Thank you for giving me an opportunity to make a key note address at the Sri Lanka Economic Association’s Annual Session. I am truly honored to be here with so many distinguished economists.
I believe the theme of this year’s Seminar “Inequity, Poverty and Development” is extremely pertinent to opportunities and challenges today’s Sri Lanka is facing.
Sri Lanka is a country with enormous potential. During a 25-year civil conflict, its GDP grew at around 4.5 percent a year. Absent the conflict, its GDP could have grown 2-3 percentage points faster, according to the research done by Sri Lankan economists, putting Sri Lanka in the ranks of high performing East Asian countries. If the rest of the country can mimic the Western Province’s performance—6.2 percent economic growth (1996-2005), poverty rates of 9 percent—Sri Lanka can eliminate extreme poverty in one generation. And Sri Lanka’s healthy and educated labor force is well-positioned to benefit from the globalization that is sweeping the world.
However, the prospect for Sri Lanka to realize this high potential has been and will be compromised by increasing inequality. The rising inequality within the country has severely limited the extent the growth could have reduced poverty. Furthermore, the ongoing conflict has consumed extra resources which otherwise could have been used to promote policy and institutional changes which help consolidate sustainable growth. While inequality may not be the primary cause of conflict in Sri Lanka, research from other countries has shown that the challenge of achieving peace is sometimes made difficult in an environment with increasing regional inequality. The civil conflict in Nepal and the Maoist movement in India could be cited as examples in this regard.
Let me start with the relationship among growth, poverty reduction and inequality in Sri Lanka. The respectable growth rates during the past decade have not brought down poverty as fast as had been expected. In 2002, the poverty head count stood at 22.7 percent compared to 26.1 percent in 1990. This meant that poverty headcount reduced by only 1.1 % per annum. During the same period, real GDP per capita increased about 3.1 percent annually. The implicit growth elasticity of poverty reduction was therefore about one third. This is exceptionally little “bang for the buck” in terms of poverty reduction per unit of economic growth.
| Poverty Assessment for Sri Lanka |
In the recent Poverty Assessment for Sri Lanka supported by the World Bank, we compared Sri Lanka’s experience in terms of growth and poverty reduction during 1990s to several East Asian economies—China, Korea, Malaysia, Thailand and Vietnam. Two things stand out. First, even if real per capita GDP in Sri Lanka grew at a healthy rate of 3.1 percent, it is still lower than the East Asian comparator countries, despite most of these countries suffered from deep economic crisis in the late 1990s. As you would expect, China is the front runner growing by almost 9 percent per annum during the 1990s. Korea, Malaysia and Vietnam grew about 5 percent per annum, while Thailand grew at 3.5 percent, only a bit faster than Sri Lanka.
Second, all the comparator countries were much more successful in terms of poverty reduction than Sri Lanka. As a result, poverty reduction per unit of real growth – a measure of growth elasticity of poverty reduction, was much higher in the comparator countries than Sri Lanka. More specifically, the growth elasticity of poverty reduction for Sri Lanka was about one third (0.35). Comparatively, growth elasticity for Thailand was 2.6 and that for Vietnam was 1.4. Even China, where inequalities have increased notoriously during the past decade, elasticity was about 1, still higher than Sri Lanka.
In other words, China is not efficient in reducing poverty, but with its high growth rate and modest growth elasticity, it reduced poverty headcount by 8% annually during 1990-2001.
Why poverty reduction has been so slow in Sri Lanka? The main reason, in my view, has to do with rapid rise in inequality over the years. Comparing again Sri Lanka to a handful of East Asian economies, Sri Lanka’s Gini coefficient during the 1990s, increased more rapidly compared to countries such as Korea, Malaysia, Thailand and Vietnam. Only China recorded a higher growth in the Gini coefficient during the comparative period
Notwithstanding the foregone discussion, the possible silver lining is that the speed of poverty reduction was much more rapid between 1996 and 2002 than in the early nineties when poverty actually increased. The main reason was higher growth in real per capita consumption between 1996 and 2002 compared to the earlier period. According to the Household Income and Expenditure Survey real per capita consumption increased 3.3 percent per annum between 1996 and 2002, compared to less than 1 percent per annum in the early nineties. However, inequality, as measured by the Gini coefficient, continued to increase unabated. The new Household Income and Expenditure Survey which DCS is currently completing will allow us to analyze whether the higher speed of poverty reduction has been sustained in recent years, and whether inequalities have continued to increase.
In the Poverty Assessment, we also quantified to what extent poverty reduction has been dragged because of rising inequality, by decomposing the change in poverty into a part that was the result of growth and a part that was the result of the change in inequality. The results are stunning. If inequality had not increased between 1990 and 2002, the observed growth in mean consumption would have been sufficient to reduce poverty by 15 percentage points. This would have brought poverty level down to a single digit — which is less than half of its actual level in 2002. Put another way, the increase in inequality that took place from 1990 to 2002 prevented a decline in the poverty head count by over 15 percentage points.
Why inequality has increased? The Western Province has come to dominate the Sri Lankan economy, and this domination is a key factor behind increasing inequalities. The Western Province has grown significantly faster than the rest of the Island—6.2 percent per annum since 1996 compared to an average of 3.1 percent for the other provinces (i.e half as much of the Western Province).
Importantly, in the Western Province, poverty has declined most significantly and inequality has increased much less, while in other provinces, poverty reduction has been much stagnant and inequality has increased. In Uva, Sabaragamuwa, and North- Western, poverty has even increased. The growth pattern of the Western Province is very pro-poor. The problem is not that the Western Province has grown too fast, but that other provinces have grown too slow.
A further analysis of the growth patterns among provinces suggest that a key factor behind the low growth is the stagnation in the rural economy—both the farm and non-farm economy—over the past decade. The trend is particular strong in some of the most lagging regions. In Uva, according to the Household Income and Expenditure Survey done by the Department of Census and Statistics, real per capita consumption in urban areas increased by over 4 percent per annum, while there was no growth at all in the rural areas, where more than 80 percent of the population live. The same pattern, although somewhat less pronounced, is observed in Sabaragamuwa.
These facts have raised questions of why growth in the rural economy has been so slow and what policy measures should be taken to make rural economy grow faster so that equitable development can be achieved. Let me come back to this point a bit later.
Another unfortunate factor in dragging long term growth and in shaping regional disparities is the ongoing conflict. As you know, data coverage for the North and East leaves much to be desired. For example, the 2002 Household Income and Expenditure Survey did not include any districts in the Northern or Eastern Provinces. Nevertheless, there is little doubt that the population in the North and East in many respects is disadvantaged: not only have they borne the brunt of violence resulting in several hundred thousand internally displaced people over the years, they have also seen their opportunities for economic growth severely curtailed.
Unemployment, in particular for the well-educated is higher than in the rest of the country. Infrastructure services—for example power or roads—are poorer in the North and East than in the rest of the country. Health and education outcomes are worse—for example 46 percent of children below the age of five are underweight in the North and East, compared to 29 percent in the rest of the country.
Now let us think about what aspect of equity is important in the pursuit of long-term prosperity. We would like to emphasize the importance of “equality in opportunity” against the notion of “equality in outcome”. We believe that individuals should have “equal opportunities” to pursue a life of their choosing, while at the same time be guaranteed that they do not suffer extreme deprivation.
The adverse effects of unequal opportunities are all the more damaging because of what often is referred to “inequality traps”. This concept of “inequality traps” was discussed in the World Development Report 2006. The Report argues that an unequal distribution of wealth and power in a society often leads to the creation of institutions that systematically favor the interest of those with more influence, and perpetuate inequalities. The Report takes examples that, when property rights are enforced only selectively, or when budgetary allocations benefit mainly the wealthy or politically influential, poorer groups end up with unexploited talent. Such institutions are typically not conducive to the investment, innovation and risk-taking. Society as a whole is therefore likely to be less efficient and to miss out on opportunities for innovation and investment.
Does this concept of “inequality traps” provide lessons to Sri Lanka? A minute ago, we left the key questions of why urban-rural growth disparity is so significant, why growth in the rural economy has been so slow, and what policy measures should be taken to make rural economy grow faster. Let us address these issues employing a concept of “inequality traps” of institutions. I would like to point out three key areas, namely, (i) investing in human capacities; (ii) expanding access to infrastructure and promoting high value added in agriculture sector; and (iii) institutions for higher growth.
First, in terms of investing in human capacities, Sri Lanka has traditionally been admired for its extraordinary achievements. Numerous surveys and other data confirm a high degree of equity in the access to health and education. For example, the 2000 Health Survey showed that mothers from poor and rich families are equally likely to consult a trained health provider if their child is seriously ill. And roughly the same proportion of women in both poor and rich households uses professional maternal health services when giving birth. In education, the traditional indicators for access—for example the primary enrollment rate—also indicate a high degree of equity in access to educational services. Sri Lanka boasts of near universal primary enrollment – both rich and poor included.
| Gearing Sri Lanka's Education to the Global Economy |
However, it is not sufficient to ensure equal access to schooling and health facilities. It is equally important to ensure adequate quality. In education it should be ensured that all children acquire at least a basic level of skills necessary to participate in today’s global economy. There are no internationally comparable school test scores for Sri Lanka. Several indicators suggest, however, that the quality of basic education in Sri Lanka is lower than desired, and also that quality education is unequally distributed across the country. A study made by the National Education Research and Evaluation Centre at the University of Colombo in 2003 showed that only 38 percent of fourth grade students had an adequate mastery of math. Moreover, the study showed that the score was significantly lower in rural areas – 35%, compared to urban areas of 52%. The same thing is shown for English. National average of mastering skills of English is 10%, while that for urban is 23% and for rural is 7%. This suggests considerable regional differences in the quality of education.
A rapid increase in the use of private tuition in recent years is another indication of the poor quality of public schooling, and a phenomenon that over time can accentuate inequalities as higher-income households can better afford to pay tuition fees. Data collected by the Central Bank suggest that not only is the proportion of students who use private tuition much higher among the rich than among the poor (70 percent for the richest quintile compared to 30 percent for the poorest quintile), the richest quintile also spend more than three times as much money on private tuition than the poorest quintile.
The poor quality of education, especially in poor areas, is a reflection of the institutional traps that, as I said earlier, can perpetuate inequalities in society. As World Bank Education Report of 2005 pointed out, school teachers in certain rural and impoverished areas are absent 20 percent of the time. There is very little monitoring of teacher performance, much less student achievement. The government is cognizant of this, and aims to correct this institutional failure with a new program which the World Bank is supporting.
In spite of Sri Lanka’s success in many areas of health, inequality of opportunities is reflected in rich-poor gaps for certain types of health-related deficiencies. The 2000 survey shows that 47% of children of age 6 and below in the lowest wealth quintile (bottom 20% in terms of asset ownership) are underweight (low weight for age) compared to 11% in the top quintile; 25% of infants in the lowest quintile have low birthweight compared to 9% in the top quintile; 37% of adult women in the bottom quintile have low Body Mass Index (BMI These indicators also tend to be worse in rural areas than urban areas, and particularly poor in estates. 30% of estate children have low birthweight against national averages of 17%, 46% of estate children are underweight against national average of 29%, and 48% of estate women have low BMI compared to national average of 23%.
These inequality traps created by institutions perpetuate economic inequality and therefore contribute to poverty traps. Research in many countries has shown that malnutrition can constrain a child’s ability to learn – by delaying school entry, reducing school attendance or impairing cognitive development – and affect lifetime earnings. Poor nutrition among mothers can affect child health, which perpetuates poverty across generations.
| The Correlation Between Poverty and Access to Infrastructure |
Second, access to infrastructure—be it roads, electricity, water, sanitation and telecoms—and markets are in many countries often highly unequal across groups. For many households, lack of access to affordable infrastructure services means living in isolation from markets. The result is fewer economic opportunities for these households.
The Poverty Assessment clearly shows that there is correlation between poverty and access to infrastructure. Access to markets varies considerably across locations, and that market access is an important determinant of growth and poverty. As a proxy for market access we use a so-called accessibility index which essentially measures the population weighted estimated average travel time within a given DS division to an urban location. The accessibility index is strongly correlated to regional poverty levels—regions with low levels of accessibility have higher levels of poverty. Proportion of housing units using electricity or gas is also correlated with poverty headcount.
However, in case of road, the fact is that Sri Lanka’s road network is fairly dense by international comparison, but it has been so poorly maintained that travel times are prohibitively high, making it all the more difficult for poor farmers to get the products to market. Here comes an issue of “inequality traps” of budget allocation where the voices of the poor may not be well heard.
I would like to stress that access to markets involves much more than physical infrastructure. For farmers to enjoy easier access to markets requires networking with private companies in value chains, competition among traders, transparent pricing schemes, and reliable contract enforcement. This leads to my next point.
It is not obvious from the existing data that the regional differences in access to infrastructure are large enough to be the only determinant of regional inequalities in terms of growth and poverty. Accessibility index for the Western Province is only 25% higher than that of Uva, the worst accessibility index in the country. This may suggest there is more than infrastructure which explains the regional difference in growth. As mentioned, the Western Province has enjoyed faster, and pro-poor growth. The Western Province was able to take advantage of the opportunities from market oriented policies adopted since the late 1970s and better integrated with global markets. By contrast, market oriented policies have been much more limited outside the Western Province, which has remained predominantly rural. Research and extension services in agriculture are not up to the market needs. Private investment in commercial agriculture and agro-business are yet to come in full. Inadequate infrastructure, together with those policy shortcomings, has constrained the development of high-value agricultural industry. As such, agricultural productivity growth in Sri Lanka during 1990s is only 0.65% annual, which is far below than its comparators, 3.51% for China, 2.80% for Vietnam. Policies aiming at higher value added in agriculture sector, which is envisaged in the government’s ten year vision framework, needs to be implemented as soon as possible.
| New Policy and Institutions to Support the Role of the Private Sector |
Third, let me touch upon institutions which should support higher growth trajectory. For Sri Lanka to fully realize its potential to achieve higher growth trajectory for sustained period and to solidify its status as middle income country, it needs to acquire institutions which can deal with policy issues pertinent to a middle income country. The policy issues which middle income countries face are much more complicated than those for low income countries. For Sri Lanka to solidify a middle income status requires public financial and accountability institutions which prioritize policy objectives, allocate resources and evaluate outcomes. The private sector should be widely recognized as a driver for higher growth trajectory and for knowledge based economy, and it has to be supported by policy and institutions. It should be equipped with credit and labor markets which meet rapidly changing needs of the private sector. The latest investment climate survey of the World Bank suggests that Sri Lanka needs to further improve investment climate in particular labor regulations to increase productivity. The current labor regulations protect workers who are already in the market and in particular in formal sectors at the cost of unemployed and employed in informal sectors. This is also a result of “inequality trap” of institutions.
| Monitoring and Evaluating - The Role of Economists |
Before I close, I would like to touch upon the importance of monitoring and evaluation, and the role of economists. Sri Lankan policy has a tradition of emphasis on equity for the past half century. However, the existence of “inequality traps” makes it all the more imperative that public policy analysts focus on whether government programs that seek to improve equity actually have their intended impact. Several cases come to my mind where well-intentioned, pro-poor policies end up having the opposite effect. The well-meaning but ill-targeting Samurdhi program ends up more than 40 percent of the transfers going to wealthiest 60 percent of the population, and 36 percent of the poorest households receiving no allocation at all. Well-meaning energy subsidies or agricultural protection sometime tend to accrue benefits to the non-poor. Public education policies that end up reducing quality and skill formation for a global world are another example. Government policies and their implementation cannot achieve original intention in the absence of strong accountability mechanisms. Serious monitoring and impact evaluation work, something that economists are good at doing, can go a long way in showing what works and why.
Armed with that knowledge, economists and civil society organizations can demand that effective programs be scaled up and ineffective ones be wound down. Inevitably, such choices are deeply political, but good impact evaluation can inform the politics by making the costs and benefits of good and bad programs more transparent. Here is a role of economists like you to play.
In closing, I would like to reiterate my opening remarks that Sri Lanka is abundant with enormous potential. Resilient growth during the past quarter century has amply demonstrated this potential. It is about to solidify its status as a middle income country. It has a chance to eliminate extreme poverty in one generation. Sri Lanka’s rich human resources and its conditions are so beautifully fit to achieve it. For Sri Lanka to seize this opportunity, it needs to arrest increasing inequality. Civil society and economists have a significant role to address issues contributing to the rising inequality. I am hopeful that the World Bank can be of any help in this exciting task. Lastly I cannot end my speech without mentioning the conflict. An enormous opportunity Sri Lanka has stands to be undermined by the conflict. I sincerely hope political solution be brought soon so that Sri Lanka can fully exercise its developmental potential.
Thank you.
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