The Impact of Markets on Poverty

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“The world is flat,” declared New York Times columnist Thomas Friedman when explaining that globalization has compressed financial markets and international competition into a single global economy. The previous 30 years of human history marks the rapid expansion of free-market capitalism. Market recessions affect the world’s poor more negatively than they do its rich because of poverty’s inherent vulnerabilities, such as food and water insecurity, low levels of wealth and subsequent job loss or wage stagnation. That is why it is so important to understand the impact of markets on poverty.

The Facts on Global Inequality

Global inequality exists. Sixty-four percent of the world’s adults own less than $10 thousand in wealth. This accounts for just 2 percent of the global wealth share. The top 10 percent of the global population is in possession of 84 percent of all wealth. Wealth inequality continues to grow, further widening the wealth gap between the world’s rich and poor.

It isn’t only individuals who hold wealth. The world’s 10 richest countries account for 74 percent of the world’s wealth. This leaves only 26 percent for the rest of the world. In 2009, financial institutions, such as banks, insurance companies and investment firms, owned 68 percent of all shares in the world’s largest corporations. This data shines a light on the depth of wealth inequality felt by countries and populations around the world.

The 1997 Asian Financial Crisis

A localized currency and financial crisis in Thailand spread across Southeast Asia in 1997. The result was a massive devaluation in the currency. The crisis was brought on, in part, by wealthy hedge fund managers betting billions of dollars against Thailand’s currency, the baht. This phenomenon has been dubbed a “speculative attack,” which involves selling and buying currency at fixed exchange rates. If the exchange rate is unsustainable under the pressure of a coordinated attack, then the currency’s price will plummet and the speculators will make a profit.

The sudden devaluation of the baht resulted in a crisis for Asia. Countries from Indonesia to South Korea required loans from the International Monetary Fund (IMF). They had to raise taxes, interest rates and to reduce public spending. Incomes fell by 6 to 13 percent across Asia, while the prices for food and housing increased. This is just one result of the impact of markets on poverty.

The 2008 Global Recession

In the United States, the 2008 recession resulted from market speculation and the collapse of the American housing market. What began as an American crisis quickly spread across the world due to the global interconnection of financial institutions, markets and corporations. Suddenly, workers in Cambodia were without a job, entrepreneurs in Egypt lacked access to credit and wages declined in France. All of this happened because of an American crisis.

The Organisation for Economic Co-operation and Development (OECD) estimates that the world lost 5.5 percent of its potential output because of the global recession. Additionally, global poverty increased and wealth inequality continued its rise, most markedly in poor countries. This is another direct example of the impact of markets on poverty.

The Impact of Markets on Poverty

When market recessions or depressions occur, they affect the world’s poor and rich in vastly different ways. Although an economic downturn could hardly be described as good for anyone, they are particularly dangerous for vulnerable individuals and communities. Poor populations around the world lack the resources to adequately prepare for unexpected market crashes or downturns. In many cases, people may lose their jobs, see a reduction in income and experience greater wealth inequality. Governments, meanwhile, receive less revenue and must either increase borrowing or reduce spending. All of this contributes to increased rates of poverty.

The rich also lose wealth during times of economic hardship; however, they do not feel the impact of it. Policies that aim to reduce government budget deficits affect the poor directly. Wealthy people are inherently less reliant on government programs such as housing, healthcare or education, so their livelihoods are not threatened by spending cuts. Furthermore, because wealth and corporate shares are heavily concentrated among the world’s rich, they reap the benefits of a strong global economy more so than the poor. This widens the gap in wealth inequality because wealth inequality growth accelerates during times of recession.

Solution One: Financial Transactions Tax

Research has found two viable solutions to combat widening wealth inequality and offset the costs incurred by the world’s poor by fluctuations in the global financial markets. The first is a tax on financial transactions, such as stock trades. The second is a more effective, no-leaks global tax policy.

Many European countries and several others levy a tax on financial transactions, resulting in greater government revenue and less volatile markets. If governments worldwide adopted this measure, the trend is expected to hold. A tax on financial transactions would not only limit growing wealth inequality but it would also make markets more stable. Because each transaction is taxed, financiers feel less inclined to engage in the high-volume buying and selling of stock. Speculation, a primary cause of the 2008 Global Recession, would therefore decrease.

Solution Two: Global Tax Policy

The United Nations Economic Commission for Africa (UNECA) estimates that Africa alone loses $100 billion annually to tax evasion, exceeding the total foreign aid invested in the continent. Tax Justice Network, meanwhile, estimates a loss of $500 billion globally due to profit shifting. As a percentage of the GDP drops, developing countries are affected the most by tax evasion.

Multinational companies or wealthy individuals are able to keep their money in tax havens or countries with very low effective tax rates. Tax Justice Network and the United Nations General Assembly concluded that the best way to combat tax havens is to establish international tax standards. Under such a system, multinationals and individuals would pay a minimum tax no matter where the money is kept, ensuring that it cannot be hidden from governments.

If governments and international institutions enact these changes by adding global tax compliance and a tax on financial transactions, markets would become more efficient, equitable and safer for all people. Global poverty continues its decline; however, past recessions teach that many remain vulnerable to the impact of markets on poverty. Friedman’s flat earth description of the interconnected global market can work for both the world’s poor and rich. If markets become more stable and if governments have the revenue to properly combat the threat of poverty.

Kyle Linder
Photo: Flickr

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