Growth, Urbanisation, and Poverty Reduction in India

Despite a few issues in inequality, the process of urbanisation has been clearly important in poverty reduction in urban and rural India post 1991 reforms

In light of a new and more comprehensive data-set, spanning 60 years with 20 years of post-liberalisation data, Gaurav Datt, Martin Ravallion, and Rinku Murgai revisit the important linkages between growth, urbanisation, and poverty reduction in India in their NBER working paper.

Broadly, there has been a downward trend in poverty measures since 1970, which has accelerated post-1991, when India undertook liberalising reforms. An interesting finding of the paper is that declines in rural poverty has been greater than the decline in urban poverty, which has led to a convergence in the poverty rates in the two areas. Part of this is explained by a significant decline in rural poverty and increase in real wages and part of it is explained by a sharp urbanisation of poverty in urban areas: from about one in eight of the poor living in urban areas in the early 1950s to about one in three in 2012.

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There’s a decrease in absolute poverty levels in both urban and rural areas in India and a convergence between the two numbers.[/caption]

The evidence also bears out what is common knowledge today — that much of the growth and consequently, poverty reduction, has come from growth in the tertiary sector and to a much lesser extent, the secondary sector. There has also been significant increase in inequality in the urban areas and a decrease in inequality in the rural areas.

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There has been an increase in urban inequality and decrease in rural inequality post 1991 reforms. Source: Growth, Urbanisation, and Poverty, NBER working paper. [/caption]

While rural growth was the most important contributor to poverty reduction pre-1991, it has been replaced by urban growth after the reforms. A more important finding is that urbanisation has impacted poverty reduction not just in urban areas but also in rural areas. This phenomenon of inter-regional effects of economic growth is applicable to the post-reform period only. Before 1991, urban growth had no effect on rural poverty.

The authors have also shown that the classic Kuznets process has not had significant impact in the poverty reduction in India. As per Kuznets process, the growth in poor countries leads to increase in inequality in the beginning, which eventually declines as rural poverty measures exceed urban measures. However the low impact of Kuznets process in India signifies that the difference between rural and urban poverty rates is small.

It was also found that there are strong inter-sectoral linkages post-1991. Growth in one sector has had a positive impact on the other sectors. It is also quite interesting to note that the secondary sector which had minimal impact pre-1991 has contributed to poverty reduction in the latter period, along with the primary and tertiary sectors. The role of the tertiary sector, however, remains the most important, with its contribution to poverty reduction as high as 60%.

There has also been significant changes in growth elasticity (responsiveness of poverty reduction to economic growth) in the three sector between the two periods. The tertiary sector has the highest (absolute) growth elasticity for both periods, implying that poverty reduction is highest in response to growth in the tertiary sector. The elasticity for the primary sector has been decreasing since 1991, reflecting its lower share of national income. The most important change has been in the secondary sector, which has changed signs from negative to positive since 1991.

Apart from decrease in poverty levels, India’s labour markets are also undergoing structural changes. According to the authors, there has been a tightening of rural casual labor markets, with rising real wage rates, and also a narrowing of the urban-rural wage gap. The three main factors explaining such a change are: reduction in the supply of unskilled labour due to the expansion of schooling, decline in female labor- force participation rates, and the construction boom across India. This mismatch between lower supply of unskilled labor and rising demand for that labor has increased the casual wages and thereby reduced the urban-rural wage gap.

If the urbanisation process in India is seen as both urban economic growth and increase in urban population, its contribution to poverty reduction in post reform India is clearly significant.

Anupam Manur and Devika Kher are Policy Analysts at the Takshashila Institution and they tweet at @anupammanur and @devikakher respectively.