Poverty Traps and Social Protection ?

This paper demonstrates that there are potentially large returns to social protection policy that stakes out a productive safety net below the vulnerable and keeps them from slipping into a poverty trap. Much of the value of the productive safety net comes from mitigating the ex ante e¤ects of risk and crowding in additional investment. The analysis also explores the implications of di¤erent mechanisms of targeting social protection transfers. In the presence of poverty traps, modestly regressive targeting based on critical asset thresholds may have better long-run poverty reduction e¤ects than traditional needs-based targeting. JEL classi…cation: D91, I30, O12 Keywords: Poverty traps, Targeting transfers, Dynamic modeling ? The authors’names appear alphabetically; seniority of authorship is shared. We thank John Hoddinott, Valerie Kozel, Felix Naschold and seminar audiences at the International Food Policy Research Institute, Namur, Purdue, Wageningen, Wisconsin and the World Bank for helpful comments on earlier versions of this work. Generous …nancial support was provided by the Social Protection Division of the World Bank and by a grant from the USAID O¢ ce of Poverty Reduction to the BASIS Collaborative Research Support Program. The ideas expressed are the responsibility of the authors and should not be attributed to either sponsoring organization. 1 Cornell University, USA 2 University of Wisconsin-Madison, USA Poverty Traps and Social Protection Poverty traps caused by the existence of multiple dynamic equilibria attract ever-growing attention, among both economic researchers and development policymakers. 3 In this paper, we focus not on why or if poverty traps exist, but rather on the implications of poverty traps for the design and performance of poverty reduction policies. This topic remains remarkably underexplored even though the poverty traps concept underpins much current development policy discourse. 4 As we explore, multiple equilibria can create stark tradeo¤s between helping those who are currently poorest versus preventing descents into poverty among an initially non-poor, middle class group. Not only is there a tradeo¤ between preventing and responding to poverty, but because bene…t levels associated with transfer programs operating on a …xed budget are determined endogenously as people descend into or graduate from poverty, the most progressive transfer policies may trade o¤ greater reductions in nearterm poverty for higher future poverty rates. Over time, today’s poor may actually bene…t from policies that protect the assets of a vulnerable but somewhat better-o¤middle class if such social protection stimulates investment by the poor and eventually reduces the size of the poor subpopulation needing support from transfer programs with a …xed budget. Ultimately, we demonstrate that poverty traps can have a pronounced e¤ect on the performance and appropriate design of poverty reduction policies. This fundamental point appears to have gone unnoticed in the literature to date. This paper explores these issue with a stochastic dynamic programming model of individual asset accumulation in the presence of innate ability di¤erences, heterogeneous asset endowments, multiple production technologies and risk. As in many such models, multiple equilibria and an associated poverty trap are generated by assumptions of missing …nancial markets and non-convexities in production (i.e., …xed costs of investment and innovation). These assumptions create a ‘Micawber Frontier’which divides the innate ability–initial asset space into multiple regions of distinct, dynamically optimal behavior. 5 Individuals located above the Micawber Frontier …nd it feasible to accumulate 3 Azariadis and Stachurski (2005), Bowles et al. (2006) and Carter and Barrett (2006) provide excellent overviews of the relevant literature. 4 For example, Sachs (2005) relies heavily on the poverty trap idea in making a case for massive increases in international development assistance to low-income countries, but without directly teasing out speci…c design implications. 5 As discussed by Carter and Barrett (2006), the phrase Micawber Threshold was …rst used by Michael Lipton to describe a point below which it is di¢ cult for agents ever to accumulate assets. The idea was subsequently adopted by Zimmerman and Carter (2003) who give it a meaning similar to that used here. The image echoes the travails of Wilkins Micawber, the perpetually insolvent debtor in Dickens’David Copper…eld.