The dynamics of poverty in Ethiopia : persistence, state dependence and transitory shocks

1. The dynamics of poverty in Ethiopia: persistence, state dependence and transitory shocks By Abebe Shimeles, PHD

2. Organization of the presentation • Motivations (key research issues) • Methodology • Data • Major Findings

3. 1. Motivation of the study • How persistent is extreme poverty in Ethiopia? • What factors determine exit from poverty or re-entry into poverty? • What are the relative roles of different sources of poverty persistence? • Addressing these issues is very important for policy purposes since they can provide important insight into the poverty impacts of key reform programs.

4. 2. Methodology • Poverty persistence has been studied in the past using methods of variance components and spell’s approach. Recently, dynamic discrete choice models are becoming popular to study poverty persistence.

5. Methodology (contd) 2 Variance components essentially decomposes the residual from an income regression into three components: unobserved heterogeneity, serial correlation and the purely white noise. The contribution of each of these to total residual measures the persistence of time-invariant household characteristics, shocks and random processes.

6. Methodolgoy (contd) 3. The spell’s approach constructs a binary variable to identify poverty states, and models the effects of persistence through the spell duration.

7. contd • The findings in these presentations are based on the spell’s approach (Bigsten and Shimeles) and the dynamic discrete choice approach (Islam and Shimeles) • Semi-parametric and parametric methods were used to capture the effects of spell-durations on poverty persistence.

8. 3. Data and variables • Panel data for rural and urban areas for the period 1994-2000. • Key variables are real consumption expenditure on non-durables in adult equivalent.

9. Data and variables (contd) • In rural areas, household and village characteristics , and in urban areas, demographics, occupation of the head, unemployment rate in the household, and other characteristics, such as ethnicity are used to analyze poverty exit and re-entry

10. Data and variables (contd) • Variations in consumption less than 20% of the poverty line are dropped to reduce the impact of measurement error on poverty transitions.

11. 4. Results 4.1. Descriptive Statistics • The percentage of households who remained poor through out the survey period was 11% in rural and 13% in urban areas. The percentage for the non-poor was 16% in rural areas, while it was 32% in urban areas (Table 1)

12. Table 1: Percentage of Households by Poverty Status: 1994-2000

13. Descriptive continued • The overall probability of becoming poor in rural Ethiopia was 47%, while it was 32% in urban areas. Since this estimate is based on poverty transition matrices over four waves, it provides a better sense of poverty incidence in Ethiopia (Table 2) • The probability of an initially poor remaining poor is very high in urban areas than rural areas, suggesting higher rate of poverty persistence in urban areas.

14. Table 2: Poverty transition probabilities

15. 4.2. Spell’s approach • A household may be observed beginning a spell of poverty, and thus, at risk of exiting it, or beginning a spell out of poverty, and at risk of entering it. Thus we have two probabilities • The probability that a household exits poverty after a spell of ‘d’ years or rounds in poverty (exit rate). • The probability that a household re-enters poverty after a spell of ‘d’ years out of poverty.

16. Spell’s approach (contd) • There are two approaches to capture the exit and re-entry rates. Non-parametric joint probability function (survival function) and parametric hazard functions

17. Non-parametric survival functions 4.2. Kaplan-Meier Survival function

18. Spell’s approach (contd) • The K-M estimator cumulates the joint probability of staying in poverty (in case of poverty spell) or staying out of poverty (in case of out of poverty spell) past some period t. From this, it is possible to find the probability of exiting poverty after “t” periods in poverty and so on for re-entry

19. Table 3a: Rural Survival Function, Poverty Exit and Re-entry Rates Using the Kaplan-Meier Estimator

20. Spell’s approach (contd) • From Table (3a) we see that the probability of exiting poverty after one round since the start of poverty spell was 28%, or the probability of remaining in poverty three rounds after the start of poverty spell was 33%. • The probability of exiting poverty declines to just 15% after a spell of two rounds in poverty.

21. Spell approach (contd) • Similarly, the probability of falling back into poverty after a spell of one round out of poverty is 38% and declines to 23% two rounds after the spell of out of poverty. • We also note that the probability of staying or surviving as non-poor after a spell of non-poverty over three rounds is 32%

22. Table 3b: Urban Survivor Function, Poverty Exit and Re-entry Rates Using the Kaplan-Meier Estimator

23. Spell’s approach (contd) • In urban areas, the picture is indicative of strong duration dependence of poverty persistence: • Low-exit and re-entry rate as the duration in poverty or out of poverty increases.

24. Spell’s approach • In summary, the non-parametric method showed that in Ethiopia, the probability of exiting poverty after a spell of one period in poverty is very low (in developed countries this probability is about 50%). Similarly, the probability of surviving as non-poor was low.

25. Parametric approach • A logistic random-effects model and proportional hazard models with and without controlling for unobserved household heterogeneity has been estimated separately for exit and re-entry probabilities for both rural and urban areas (see text). • Results show that there is strong indication that spell duration affects poverty persistence. • The model also captured the variables that could increase or decrease probabilities of exiting or re-entering poverty.

26. Dynamic discrete choice model to capture poverty persistence • The parametric approach discussed above has two important limitations in capturing persistence of poverty. • The first is that it does not address the issue of initial conditions. That is, it assumes that the probability of a household to be poor or non-poor at the start of the survey does not contribute to poverty persistence. • Second, the model does not distinguish the spurious from the true state dependence.

27. Dynamic discrete choice model (contd) • Spurious persistence can be caused by unobserved household and community characteristics, such as disabilities, surviving in hardship areas, etc., or time-varying effects of unobserved variables, such as national or local shocks (drought, price instability, etc..), or other factors.

28. Dynamic discrete choice model (contd) • True poverty persistence captures the effects of past history of poverty on current poverty. • The distinction is important. If poverty persistence is truly state dependent, it means policies that attempt to reduce poverty in the short-term will have long-term impacts also.

29. Table 4: Results for rural areas (latent probit model)

30. The latent dynamic probit model of poverty persistence

31. Table 5: Results for urban areas (latent probit model)

32. Summary of results • The discrete choice model provides the following picture of poverty persistence in Ethiopia: • Current poverty is strongly influenced by past history in poverty, particularly in urban areas. • Transitory shocks seem to have been favourable to the poor during this period as captured by the increase in the coefficient of the lagged dependent variable when serial correlation is controlled for.

33. Summary of results (contd) • The structure of household heterogenity as captured by two support points in the dynamic probit model indicate that intrinsic vulnerability to poverty is quite high (74% in rural areas and 65% in urban areas).

34. Policy implications • Combined with previous results, it can be said that poverty propagates itself by influencing behaviour of households. This implies that current efforts to reduce poverty in Ethiopia will have lasting effects on poverty.

35. Policy implications (contd) • There is strong tendency for persistence of poverty due to unobserved household and community characteristics. This implies that improving individual motivation to fight poverty through mass education, provision of health and other means can be effective.