The poverty trap represents the set of events likely to keep an individual in poverty unless an external force, like winning the lottery, intervenes. Why does this trap exist? Let's make it personal.
Imagine you're a college student, which you probably are. You may be fortunate enough to own a desktop or laptop computer to help you complete your college assignments. Being able to complete your assignments allows you to complete the course. Completing all your courses allows you to graduate from college and then potentially get a well-paying job.
This means that your current investments in things like education will have a positive effect on your future income. In fact, once you graduate, your future income might come close to the highest level it will reach in your life. This means that the money you make today will have an exponential increase on your ability to make money in the future.
For each dollar you make, you are able to save and even invest that dollar for the future. In this case, you are investing that dollar in education. However, What would happen if your computer broke and you had to get it fixed? Even as a poor student, you would probably be able to find a way to pay to get your computer fixed. You might have to borrow money or sell something.
Regardless, you have many more opportunities to handle financial woes than someone who lives in poverty in a less developed country. For people in extreme poverty, current investments in things like education will not have an immediate positive effect on future income. As you can see from the new graph, money someone makes today doesn't help them make money in the future, until they make a certain amount.
But why is this different for someone living in poverty in a less developed country? Consider Grace, a poor farmer in Tanzania who raises chickens and sells them to other people in the village. Grace uses the money from selling chickens to pay school fees for her children and to buy food and clothes for them and her husband who has been sick and unable to work. What little she has left over she puts into feeding and caring for the chickens, buying medicine to keep them healthy, and maybe even buying baby chicks if she can afford to.
In this state, Grace will be able to survive and perhaps even grow her business. She could eventually raise her family out of poverty. Unfortunately, however, things seldom remain stable. The chicken coop will need maintenance, or a child will become sick and need to go to the doctor. School fees will increase, or the cost of food will go up, or the house will need repairs.
In most cases throughout the developing world, there is no health insurance, home insurance, or welfare programs to help Grace with these unexpected costs. In any of these situations, because Grace has very little money saved and few options for borrowing, she might have to sell all her chickens or take her children out of school to cover unexpected costs. This puts her back in a similar or worse situation than the one she was in before her financial woes began.
This is the poverty trap. It means that if you are very poor, the money you make in the present or the education you receive in the present doesn't necessarily help you make more money in the future because you have no resources to fall back on in the case of a financial setback. Every time something goes well and you are able to save a little money, something comes along and you need to use that money to survive. Many people in the developing world are likely to be stuck in this trap and not able to get out unless some other type of intervention occurs. What this intervention looks like is highly contested among academics, politicians, and even business experts.
But one thing is for sure, the poverty trap is real and creates major problems for billions of people, not to mention our entire global economy.