowering potential incomes and employment in the long run. In fact, a World Bank report on this issue in 2002 noted that climate change was making achievements of MDGs difficult.

Climate change is accelerating the environmental degradation process as well as frequency and intensity of extreme weather conditions. 85 per cent of GHG emissions are accounted for the by G20 countries but the burden of climate change is almost equally shared by non G20 countries as well. Empirical studies suggest that climate change could increasingly play an influential role in shaping global income inequalities across countries and also will determine levels of inequality within countries. Greater across countries income inequality may indeed increase the exposure of the disadvantaged countries to climate change.

It is increasingly becoming clear that poor countries disproportionately bear the burden of the effects of climate change due a rise in economic damage caused by extreme weather conditions.  It has also been observed that rising temperatures have adversely affected countries located around the tropics which tend to be poorer than countries located in more temperate climate. Thus, poorest countries are becoming even poorer. Also, climate change can cause sudden changes to the weather patterns causing declines in agricultural output and income and can also trigger health problems.

Climate change is also impacting income distribution of counties.  People already living in poverty and other vulnerable groups are disproportionately exposed to climate change and incur greater losses. They also have very fewer resources to deal with the crisis thereby suffer the most.  For people who rely on farming for income and food, the effects of climate change are very stark.

Climate change also contributes to  exacerbating poverty, because those most affected by drought or floods resort to distress selling of their land or/and livestock at very low prices-- thus transferring assets from the poor to the wealthy. This is a situation not uncommon in countries such as Bangladesh.  In effect, climate change can generate a vicious cycle of increasing poverty and worsening inequality. Climate change affects both the prevalence and depth of poverty, thus exacerbating income inequality within a country.

If climatic change impacts on economic outcomes remain unaddressed, it will contribute to  not only increase in income inequality between countries but also exacerbate income inequalities within countries. More importantly, failure to reverse the trends in environmental degradation can also reverse the gains made so far in reducing income inequality among countries and within countries. Therefore, finding alternative sources of energy that do not contribute to climate change will be of immense economic benefit to all and could also become an opportunity to reduce income inequalities among and within countries. 

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