In June last year, the International Monetary Fund’s Strategy, Policy, and Review Department released a paper titled “Causes and Consequences of Income Inequality: A Global Perspective,” where they identify widening income inequality as the defining challenge of our time.
Estimates suggest that almost half of the world’s wealth is now owned by just 1 percent of the population, amounting to $110 trillion—65 times the total wealth of the bottom half of the world’s population.
The top 1 percent also now account for around 10 percent of total income in advanced economies with about half of their income coming from non-labour income.
Corporate profits have been translated into strikingly high executive salaries and bonuses, exacerbating income inequality.
But this has not has a positive effect on growth. Quite the opposite.
The study found that, if the income share of the top 20 percent increases by 1 percentage point, GDP growth is actually 0.08 percentage point lower in the following five years, suggesting that the benefits do not trickle down. Instead, a similar increase in the income share of the bottom 20 percent (the poor) is associated with 0.38 percentage point higher growth. This positive relationship between disposable income shares and higher growth continues to hold for the second and third quintiles (the middle class).
There are many reasons for this.
Increasing concentration of incomes reduces aggregate demand and undermines growth, because the wealthy spend a lower fraction of their incomes than middle- and lower-income groups.
Higher inequality lowers growth by depriving the ability of lower-income households to stay healthy and accumulate physical and human capital. For instance, it can lead to underinvestment in education as poor children end up in poorly resourced schools and are less able to go on to tertiary education. As a result, labour productivity is lower than it would have been in a more equitable world.
Countries with higher levels of income inequality tend to have lower levels of mobility between generations, with parent’s earnings being a more important determinant of children’s earnings. While education and working hard are important for getting ahead, knowing the right people and belonging to a wealthy family make an even bigger difference.
Individuals have an incentive to divert their efforts toward securing favoured treatment and protection, resulting in resource misallocation, corruption, and nepotism, with attendant adverse social and economic consequences. In particular, citizens can lose confidence in institutions, eroding social cohesion and confidence in the future.
Disproportionate wealth concentrates political and decision making power in the hands of a few as we have witnessed with the power of the fossil fuel industry to make governments delay action on climate change and retard investment in renewable energy.
A growing body of evidence suggests that rising influence of the rich and stagnant incomes of the poor and middle class also have a causal effect on crises, and thus directly hurt short- and long-term growth.
In particular, studies have argued that a prolonged period of higher inequality in advanced economies was associated with the global financial crisis by intensifying leverage, overextension of credit, a relaxation in mortgage-underwriting standards, and allowing lobbyists to push for financial deregulation.
We are constantly told about the efficiency of the free market. But the market obviously is not efficient. The most basic law of economics—necessary if the economy is to be efficient—is that demand equals supply. But we have a world in which there are huge unmet needs—investments to bring the poor out of poverty, to promote development in less developed countries in Africa and other continents around the world, to retrofit the global economy to face the challenges of global warming. At the same time, we have vast underutilized resources—we have empty homes and homeless people,workers and machines that are idle or are not producing up to their potential. Unemployment—the inability of the market to generate jobs for so many citizens—is the worst failure of the market, the greatest source of inefficiency, and a major cause of inequality.
The Coalition claim that cutting company tax rates will create jobs but they did no modelling to back up this assertion and the evidence indicates otherwise.
Annaly Salvos in Credit Writedowns in December 2010 reported the following about the US:
- In 1948, the top tax rate was slightly above 80% and the unemployment rate was approximately 4%.
- In the early 1980s, the top tax rate was 70% and the unemployment rate was approximately 7.5%.
- In 2010, the top tax rate was 35% and the unemployment rate was approximately 9.5%.
- During that same time period, the amount of jobs created (or lost) has stayed roughly the same, between 4 million jobs created during some years and 2 million jobs lost during other years. The largest job losses happened in 2009 when the top tax rate was at 35%, near an all-time low.
Dr. Brijesh Mathur in April 2011 reported the following:
- Canada’s corporate tax rate decreased from 45% in 1997 to 30% in 2010.
- During that same time period the percent of growth in business sector employment decreased from 2.5% to 1.5% before becoming negative in 2009.
In March this year, the Australia Institute released a report analysing data from Australia and OECD countries which found no support for claims that reduced company tax leads to improved economic performance. Specifically it shows that:
- There is no correlation between corporate tax rates and economic growth in OECD countries.
- Countries with lower company tax rates have lower standards of living, measured as purchasing power of GDP per capita.
The report also reviewed the claim that corporate tax cuts will lead to higher wages, more jobs and more foreign investment. Australia’s historical data shows:
- Wages and mixed income has declined as a share of GDP as corporate taxes have been lowered.
- Average unemployment rates have risen as company tax rates have lowered.
- Growth in foreign investment as a share of GDP was strongest when Australia’s company taxes were highest.
The take away message from this is that our government is doing it all wrong. Making quality education and skills training less accessible decreases productivity. Lack of job security in a part time work force makes people hesitant to spend. Reducing welfare and getting rid of penalty rates, thereby reducing disposable income, while cutting tax rates for the top end of town, is the exact opposite of what you should do if you want “jobs and growth”. It is the masses that create markets, and hence jobs, not the 1 per centers.
“We should measure the health of our society not at its apex, but at its base.” – Andrew Jackson
