Ecuador: Selected Issues and Statistical Annex

The crisis in the banking sector was one of the major contributing factors that led Ecuador to abandon its own currency and introduce the U.S. dollar as legal tender. However, to illustrate the weak growth performance of the country, it is necessary to examine the structural weaknesses in the labor market, the tax system, and the trade system. These weaknesses resulted in the increase in poverty and inequality. This paper provides a brief summary of recent economic developments and statistical data on economic indices of Ecuador.

Abstract

The crisis in the banking sector was one of the major contributing factors that led Ecuador to abandon its own currency and introduce the U.S. dollar as legal tender. However, to illustrate the weak growth performance of the country, it is necessary to examine the structural weaknesses in the labor market, the tax system, and the trade system. These weaknesses resulted in the increase in poverty and inequality. This paper provides a brief summary of recent economic developments and statistical data on economic indices of Ecuador.

VIII. Distribtional Issuse in Ecuador 70

125. This chapter examines the distribution of resources in Ecuador using a consumption-based measure of inequality. In a period of instability, such as the one experienced by Ecuador in the 1990s, it is important to distinguish transitory income fluctuations from permanent changes. If one accepts the hypothesis that consumption is based on permanent income, then consumption is likely to be a better proxy for welfare and lifetime income. In addition, it is very difficult to measure the incomes of the self employed, the informal sector and the rural sector, since the distinction between earnings and the returns to capital is blurred and income estimates are particularly noisy. Moreover, in household surveys, income may be underreported, but it is less likely that households would underreport the expenditure of over 170 individual items when specifically questioned.

126. Based on data for 1995, Ecuador presents a highly skewed distribution of resources. Given the economic crisis over the past few years, it is likely that the degree of inequality and poverty have further increased.

A. Expenditure Patterns in Ecuador

127. The data used to examine the distribution of resources in Ecuador is the Living Conditions Surveys of Ecuadoran Households (LCS) covering 5,809 households and more than 26,900 individuals between September and November of 1995. The survey provides a representative sample of households, where a household is defined as a group of individuals who make common expenditure decisions and live in the same domicile. A household can, therefore, represent a nuclear family, an extended family or several families living together.

128. The data include detailed information on household income and expenditure as well as individual and household characteristics. Household ownership is recorded, as well as a detailed inventory of the stock of consumer durables such as refrigerators, TVs, cars, and other major appliances at the time of the interview. Food expenditures are recorded over a two week period while other items such as clothing, household goods, and education are recorded over the previous month, quarter, and year.

129. Adjustments are required to develop estimates of consumption for each household. Investment expenditures on owner-occupied housing are replaced with each household’s estimate of the rental equivalent of the home. Purchases of other consumer durables are replaced by the sum of the estimated service flows from each household’s stock of durables. Following Slesnick (1993), the services from the durable (St), are measured as the opportunity cost if holding it, plus the level of depreciation:

(1)St=rtPt+(PtPt+1)

where rt is the rate of return on the asset and Pt is the value at time t. As a conservative estimate, rt is taken to be zero over this period of high inflation,71 and the depreciation rate is taken to be constant at ten percent for each good.

130. Table VIII.1 presents the average expenditure patterns across expenditure deciles. As would be expected, households in the lowest deciles spend a greater portion of the total on basic needs such as food and housing, while the richer deciles spend a smaller portion of the total on food, and are able to spend more on durables and transportation. These data also confirm that using household consumption, rather than income, for inequality measurements may potentially reveal important distinctions.72 In Table VIII.2, each column (row) shows the conditional probability of being in a particular income (expenditure) decile, given the expenditure (income) decile. If income and expenditure were perfectly correlated, the diagonal terms would equal one, and all of the off diagonal elements would be zero. However, as seen in Table VIII.2, the probability that a household is classified into the poorest decile by both expenditure and income criterion is only 37 percent.

Table VIII. 1.

Ecuador: Average Expenditures as a Percentage of Total

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Source: Fund staff estimates based on INEC 1995 Survey.
Table VIII. 2.

Ecuador. Cross Correlation of Income and Expenditure Deciles: Probability of Being in the Same Decile

(In percent)

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Source: Fund staff estimates based on INEC 1995 Survey.

B. Consumption Based Inequality Estimates for Ecuador

131. Table VIII.3 presents the fraction of total expenditure adjusted for service flows attributable to each decile in 1995. The poorest 10 percent of the population accounts for only 1.3 percent of total expenditures, while the richest 10 percent of the population accounts for 41 percent. The household income distribution (excluding housing and durable services) is also shown, and, as expected, the income distribution shows greater inequality. These results are quite similar to those of INEC (1995), which provides the distribution of income by quintiles, and concludes that the wealthiest 20 percent of the population receive 63 percent of total income, while the poorest 20 percent receive only 2 percent of total income.

Table VIII. 3.

Ecuador: Share of Total Expenditure and Income, 1995 1/

(In percent)

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Source: Fund staff estimates based on INEC 1995 Survey.

The income measure does not include service flows of durables or owner occupied housing.

132. Table VIII.4 presents various measures of inequality including the most commonly known, the Gini coefficient73. Again, note that the income based Gini is slightly higher than the Gini based on expenditures, thus overestimating inequality. However, our result here, of a Gini coefficient between 0.53 and 0.56, is somewhat higher than those reported in other studies. Jácome et al. (1998) report a Gini coefficient of 0.47 between 1988 and 1995 based on income reported in employment surveys, and the World Bank used the 1994 survey and found a Gini coefficient of 0.43 with a consumption-based measure of inequality.74

Table VIII. 4.

Ecuador: Measures of Inequality, 1995

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Source: Fund staff estimates based on INEC 1995 Survey.

The income measure does not include service flows of durables or owner occupied housing.

133. For comparison purposes, Table VIII.5 presents Gini coefficients for a variety of Latin American and Caribbean (LAC) countries. Note that Ecuador is relatively unequal when compared to countries in the region, and in particular when compared to its close neighbors: Peru, Colombia, and Venezuela.75 Table VIII.6 presents the breakup by deciles of the share in total incomes for the LAC region compared to that of Ecuador.76 Note that the differences here are large, in particular in the lower deciles, where Ecuador’s poor seem to be worse off when compared to the rest of Latin America.

Table VIII. 5.

Ecuador: Income Inequality Across Latin America 1/

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Sources: Ecuador’s Gini coefficient: Fund staff estimates. Other country estimates: Lodoño and Székely, (1997) “Persistent Poverty and Excess Inequality: Latin America, 1970-95.” IADB Working Paper No. 357.

Income inequality measured by the Gini coefficient.

The income measure does not include service flows of durables or owner occupied housing.

Table VIII. 6.

Ecuador: Income Distribution by Decile in Latin American Countries and Ecuador in the 1990s

(In percent)

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Sources: Fund staff estimates based on INEC 1995. Other country estimates; Lodoño and Székely, (1997) “Persistent Poverty and Excess Inequality: Latin America, 1970-1995.” IADB Working Paper No. 357.

The income measure does not include service flows of durables or owner occupied housing.

References

  • INEC, 1995, Compendio de Resultados Definitivos; Encuesta de Condiciones de Vida, 1995 vol. 3. Quito, Ecuador.

  • Jácome, Luis, Larrea, Carlos and Rob Vos, 1998, “Politicas Macroecómicas, Distribución y Pobreza en el Ecuador” CORDES Working Paper, No. 7.

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  • Jenkins, Stephen, ed., 1991, “The Measurement of Income Inequality” in Lars Osberg Economic Inequality and Poverty, International Perspectives, New York: M.E. Sharpe, Inc.

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  • Lodoño and Székely, 1997, “Persistent Poverty and Excess Inequality: Latin America, 1970–1995,” IADB Working Paper No. 357.

  • Slesnick, D., 1994, Gaining Ground: Poverty in the Postwar United States. Journal of Political Economy, 101:138.

  • The World Bank, 1996, Ecuador Poverty Report.

70

Prepared by Gabriela Inchauste.

71

Annual inflation in 1995 was 23 percent, during the months of September to November, inflation grew at an average of 1.8 percent a month. Unfortunately, it is impossible to identify which households were interviewed in each month, so that both expenditure and consumption values are in nominal terms, However, 1995 has continued to be taken as the base year for the CPI index, reflecting the relative low inflation period when compared to previous and subsequent years.

72

Income is comprised of wages and salaries, business income, rental and property income, transfers, in-kind payments, gifts, and consumption of goods produced at home.

73

A society with total inequality would yield a Gini equal to one, while total equality would yield a Gini equal to zero. The coefficient of variation is the standard deviation of the income (expenditure) distribution divided by the mean. Thus, if all incomes increase by the same proportion, inequality remains unaltered. The Gini coefficient is the ratio of the area between the Lorenz Curve and the diagonal to the area of the triangle beneath the diagonal, thus it involves the differences between all pairs of incomes. For further explanation of the different inequality measures see Jenkins (1991). A society with total inequality would yield a Gini equal to one, while total equality would yield a Gini equal to zero. The coefficient of variation is the standard deviation of the income (expenditure) distribution divided by the mean. Thus, if all incomes increase by the same proportion, inequality remains unaltered. The Gini coefficient is the ratio of the area between the Lorenz Curve and the diagonal to the area of the triangle beneath the diagonal, thus it involves the differences between all pairs of incomes. For further explanation of the different inequality measures see Jenkins (1991).

74

The service flow of durables was not incorporated in the measurement of consumption in the World Bank study, which partly account for the difference in results.

75

The income-based Gini is reported here for comparison purposes.

76

Again, for comparison purposes only, deciles are grouped according to income since the estimates for other countries are based on income deciles.