THE subject of income inequality, once pushed to the margins of economics by more attractive offerings such as economic growth, has experienced a spectacular turnaround.
This is especially true in the aftermath of financial crises and movements like Wall Street vs Main Street, which brought to the fore the staggering gap in the incomes of the rich and poor. A few years ago, pathbreaking work by French economist Thomas Piketty in his Capital in the 21st Century gave further vent to the problem of increasing inequalities in income across the globe.
A new paper by three renowned economists confirms this trend in the US. Thomas Piketty, Gabriel Zucman and Emanuel Saez calculated the share of income going to different groups. Not surprisingly, they found that since the 1970s, income inequalities has exacerbated with no signs of reversing. While the income of the middle and poor class has tended to stagnate, that of the rich has climbed precipitously. At present, the bottom half of the US population is earning only 12 per cent of the total income generated in the US economy, down from 20pc in the 1970s.
How can a government tackle inequality?
But there is something different about this paper that makes people notice. It’s an issue that forms one of the central questions of economic policymaking: redistribution of resources. In their research, the three economists factored in the government transfers over time under various redistribution schemes. Did it help stem the tide in favour of the rich? The answer, as per this research, is no.
This assumes critical importance when one considers that the US redistributes a staggering $5 trillion under its various resource redistribution initiatives. But years of trillions of dollars of efforts to redistribute income to people in the lower-earning brackets have barely made a difference, and the bottom 50pc of the working-age population’s income has barely budged since at least the 1970s.
To rephrase, the $5tr being spent by the government constitutes a waste since it’s not having the intended effect. A book by Walter Scheidel will ignite this debate further. Scheidel is a professor of history at Stanford, who’s upcoming book (The Great Leveller) takes a historical look at the problem of inequality. From ancient Greece to the modern 21st-century welfare states, governments have tried their best to create equal societies through resource redistribution. His worrying thesis, though, is that efforts at lasting and substantial reductions in income inequality through redistribution are bound to fail.
Scouring through the historical record, Scheidel found that economic development has always led to deepening of entrenched income inequalities. The policies to reverse that trend did not make much difference. Notice that Scheidel’s findings are somewhat similar to that of Piketty, who in his book found the same pattern of entrenched income inequalities in favour of the rich. These, and other such findings, also tend to discredit the long-held belief of ‘trickle-down’ economics, which proposed rising inequalities in earlier stages of growth but an equalling of incomes in the later stages.
So, what are we to think about redistribution policies? As far as Scheidel is concerned, if policymakers are looking for drastic resetting of wealth and income concentrations, then the only way is extreme events like war, violence and plagues. He cites various instances to prove his point.
For example, the demise of the Roman Empire in the fifth century and the Plague of Justinian led to drastic changes in wealth and income. Italian city states such as Florence and Genoa, in the Middle Ages, exhibited extreme wealth inequalities in favour of a select few families. But the onset of the destructive bubonic plague (the ‘black death’) that ravaged Europe drastically reset wealth concentration, leading to more equal societies. The French Revolution represents another such episode.
Piketty also pointed out the First and the Second World Wars as occasions when wealth distribution and income inequalities were substantially reset. But surely, any sane person would dread to take this route. Which leaves us with the possibility of only marginal improvements through redistribution, something that is hardly worth the effort relative to massive expenditure of state resources.
So, what can a government do? One probable answer comes from Lawrence Katz, an economist at Harvard. He emphasises the importance of early intervention in terms of events that lead to skewed wealth distribution. For example, earnings through financial innovation are one area where early intervention could have made a difference. Thus, one can argue that it is imperative that the government create a level playing field for all rather than redistribute on its own.