The role of the fiscal policy in poverty reduction
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The Role of the Fiscal Policy in Poverty Reduction. 2003. 10. 9 Youngsun Koh Korea Development Institute. Trends in income inequality. Korea has long been known as a country that achieved equitable income distribution together with rapid economic growth. Gini coefficients.

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The Role of the Fiscal Policy in Poverty Reduction

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The role of the fiscal policy in poverty reduction

The Role of the Fiscal Policy in Poverty Reduction

2003. 10. 9

Youngsun Koh

Korea Development Institute


The role of the fiscal policy in poverty reduction

Trends in income inequality

Korea has long been known as a country that achieved

equitable income distribution together with rapid economic

growth.

Gini coefficients

Source: Hyun (2003).


The role of the fiscal policy in poverty reduction

Contributing factors : Economic growth

Rapid economic growth itself contributed to the

reduction in poverty by providing a wide range of

job opportunities.

Labor force participation and unemployment

Source: National Statistical Office.


The role of the fiscal policy in poverty reduction

Contributing factors : Stable macroeconomic environment

Low and stable inflation since the early 1980s, helped in

part by sound fiscal management, fostered private savings

and the accumulation of wealth among the general public.

Rate of Inflation (CPI) Savings rate

Source: National Statistical Office. Source: Bank of Korea


The role of the fiscal policy in poverty reduction

Contributing factors: Demands for education

Strong desire for educational attainment led to

a general improvement in the labor force quality,

which in turn moderated wage differentials among workers.

Enrollment rates Ratio of college-graduates

(%) (%, by age group, ’01)

Elementary Middle High College

’60 99.8 33.8 19.3 5.0

’70 100.7 51.2 28.1 8.7

’80 102.9 95.1 63.5 15.9

’90 101.7 98.2 88.0 35.2

’00 98.7 99.5 95.6 79.4

’02 98.5 98.5 94.0 87.0

24-64 24-34

U.S 37 39

Japan 34 47

Germany 23 22

France 23 35

Italy 10 12

U.K 26 30

Korea 24 40

Source: Ministry of Education and Human Resources Development. Source: OECD, Education at a Glance, 2002.


The role of the fiscal policy in poverty reduction

Contributing factors : Educational spending

The Korean government has made great efforts

to meet the rising demand for education

by spending a large share of its resources on this area.

Expenditure on education

(% of GDP, ’99) (% of the central government spending)

Public Private Total

U.S 4.91.6 3.9

Japan 3.51.1 4.7

Germany 4.31.2 5.6

France 5.80.4 6.2

Italy 4.40.4 4.8

U.K 4.40.7 5.2

Korea 4.12.7 6.8

Education Defense Welfare Economic

Affairs

’70 16.7 22.7 4.9 27.4

’80 14.6 30.6 5.7 26.0

’85 16.6 26.6 5.2 21.9

’90 17.0 20.0 8.1 20.4

’95 18.0 15.7 9.0 24.9

’00 15.3 11.4 15.3 25.2

Source: OECD, Education at a Glance, 2002. Source: Ministry of Finance and Economy.


The role of the fiscal policy in poverty reduction

Contributing factors : Social insurance programs

All social insurance programs have now been fully

extended to the target populations by law, but the actual

participation is usually below the 100% level.

Social insurance programs

Starting year Full extension Insured

(thousand)

Workers’ Compensation 19642000 10,571

National Health Insurance 1977 1989 46,659

National Pension 19881999 16,499

Employment Insurance 19951998 7,171

Note: In addition to the National Pension, we also have separate occupational pension programs for civil servants (931,000), military

personnel, and private school teachers (221,000).


The role of the fiscal policy in poverty reduction

Contributing factors : Public assistance and welfare services

The government offers public assistance to the very poor

who cannot participate in social insurance programs. It

also provides welfare services for the disabled, seniors,

and other underprivileged groups.

National Basic Livelihood Protection Program

 Target population

- Families with income below the specified minimum living costs

- Monthly minimum for a 4-member family (’03): 850 USD

- Around 3% of the total population is currently covered with NBLP.

 Types of assistance

- Income support, housing and educational allowance, medical aid, etc.

- The amount of monthly income support corresponds to the difference

between the beneficiary’s income and the minimum living costs.

 Budget for ’03 : 2.9 billion USD

- Income support 1.1 billion USD, medical aid 1.5 billion USD.


The role of the fiscal policy in poverty reduction

The impact of the recent economic crisis

The recent economic crisis substantially increased

income inequality in Korea.

International comparison of Gini coefficients

Source: Yoo (2003).


The role of the fiscal policy in poverty reduction

Inequality of market income

But in terms of market income (before the intervention of

the tax and transfer system), inequality is still low in Korea.

 Disposable income = market income - taxes paid + transfers received

Gini coefficients of market and disposable income

Source: Yoo (2003).


The role of the fiscal policy in poverty reduction

Limited role of the tax and transfer system

The very small difference in Gini coefficients between

market and disposable income indicates the rather limited

role of the tax and transfer system in Korea in general and

the immaturity of the pension system in particular.

Welfare expenditure and tax revenue

Note: The data for Korea refer to 1999 while others refer to 1995. The tax revenue includes social security contributions.

Source: Moon (2000); OECD, OECD Revenue Statistics, (2002).


The role of the fiscal policy in poverty reduction

Expected increase in welfare expenditure

Even under the current schemes, however, the welfare

expenditure is expected to grow rapidly in the future

with the aging population.

Projected welfare expenditure Aging population

Source: Moon (2000). Note: The elderly refers to those aged 65 or more.

Source: National Statistical Office.


The role of the fiscal policy in poverty reduction

Increasing tax burden and rising inequality

The increasing expenditure on welfare programs will be

accompanied by an increasing tax burden, implying a

bigger role of the tax and transfer system in reducing

the income inequality.

At the same time, the inequality of market income is set

to rise due to the skill-biased technological progress,

the globalization of the Korean economy, the growing

number of the elderly living alone, and the increase in

structural unemployment that usually follows the increase

in tax burden.


The role of the fiscal policy in poverty reduction

Less focus on inequality

For these reasons, it appears inappropriate to seek at this

moment a drastic measure to reduce the income inequality,

which is likely to prove to be ineffective and/or accelerate

the growth in welfare expenditure.


The role of the fiscal policy in poverty reduction

And greater focus on poverty

Instead, the efforts should be focused on reducing the

poverty at the bottom of the income ladder.

Relative poverty in population

Note: Relative poverty is defined as those with income below 40% of the median income of the total population.

Source: Yoo (2003).


The role of the fiscal policy in poverty reduction

Two-pronged strategy to fight the poverty

Expanding the job opportunities by promoting the

vitality of the market economy and by increasing the

labor market flexibility; and

 Targeting welfare programs at the very poor.

For example, rather than financing the enormous deficit

in National Health Insurance with tax money, the government

should raise the insurance premium more rapidly and use

the saved tax money on medical aid for the poor.

Rather than extending free education to all middle-school students,

loan and subsidy programs should be expanded for college students.

Housing policy should be similarly revamped and targeted at the poor.


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