Labor Markets, Globalization and Poverty Ann Harrison UC Berkeley and NBER World Bank March 23, 2006

Two Issues Addressed Today Labor market policies affect the linkages between globalization and poverty Trade reforms: what impact on the poor? Labor markets determine HOW reforms affect the poor Direct labor market interventions and their impact on wages and employment Labor market interventions (minimum wages) Anti-sweatshop movements

Issue #1 What is the relationship between globalization and poverty? How do labor market institutions affect that relationship?

First issue addressed by forthcoming NBER study under my direction * Definition of globalization trade (tariffs/trade shares) capital flows (foreign investment, aid, capital flows) 15 papers Theory (from Globalization to Poverty) Cross-country evidence Country case studies based on micro data Concerns of globalization’s critics (Aisbett) Policy Implications * See Globalization and Poverty, University of Chicago Press, available on the web at

Country Case Studies Using Household Data India (Topalova) India (Topalova) Pavcnik Colombia (Goldberg and Pavcnik) Ethiopia (McMillan and Levinsohn) Mexico (Ashraf, McMillan, Peterson-Zwane ; Hanson) Zambia (Balat and Porto) South Africa (Levinsohn) China (Ligon) Smarzynska Poland (Goh and Smarzynska) Indonesia (Thomas)

Key Results from Case Studies 1. Simple conclusions misleading 2. Heterogeneity in responses 3. BUT generally true that poor in expanding sectors gain 4. Poor in previously protected sectors lose 5. Financial Integration: DFI and Aid help the poor, while currency crises hurt the poor 6. Bundling trade reform with complementary policies is key

Why are conclusions based on HO models wrong? HO “Orthodox” view: in countries with a comparative advantage in exporting unskilled-intensive goods, unskilled or poor will gain more from trade than skilled workers (Anne Krueger, Jagdish Bhagwati) Why is this framework incorrect? Violation of assumptions behind the Heckscher-Ohlin model: Workers cannot easily relocate to expanding sectors Countries protect sectors more that use unskilled labor Exporters/foreign firms use skilled labor even in unskilled-labor rich countries Getting goods produced by poor (or using their labor) to global markets requires many complementary policies (infrastructure, human capital development etc)

What do we mean by heterogeneity in responses ? Mexico: large corn farmers gain, small corn farmers lose (from US corn imports) India: tariff reductions associated with slower rate of poverty reduction BUT Only true in regions with restrictive labor laws No impact on poverty reduction in regions with mobile labor

BUT generally true that poor in expanding sectors gain Unskilled in countries with a comparative advantage in exporting unskilled intensive goods to rich countries (Poland) Poor wage earners in sectors receiving DFI (Mexico, India, Poland) Poor wage earners in sectors with export growth

Poor in previously protected sectors lose The poor in urban sectors with tariff reductions (Colombia) Small farmers competing with higher imports (small corn farmers in Mexico) Rural agricultural labor restricted from relocating due to rigid labor laws (India)

Lack of labor mobility documented in these studies suggests poor may lose from trade liberalization Fact that poor in expanding sectors gain (export sectors) and poor in contracting sectors lose (importing sectors) suggests that Traditional trade models which suggest that labor gains from trade liberalization in poor countries are inappropriate Right model is specific sector model Lack of labor mobility is critical for understanding impact of trade reform on the poor.

Two Illustrative Case Studies (see India and Colombia Outcomes: different poverty and inequality measures Policy focus: trade reforms Results: trade reforms only hurt the poor IF labor markets are inflexible

Regress district level outcome on a district-level measure of trade exposure, defined as the average of industry-level tariffs weighted by the workers employed in that industry in 1991: Y dt = a + b*Tariff dt + c*FDIreforms +d t + e d + ε dt Outcomes Y dt include proportion of population below poverty line, poverty gap, and inequality. Author finds negative and significant coefficient b, implying tariff declines increase poverty in rural areas BUT negative coefficient on tariffs ONLY in regions with inflexible labor markets. Coefficient on FDI < 0, implying FDI helps the poor. Study on India (Petia Topalova)

Study on Colombia (Penny Goldberg and Nina Pavcnik) Use household data They measure the impact of changes in globalization (measured as tariffs or imports and exports) on the following outcomes for urban workers: Movements into the “informal” market Poverty incidence Skilled-unskilled wage gap Unemployment

Typical estimating equation: Outcome = αTAR + βTAR*LABREG + μZ Outcome = unemployment/informality/ poverty TAR = tariff in sector where individual employed, instrumented using initial period tariffs. LABREG=Extent of labor regulations Z=Age, experience, education

Results for Colombia (Goldberg and Pavcnik) Tariff Protection associated with less informality, less poverty, less unemployment Import competition associated with more informality, more poverty Export activity associated with less informality, less poverty

Goldberg and Pavcnik’s approach to labor markets and poverty Allow impact of tariffs (or import penetration and export activity) to vary depending on labor market regulations Tariffs only protect workers from informality prior to the reforms After the labor reforms, export activity has a bigger positive impact in moving workers out of the informal sector Importance of interaction term (TAR*LABREG) suggests that relationship between globalization and labor market outcomes depend on labor institutions

Bundling trade reforms with complementary policies more likely to produce gains for the poor Lack of labor mobility impedes adjustment Lack of complementary inputs inhibits movement from subsistence agriculture to cash crops for export Lack of domestic institutions, rule of law, capital market development restricts gains from access to international capital markets Since poor in import competing sectors lose from trade reform, income support programs needed Since poor in export sectors gain, access to developed country markets is critical Policy Implications of NBER Study

Issue #2 What about direct labor market interventions to combat poverty? (minimum wages, anti-sweatshop movements) Is there a trade-off between wage gains and unemployment?

Indonesian Case Study In Indonesia, US threats to withdraw GSP status due to violations of worker rights led to enormous minimum wage increases (800 percent) during the1990s. The anti-sweatshop campaign against Nike targeted the lowest paid workers Measuring the impacts: wages versus employment

Methodology to Identify Impact of US-mandated minimum wage increases and anti-sweatshop campaigns in Indonesia Minimum wage effects: use regional variation in minimum wages Anti-sweatshop campaigns: compare sectors (textiles and apparel) and regions where targeted firms (Nike) operated relative to others. Econometric techniques Difference in differences Matching estimators

Approach W i96 – W i90 = α 1 MinWAGE rit + α 2 ACTIVISM i, α 3 Z it +  r + e it W = wage or employment changes in logs MinWage= minwage r,96 – minwage r,1990 in logs Activism= anti-sweatshop activity in region Z= worker and/or plant controls i,r,t= plant i in region r at time t  r = Region controls

Results on Indonesian Case Study Minimum wage increase associated with 35 percent increase in production worker wages: suggests US threats to eliminate GSP effective. Anti-sweatshop activism successful: Exporting and foreign textiles and footwear producers increased wages 20 to 25 percent faster than others Upward pressure on wages generated through anti- sweatshop campaigns did NOT affect employment BUT minimum wage increases cut employment by 10 % Anti-sweatshop activism also associated with falling profits, investment, some reduced entry, greater exit Suggests costs to intervention, but anti-sweatshop campaigns probably a better approach

Conclusions Orthodox prescriptions claiming that poor gain from trade reforms are misleading because workers cannot easily relocate from contracting to expanding sectors. Specific sector model—which assumes that workers are “stuck” in the short run--is more realistic, at least according to case studies in my forthcoming NBER study. Poor in expanding sectors gain and poor in contracting (import-competing) sectors lose—largely a consequence of labor immobility While some forms of labor market interventions are costly in terms of foregone employment (minimum wages) other types of interventions (such as anti-sweatshop campaigns) have led to improved working conditions and pay

Issues for Further Study Which type of labor market interventions help the poor? (Right to organize, anti-sweatshop campaigns) Which labor market interventions hurt the poor? (entry and exit barriers, minimum wages) Which complementary policies are most critical for ensuring that trade reforms help the poor?