Inequality has become central to
the public debate over economic policy in the U.S. and across the world.
Rightly so, as much of this discussion focuses
on the sharp increases in the share of income and wealth going to the
richest 1 percent, 0.1 percent and 0.01 percent of the population.
This is indeed a critical issue.
Whatever the resolution of particular arguments about particular numbers, it is
almost certain that the share of personal income going to the top 1 percent has
risen by 10 percentage points over the last generation and that the share of
the bottom 90 percent has fallen by a comparable amount. The only groups that
have seen faster income growth than the top 1 percent are the top 0.1 percent
and top 0.01 percent. Interestingly this trend marks a return to a pattern that
prevailed before World War I. There is evidence [1]now to
suggest that the phenomenon of inequality is not dominantly about the
inadequacy of the skills of lagging workers. Even in terms of income ratios,
the gaps that have opened up between, say, the top .1 percent and the remainder
of the top 10 percent are far larger than those that have opened up between the
top 10 percent and average income earners.
The latest contributor to this
discussion in a long and distinguished list consisting of notable names like
Lawrence Summers, Dani Rodrik, Kenneth Rogoff among many others notables is
Thomas Pikkety. In his powerful new book “Capital in the Twenty first Century”,
Piketty makes a major contribution by putting forth a theory of natural
economic evolution under capitalism. His argument is that capital or wealth
grows at the rate of return to capital, a rate that normally exceeds the
economic growth rate. Thus, economies will tend to have ever-increasing ratios
of wealth to income, barring huge disturbances like wars and depressions. Since
wealth is highly concentrated, it follows that inequality will tend to increase
without bound until a policy change is introduced or some kind of catastrophe
interferes with wealth accumulation. Piketty’s argument is straightforward,
relying, as he says in his conclusion, on a simple inequality: r>g, in which
the rate of return on capital exceeds the growth rate. So slow growth is
especially conducive to rising levels of wealth inequality, as is a high rate
of return on capital that accelerates wealth accumulation. Thus Piketty argues
that as long as the return to wealth exceeds an economy’s growth rate,
wealth-to-income ratios will tend to rise, leading to increased inequality.
According to Piketty, this is the normal state of capitalism. The middle of the
twentieth century, a period of unprecedented equality, was also marked by
wrenching changes associated with the Great Depression, World War II, and the
rise of government, making the period from 1914 to 1970 highly atypical[2]
While Pikkety’s views can be
challenged on economic principles, the key idea that inequality is the natural
state of capitalism and that the phenomenon of inequality is not dominantly
about the inadequacy of the skills of lagging workers are powerful ideas which
will occupy center space in economic policy
debates for some time to come.
While the debate rages on about
the reasons for inequality, the fact is well established that the gap between
the top 1% of population and the remaining 99% population in terms of income
distribution is widening and Pikkety’s book just reinforces what we have known
for some time now. While growing inequality needs to be controlled, one could
take solace in the fact that in most advanced economies living standards have
risen over recent generations, despite setbacks from wars and financial crises.
In the developing world, too, the vast majorities of people have started to
experience sustained improvement in living standards and are rapidly developing
similar growth expectations. However past laurels are no guarantees for future
performance. Perhaps for the first time in the history of modern societies we
might fail to live up to the fundamental tenet of modern societies i.e. the
promise that each generation will be better off than the last.
Kenneth Rogoff in his project
syndicate article [3]argues
that the inequality problem might be further exacerbated due to some formidable
challenges, mostly stemming from political under-performance and dysfunction. The
first sets of issues revolve around externalities, the leading example being
environmental degradation. Wherever property rights are ill-defined, as in the
case of air and water, government must step in to provide appropriate
regulation. Future generations will have to deal with issues like Global
warming and Environmental degradation which affect different strata of society differently.
A second set of problems concerns the need to ensure that the economic system
is perceived as fundamentally fair, which is the key to its political
sustainability. This perception can no longer be taken for granted, as the
interaction of technology and globalization has exacerbated income and wealth
inequality within countries, even as cross-country gaps have narrowed. Until
now, our societies have proved remarkably adept at adjusting to disruptive
technologies; but the pace of change in recent decades has caused tremendous
strains, reflected in huge income disparities within countries, with near-record
gaps between the wealthiest and the rest. Inequality can corrupt and paralyze a
country’s political system – and economic growth along with it. The third
problem that he highlights is that of aging populations, an issue that would
pose tough challenges even for the best-designed political system. How will
resources be allocated to care for the elderly, especially in slow-growing
economies where existing public pension schemes and old-age health plans are
patently unsustainable? Soaring public debts surely exacerbate the problem,
because future generations are being asked both to service our debt and to pay
for our retirements.
To sum it up the key reason for
concern about inequality is that lower- and middle-income workers have too
little — not that the rich have too much. So in judging policies relating to
inequality, the key criterion has to be, what their impact will be on the
middle class and the poor. Simplistic solutions like income redistribution will
not work. For example income redistribution will not correct inequalities in two
fundamental components of life: health and the ability to provide opportunity
for children. With the average affluent child receiving 6,000 hours [4] more of
enrichment activity and the life expectancy increase of more than 4 years [5] for
affluent people as compared to their poor brethren. In the words of Lawrence
summers “inequalities in health and the ability to provide opportunity for
children suggest that the differences between the rich and everyone else are
about not only money but things that are even more fundamental. If our
societies are to become more just and inclusive, it will be necessary to craft
policies that address the rapidly increasing share of income going to the rich.
But it is crucial to recognize that measures to support the rest of the
population in other ways are at least equally important”
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