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Dynamic Research Journals (DRJ)

Journal of Economics and Finance (DRJ-JEF)


Volume 2 ~ Issue 2 (February, 2017) pp: 09-16
www.dynamicresearchjournals.org

Growth, Structural Change and Inequality: An


Experience of Bangladesh
Arif Ibne Asad1 and Dr. Stefanie Brilon2
1
(MSc research student, Department of Economics and Institutions, Philipps Universitt Marburg, Germany)
2( Professor of Microeconomics, Department of Economics and Institutions, Philipps Universitt Marburg, Germany)

Received 18 December, 2016; Accepted 21 December, 2016; Published 28 February, 2017 The author(s)
2017. Published with open access at www.dynamicresearchjournals.org

Abstract: Growth and inequality relation is a debating issue since Kuznets (1955).In this paper we analyzed a
recent issue between growth and inequality that is growth might help to reduce poverty in a nominal manner but
stronger inequality still prevails when the structural transformation occurs. To analyze this issue we emphasized
on the recent literature of Benabou(1996) which is treated as a significant paper discussing the recent
literatures as well. In our paper we studied the case of Bangladesh by observing her GDP growth, poverty,
inequality and structural change. We estimate a linear regression model of inequality and found that when
structural parameter changes it reduces poverty but the inequality is worsening gradually. Finally, we
recommend policy suggestion given by Benabou (1996) and investigate these policies how much attained in
Bangladesh to reduce poverty as well as inequality.
Keywords: Inequality, Growth, Structural Transformation, Policy Suggestions.

1. Introduction
The relationship between growth and inequality has undoubtedly a debating issue among scholars since
Kuznets postulated his famous curve in 1955. Although this issue is controversial, inequality in the distribution
of income either increases or decreases the growth, Kuznets (1955) analysis is still recognized as the starting
point of growth and inequality relation in development studies. According to Kuznets(1955), early stages of
development an economy has low per capita GNP and income inequality. Income inequality tends to increase
with higher growth in the process of development. But after an increase of income inequality, it tends to decrease
at higher GNP growth. Kuznets argument is that during the early stages of development, the low-income
economy is profoundly dependent on agriculture and other rural low-income activities. When the economy is
going to be developed, there are several transformations in the economy, as Kuznets explained that:
(i) Transformation of activities and employment from rural agricultural base economy to an urban industrial
economy.
(ii) In the industrial urban economic setup, income increases because the higher value added activities have been
introduced.
(iii) The income gap between rural agriculture base economy and industrially growing urban economy tends to
increase.
(iv) With the phase of economic expansion a rise in the share industrial and service sectors and a fall in the
agricultural sector in total output.
(v) Starting to employment transfer from rural to an urban economy, it helps to equalize income between the two
sectors.
This is the most famous inverted U-shaped curve relationship between inequality and GNP growth
(Dastidar, 2004).
On the other hand, the explanation of neoclassical economists likes Solow (1965), Cass (1965) and
Koopmans (1965), the per capita growth rate is inversely related to the starting level of income per person in the
economy. In this situation, if the structural parameters remain identical then poor countries tendency to grow
faster than rich countries. There is a tendency of promoting convergence the level of per capita incomes across
countries. The reason behind is that poor countries have a lower capital to labor ratios and high marginal product
of capital. That is why they tend to grow at high rates (Barrow, 1991).
In the present research interest of scholars, not only showing inequality and growth study but also
structural transformational analysis has been added a new dimension. Sarntisart (2000) study emphasizes on the
simultaneous effects in one side poverty reduction and another side in rising income inequality. The study is
showing how much consistency remains in case of income inequality and structural change. The study area is
Thailand. There was outstanding economic growth in Thailand due to the expansion of modern industries and

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Growth, Structural Change and Inequality: An Experience of Bangladesh

other sectors till the 1990s. The expansion of agriculture is in the case of employing the largest labor force. At
the same time, Thailand failed to distribute equitable economic growth. Growth had a positive impact on
reducing poverty but income inequality worsened. This study analyses the changing structure of Thai economy
and relevant development policies undertaken in the past four decades.
Adair (2006) examines the relationship between income inequality and economic growth in Mexico.
This study firstly introduces the industrial trade, production and investment patterns over the liberalization
period in Mexico. These changes lead to a relative high-wage economy with industrial capital goods production
and export. The study shows that annual change in manufacturing creates inequality and simultaneously brings
GDP growth. It finds out that stable and negatively relationship predicted by Kuznets broke down during the
period of structural reform in Mexico.
The study of Ying (2014) proposes a dual growth model showing that economic growth shifts workers
to the comparative advantage. It induces rural-urban structural change. The model also implies different results,
i.e. average individual productivity in agriculture increases while non-agricultural sector decreases during the
structural change. One of the findings of the study shows that inverse correlation between structural change and
dispersion of productivity across workers. In addition, it is not necessary to follow an inverted U-shaped
inequality curve in the period of structural transformation.
Dastidar (2004) addresses the process of industrial transformation affect personal income distribution
within developing economy. The process of structural change and overall distribution of income are interlinked.
Researcher examines the hypothesis of relation between inequality and industrial transformation in developing
countries. In this paper, a group of eighteen countries from Asia and Latin America has been evaluated regarding
this hypothesis. Researcher finds little support on in the data set for Kuznets hypothesis of increasing inequality
with industrial transformation.
In this paper, I have started from Kuznetss structural transmission regarding growth and inequality
relations. Then I will try to give an overview of Benabou (1996) paper. After the study of a structural issue from
Benabou paper, I will try to make it related from the study of Bangladesh. The structural change of Bangladesh
is an interesting issue to the researchers presently. Bangladesh is one of the developing countries where the
transformation happens very fast shift to service sector. On the other hand, the majority of working force is
related to agriculture. Where poverty has been becoming slower, conversely the inequality is intending to
increase. The main objective of this paper is to find that does the structural transformation of Bangladesh show
healthy economic behavior and its consistency with income inequality and growth? To do so first, the trends in
inequality, growth and structural transformation in Bangladesh have been figured out. After that in the empirical
section, I estimate an inequality regression from the data of Bangladesh in the recent period 2000-2015. For this,
I use the some secondary data sources like Bangladesh Economic Review in various years and World Bank data
sources. Finally, the policy recommendations suggested by Benabou (1996) have been discussed regarding
reducing inequality.

2. Inequality and Growth a review of Benabou paper


Economist Ronald Benabou summarized the early literature of inequality and growth. His paper
Inequality and Growth (1996) has major contribution in the studies of development analysis. At first he
summarized the main results of 23 early literatures which link inequality to growth and investment. Boushey and
Price (2014) make commentary contribution on Benabou paper that only 13 of those could explain inequality
and growth relation. Because of the remaining ten made connection between human capital attainment and
growth. Ten of thirteen papers from Benabou (1996) review suggested that there are consistent, significant
statistically and negative relationship between inequality and growth, two papers showed negative relationship
but not implying a consistent magnitude, the remaining one found no relationship between inequality and growth
(Ferreira, 1999; Rodriguez, 2000; Boushey and Price, 2014).Almost all the early studies up until 1996 found that
higher the inequality associates the lower the growth. A variety of measures of inequality are used in this paper
including the Gini Coefficient for income, the Gini coefficient for land ownership, the Thiel index for income,
the share of income top quintiles and middle quintiles etc. (Boushey and Price, 2014).The Benabou (1996) paper
is organized to present and extend the main theories regarding income distribution and growth. He also shows
the relevance of these staffs. He used his analysis through two unifying models, such as:
(i) The first method is a survey of the empirical literature; it integrates the more interesting issues such as
political economy and imperfect capital market theories. On the other hand, it also deals with social conflict and
the security of property rights and
(ii) The second method is based on econometric analysis to have an investigation on whether countries are
converging to the same level of inequality.
The aim of Benabou (1996) paper is to identify how income distribution can affect output growth other
than on reverse effects from the level of development to inequality. That is why it decently uses the instruments
used in Kuznets hypothesis (1955).
In the theoretical part of this paper, Benabou (1996) explained the reasons behind complete and
distributional effects of asset market which begins through the balance of power in the political system. The
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significance of this theory is that when the income of the median voter or central middle-class people is lower,
inequality is larger. So there is a common tendency to increase the pressure for redistribution. The model
developed in this paper based on combined features of two papers, such as, Pearson and Tabellini(1994), and
Benabou(1995). Although the mechanisms of this following paper are used in the analysis, it also formalizes the
main concepts of political economy called one person one vote ideal. It analyses the role of productive public
investment where growth in this model always increases simultaneously with the pro-wealth bias in the political
system.
The new result of this paper has some general caution whether inequality affects democracies and non-
democracies differentially. The result shows that income disparities have two more interesting impacts on
redistribution and growth, such as: Firstly, it has a lesser impact on redistribution and growth only in right-wing
or wealth- biased regime.
And another impact on redistribution and growth is that they both have a greater contact in left wing or
populist ones.
Additionally, Benabou paper represents another set of theories based on the distribution of wealth and
in the asset market. The distribution of wealth has macroeconomic significance as a result of imperfection in
asset market. He sets up the model showing growth benefits from land reform, public schooling, or other
progressive transfers and their traditional costs. The traditional mean the depressed incentives for saving or labor
supply for the above expenses. Besides, the linkage between inequality and growth has been addressed in this
paper. Benabou explained this relationship explicitly where he proposed a simple growth version of Prisoners
dilemma. The maximum sustainable growth of the economy is negatively related to the income disparities. It is
the responsibility of rich class to collectively transfer wealth to the poor. The possible strategies are land reform,
a minimum wage, education subsidies or trade protection. This is the main theme which has been addressed in
the present paper as policy recommendation.

3. Trends in inequality, growth and structural transformation in Bangladesh


There has been marvelous economic development in Bangladesh since her independence (Helal &
Hossain, 2013). The economic growth of Bangladesh has an average 5-6 % per annum over the last few years.
But here the contribution and participation of labor force in GDP are the little bit distinctive. The contribution of
the service sector is more than half of her GDP while the majority of people are employed in the agricultural
sector. In this section, we will introduce trends of economic growth and inequality scenario of Bangladesh. After
that, we will sketch the contribution of three main sectors (agriculture, industry, and service) on her GDP and the
participation of labor force in these sectors.

3.1 GDP growth rate over years


Bangladesh faced worse experience in growth the first two decades after her independence in 1971. The
1970s passed by devastates of war and several natural calamities like cyclones, famines, and floods. After that,
the 1980s is the period of recovery and reconstructions. During this period, a slower economic growth was
persisted; GDP growth was less than 4 percent in an average. On the other hand, the population grew
comparatively faster, at more than 2%. But the economic condition of Bangladesh turned to be a positive starting
in this period, which became stronger in the 1990s and afterward, taking Bangladesh economy to a substantially
higher economic growth path (Osmani, 2015). The reasons behind the conspicuous and continued growth rate of
1990s in Bangladesh are many folds, especially slowdown of the population growth, birth of democracy and
political stability, introducing the free market economic instruments, limiting state intervention and tendency to
privatization, technologies, new economic policies like attempts to attract foreign direct investments (FDIs),
international remittance income inflows etc. (Islam,2010).
Table 1: GDP growth rate over the period
Period Median GDP growth
1961-1970 4.01
1971-1980 3.00
1981-1990 3.83
1991-2000 4.70
2001-2010 5.40
2011-2015 6.46
Data source: Authors own calculation on the base of World Bank data.
From the table, we can see that the GDP growth rate of Bangladesh has been increased recently at a
6.5% rate. It is obviously a good sign for the economy. Economic growth and reduction of poverty have been
approaching to have the Goal of being middle-income country by 2021 (Gimenez, Jolliffe ,& Sharif, 2014).

3.2 Inequality Scenario in Bangladesh


Poverty line at national poverty lines shows the mean declines from the poverty lines as a percentage of
the poverty line. According to the World Bank data source on poverty gap at national poverty lines (%), this gap
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is continuously lowering. It is a good sign for the economy of Bangladesh which can be observed from the
following table.
Table 2: Recent poverty gap in Bangladesh
Year Poverty gap at national poverty line (%)
2000 12.8
2005 9.0
2010 6.5
Data source: World Bank
The reason behind is that poverty has been reduced with the continuous process of development. In the
sixth five-year plan of Bangladesh (2011) the possible contributions of the economy for poverty reduction are
conspicuous. According to this report, Bangladesh has been achieved a significant reduction of poverty since
1990. A combination of factors contributes to the significant social and economic transformation. Rapid GDP
growth and urbanization process are closely interlinked with the economic transformation process. While the
economic transformation is the consequent of increase in labor productivity and wages, acceleration of the
returns to human and physical assets, shifting the preference of production and employment from low return
agricultural to non-farm sectors and expansion of export industries. On the other hand, increasing flow of foreign
remittance income and growth of microfinance generate the economy forceful to work against poverty. The
progress of social transformation also contributes to the reduction of poverty such as women empowerment,
decreasing the number of household dependencies, increasing the number of educational attainment has
contributed as well.
Unfortunately, the inequality situation is not much favorable. Though the depth of poverty is reduced,
the inequality is still increasing in Bangladesh. Now we will concentrate on the present inequality trend in
Bangladesh. According to the report of Titumir & Rahman (2011), the Gini-coefficient at the rural level has been
increased although it has a negative growth at the urban level. As only 30 percent1 of total population live in
urban areas, that is why at the national level the growth rate of Gini-coefficient has been also increased at a rate
0.16 percent.
Table 3: The Gini-coefficient rural, urban and national level.
Year Rural Urban National
2000 0.393 0.497 0.451
2005 0.428 0.497 0.467
2010 0.430 0.452 0.458
Growth rate 0.94 -0.91 0.16
Source: Titumir& Rahman (2011) calculation on the base of Household Income and Expenditure Survey (HIES) 2005 and 2010
data for Bangladesh.
The paper of Titumir& Rahman (2011) also alerts about the wide disparities. They started their
argument with the concept that sustained and equitable economic growth inevitably reduces poverty. Growth
might be seemed convenient on poverty reduction however growth is accompanied by rising inequalities. But
current economic crisis might widen the gap between poor and rich if the economic growth has not been fairly
shared.
This inequality can be shown more clearly using the percentage distribution of income accruing to the
household in groups (deciles) and GINI coefficient in periods 2005 and 2010. The information is given below:
Table 4: Household income deciles and Gini-coefficients
Household income deciles and GINI coefficient National (2005) National (2010)
Total/Deciles 100.00 100.00
Lower 5% 0.77 0.78
Decil-1 2.00 2.00
Decil-2 3.26 3.22
Decil-3 4.10 4.10
Decil-4 5.00 5.00
Decil-5 5.96 6.01
Decil-6 7.17 7.32
Decil-7 8.73 9.06
Decil-8 11.06 11.50
Decil-9 15.07 15.94
Decil-10 37.64 35.85
Top 5% 26.93 24.61
Gini Coefficient 0.467 0.458
Source: Household income and expenditure survey (HIES) 2010, Bangladesh Bureau of statistics (cited in
statistical year book Bangladesh 2015).

1
See UNICEF. (2010), especially in the introduction and key concepts for an insightful analysis of Bangladesh
present urbanization.
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Although the income share slightly reduced to the top 10% households during the period 2005-2010, it
is obviously indicating that not only the poor but also the middle class are suffering losses the share of income.
From the lower side households income, there is nearly no change until lower 50% households and it is
indicating they are living with economic difficulties. The Gini coefficient reduces a little amount in 2010
comparing to 2005.

3.3 Structural Transformation in Bangladesh


There are three main sectors consisting the economy of Bangladesh, agriculture, industry and service
sectors. According to the World Factbook 2015 report, the average contribution of these sectors is respectively
agriculture (15.5%), industry (28.1%) and service (56.3%). So the service sector is the most prominent sector in
the economy. The labor force is employed in these occupations are respectively agriculture (47%), industry
(13%) and service (40%) in 2010. So economy of Bangladesh is still labor intensive in agriculture although the
contribution of agriculture in GDP is not satisfactory.
The service sector is growing faster and contributing the lions share in the Bangladesh economy. The
demand for service sector is also continuously expanding in the recent years. To fulfill the demand of huge
population this sector is expanding with a steady growth (Islam, Musa, & Das, 2012). The analysis of the
following data on sector wise contribution is also clearly identifying this issue. First, we will observe the sector-
wise growth of GDP and growth of the economic sector. After that, employment contribution of the three sectors
will be figured out.
Table 5: Sector Wise Growth of GDP (in percentage) in 2000-2010 period
Sectors 2000-01 2001-02 2002-03 2003-04 2004-05 2005-06 2006- 2007- 2008- 2009-
07 08 09 10
Agriculture 25.03 23.98 23.47 23.08 22.27 21.84 21.38 20.83 20.48 20.16
Industry 26.20 26.75 27.24 27.69 28.31 29.03 29.45 29.70 29.86 29.95
Service 48.77 49.27 49.22 49.30 49.42 49.14 49.17 49.47 49.66 49.90
Source: Bangladesh Economic Review-2010, Ministry of Finance Bangladesh (cited in Islam, Musa & Das, 2012 Paper).

The growth in three major sectors can be shown from the figure 1. The agriculture sector has an upward
growth rate although it is fluctuating over years. The growth in industry is also fluctuating but not as much as in
the agricultural sector. Only the service sector has an increasing and stable growth.

Figure 1: Growth in three major sectors in the period 2001-2010

Recent growth in three major sectors in Bangladesh


12

10

0
2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10

Agriculture Industry Service

Source: Bangladesh Economic Review-2010, Ministry of Finance Bangladesh (cited in Islam, Musa & Das, 2012 Paper).

Figure 2 shows the employment contribution on these three sectors. The agriculture is using the large
share of labor force till now with a decreasing rate. On the other hand, both the industry and the service sector
have comparatively lower share than the agriculture sector but their rates are on the increase.

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Figure 2: Employment contribution in the major three sectors

Employment Contribution (% of total employment)


70

60

50

40

30

20

10

0
1984 1985 1986 1989 1991 1996 2000 2002 2003 2005 2010

Agriculture Industry Services

Source: World Development Indicators, TheWorld Bank.

4. Regression on inequality
In the econometric analysis, I use the simple linear regression of inequality on the basis of the recent
data from 2000-2015 in Bangladesh. The regression equation is as follows:
= + 1 + 2 + 3 + 4 +
Where; Inequality is the dependent variable and age dependency ratio(Age), structural factor (str),
Unemployment (Unp), economic growth (GDP) are the independent variables. Inequality is positively related to
Age, Str and Unp. Structural factor proxies the employment share of the service sector. It shows that the increase
in labor force involved in the service sector inequality increases. As a result of structural transformation, the
economic advantages are distributed among a few households. On the other hand, growth and inequality has
converse relationship as well. Inequality is positively related to Age, Str, Unp and negatively related to GDP,
with the respective coefficients 0.211, 0.593 , 0.533 and -0.386.There is insignificant positive relation between
inequality and age but negative relation between growth and inequality.

Table 6: The estimation of inequality regression


Standardizedcoef
Non-standardizedcoefficients ficients
Model B Standard error Beta t Sig.
(constant) 25,862 2,036 12,705 ,000
Age ,021 ,024 ,211 ,881 ,396
Str ,081 ,036 ,593 2,229 ,046
Unp ,678 ,204 ,533 3,331 ,006
GDP -,247 ,103 -,386 -2,402 ,033

5. Policy suggestions from Benabou to reduce inequality


In this chapter we will suggest some policies recommended by Benabou. Basically we will discuss very
briefly how these policies help to reduce inequality in Bangladesh. The policies are land reform, education
subsidies, a minimum wage and trade protection.

5.1 Land reform and equality in Bangladesh


The usefulness of land reform to reduce inequality has been well defined in the book entitled, Agrarian
transition and livelihoods of the Rural Poor: agricultural land Market. The authors explain that it is undoubtedly
proved that reforming land increases productivity. From the history of Bangladesh, small farms in Bangladesh
are more efficient to increase agricultural poverty. The reason behind is that having more labor supply to a small
farm can easily utilize every little bit of the land. It is also treated as the most sustainable way to ensure future
return from it. The relative abundance of labor in Bangladesh households can easily adopt this labor intensive
production technique. Small farming worthiness can be made by using the low cost of labor.

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If productivity does not increase, land reform will still have sufficient supports with the arguments of
equity. In Bangladesh most of the people live in rural areas with a high degree of landlessness and
unemployment problem. In that case land provides employment as well as social security. As we know nearly 48
% of labor force is related to agriculture, land reform is very important for substantial wealth as well as
providing a basic income to the poor families.
In macroeconomic sense, multiplier effect of local consumption might be proved beneficial. For
example, large land holders simple accumulate their profit out of the rural areas. Small holders can accumulate
their investment within the local economy. It provides more potentiality in diversifying local capital
accumulation.

5.2 Education subsidies


In the perspective of Bangladesh, education is treated as the key component of the government to
accelerate poverty reduction. The government also increases spending on the sectors which encourage pro-poor
growth and reduce poverty. Education has the topmost essence in these strategy implementation. The
Bangladesh government has been concerned on educational access and completion of basic education for the
poor as well as improving quality and skills of the workforce. That is why the government education spending
more emphasizes on two important social safety net programs: the first one is aiming to protect disadvantages
groups and the second one is to make access and participation in education where the equality in educational
attainment has been given importance. There are two significant stipend programs in school level. The primary
stipend program is designed for the assistance of poor students to be enlightened in rural schools. On the other
hand the secondary stipend scheme is established aiming educate rural female students with no tuition fee and a
small amount of stipend. But in the true sense the enrolment in primary and secondary education are relatively
low in Bangladesh. On the otherhand, the enrolment rates between poor and non-poor are substantially different.
Furthermore, the poor students have very little enrolment in tertiary education due to increasing education cost
and lower completion rates in earlier levels of education. The government has been more priorities in public
education spending at pre-tertiary level. In this case, most of the education subsidy is spent (Al-Samarrai, 2009).

5.3 A minimum wage implementation in Bangladesh


There was extremely low legal minimum wage in Bangladesh before 2010. It left below the United
Nations Poverty line. In 2010, a new minimum wage has been introduced, the minimum wage proposed by the
government was BDT 3000 (US$38). The increasing minimum wage rate is still very low, although it prevails a
good sign for the poor people. The local trade union demand was BDT 5000. The law came into effect after 2010
(Fair Wear foundation 2012).

5.4 Trade liberalization in Bangladesh


Trade liberalization is one of the major policy reforms in Bangladesh. It is implemented as one of the
part of overall economic reform programs. It associates the structural adjustment program in 1987. But this was
not the case before. After the independence in 1971, Bangladesh followed highly restricted trade policy. High
tariff and non-tariff barriers to trade and overvalued exchange rate system are used for the import substitution
strategy of the government. It was undertaken for improving the balance of payment and creating a protection for
the local manufacturing industries. However, a large scale liberalization of trade has been introduced in the early
1990s. Some of the objectives for this trade liberalization are: safeguard infant industry of Bangladesh, reduction
of balance of payment deficits; to achieve higher economic growth and sufficiency etc. the basic tools are used
now included import tariff, quantitative restrictions, foreign exchange rationing and an overvalued exchange rate
(Raihan,2008).

5.5 Other policies for the reduction of inequality


Obviously, there are some other policies can take part to reduce inequality in Bangladesh. Firstly, the
better governance and institutions, it can be achieved by the effectiveness of fiscal policies, rent seeking
behavior through discretionary access to public loans, non-repayment of this loans, insider trading, evasion of
taxes, removal of corruption. Secondly the fiscal policies must ensure human capital and earning capabilities of
the poor citizens. Furthermore, women empowerment and appropriate micro-finance schemes can be more
beneficial for having an equitable economic distribution. According to the researchers, these possible scopes are
mandatory for reducing the inequality, if there is no caring of inequality, Bangladesh will suffer in the near
future.

6. Limitations of the Study


The limitation of our empirical analysis is that omitted variable biases cause the endogeneity problem.
There are different structural variables for example the employment contribution in the agriculture sector. The
further research can be associated with consulting control variable analysis. It removes the problem of
endogeneity. On the other hand, it is very difficult to manage data for the long period in Bangladesh.

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7. Conclusion
The GDP gap between the rich and poor grows faster with the connection of the progress of average
living standard. In this view, the experience of Bangladesh is identical to most other rapidly growing economies
in Asia(Osmani, S. R. 2015). The structural change is obviously welcomed when it ensures equity. This is not
actually the case in Bangladesh. The development programs of Bangladesh should not only be emphasized on
poverty reduction but also reduction of inequality. The reduction of inequality will care the further economic
progress of Bangladesh. Because of having equitable society, can have fewer economic problem.

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