5 January 2015

Ten truths about the inequality debate


 1. Inequality is only the Left’s latest weapon against capitalism

There’s never been a time when the anti-capitalists haven’t had a defining objection to free markets. Once, believe it or not, they insisted capitalism was inferior to communism (it sounds extraordinary now but there was a period when the Soviet Union did look like the future – at least to those on the Left). At other times the international Left has complained that capitalism would ruin the environment – by causing a new ice age (the 1970s complaint) or catastrophic warming (today’s complaint). The Left’s latest tactic is to claim that capitalism is producing a new age of inequality. This claim reached fever pitch last year, fuelled by Thomas Piketty’s best-selling book: Capital in the Twenty-First Century. Whatever you think of his analysis (debatable) or his prescriptions (laughable) it’s a book that cannot be ignored by supporters of capitalism. Anyone who can write a 700 page book about economics and sell tens of thousands of copies is tapping into something. The key question is whether the current anxiety reflects a real structural problem within capitalism or if it is misplaced. Friends of capitalism certainly should neither be complacent, nor indifferent to inequality. Adam Smith certainly wasn’t.

2. Whatever may be happening in advanced nations, inequality is declining across the world as a whole

The OECD has recently argued that inequality is growing in developed nations. Thirty years ago the top 10% of earners received seven times as much as the bottom 10%. That multiple is nearly ten now. The problem is particularly acute in America. Janet Yellen, the chairperson of the Federal Reserve has noted that the average income of the top 5% of households grew by 38% over the last quarter century but grew by less than 10% for all other households. Some of these statistics are disputed. Inequality hasn’t grown so much if you calculate final incomes (after benefits and other transfer payments) rather than market incomes (simple wages). It’s also better to measure inequality over the length of economic cycles rather than at the beginning of a recovery. Inequality often widens during years of famine but declines during the feast years. And then there’s the question of whether we should measure inequalities of income, wealth or consumption. Inequalities of wealth provide the most depressing picture – but greater access to a whole range of consumer goods amongst even the lowest-paid suggests this is an age of unprecedented equality. What cannot and should not be denied, however, is that while the exact situation in so-called advanced nations might be disputed the situation across the world as a whole is spectacularly good. We are living through one of the most progressive periods in world history with poverty rates tumbling across the developing world – notably in highly populated nations like India and China and also throughout central and eastern Europe as they continue to recover from living under communism. Most of the world is becoming “middle class”. Free trade is producing a huge reduction in inequality, as noted by George Mason University’s Tyler Cowen. Compared to 1990 the proportion of the planet living in extreme poverty had dropped from 36% to 15% by 2011. Over the same period the number of people living on less than $1.25 a day halved to 375 million.

3. Voters are more interested in tackling poverty than inequality

If the anti-capitalist Left is obsessed by inequality the public isn’t. 57% of Britons told YouGov that they’d accept more inequality if the poor had more money. Only 16% wanted inequality to be reduced as an end in itself – assuming that the income of the poor was unchanged after the rich had been levelled down. Other polling in America – using a slightly different question – points in the same direction. By 59% to 37% Americans prefer a political candidate who focuses on economic growth to one who focuses on fairness.

4. Contrary to Piketty’s one-sided view, there are many factors reducing inequality as well as increasing it

Piketty’s analysis – and the view that is now established on the Left – is that capitalism inevitably increases inequality and some factors would appear to confirm his side of the argument. The London property market provides a good illustration of the Piketty thesis that capital earns more than labour. The increase in the value of some London homes exceeds the income that many people can earn from any job. Then there are the new technologies that replace labour with machines – increasing unemployment whilst richly rewarding their inventors. Then there are unequal rates of inflation for different social groups. Many of the poor get poorer because they pay more for their electricity than the rich. They also pay more to borrow. The rich meanwhile either buy private education for their children or buy themselves into the catchment areas of good schools. They then help their children on to the housing ladder. But, notes Bill Gates, there are some powerful trends in the other direction, too. He has noted that there is still enormous social mobility and social churn in otherwise unequal nations like the United States: “Take a look at the Forbes 400 list of the wealthiest Americans. About half the people on the list are entrepreneurs whose companies did very well (thanks to hard work as well as a lot of luck). Contrary to Piketty’s rentier hypothesis, I don’t see anyone on the list whose ancestors bought a great parcel of land in 1780 and have been accumulating family wealth by collecting rents ever since.” Gates chastises Piketty for only looking at the factors that increase inequality – rather than those that also erode it. He cites “instability, inflation, taxes, philanthropy, and spending”. By spending he means the conspicuous consumption of some rich people. Yachts and £10,000 handbags spring to mind.

5. We must recognise the non-economic components of inequality 

In nearly all discussion of inequality there is very little mention of one vital factor: the family. Robert Rector of the Washington-based Heritage Foundation has referred to the emergence of a caste based system in western societies. In one caste already rich children are raised by married parents with a university education. In a second caste many poor children are raised by lone parents with only a handful of basic qualifications. As night follows day inequity in social capital leads to great inequities in economic capital. This isn’t just a common sensical observation, it has also been investigated and established by America’s Federal Reserve Bank. Fed economists estimate that about half of all growth in inequality may be a function of changing family structure. The collapse of the family is particularly acute in working class families. The Left’s own indifference to traditional moral norms is therefore a key part of the explanation for the inequality they detest.

 6. The OECD admits that redistributive policies can be counter-productive 

A recent OECD report has recommended more redistribution. That, at least, was how Left-wing newspapers interpreted its advice. The Guardian, for example, celebrated the OECD’s rejection of “trickle-down economics”. But different OECD reports say different things – as Tim Worstall has noted.  While one OECD report recommends redistribution another warns that redistribution of the kind and on the scale already pursued by Britain could become counterproductive for economic growth and therefore the funding of public services if it is further extended. Stephen Moore, writing for the Wall Street Journal, has examined inequality across America and has noted that it is often largest in Democratic-run states that tax the wealthy, expand government benefits and increase the minimum wage to job-destroying levels. Even if capitalism produces some inequality, there is no problem big enough that ill-thought out government interventions can’t make even bigger.

7. Regardless of whether inequality is increasing or decreasing, public spending is poorly targeted

There are limits to how much tax any economy can bear (the subject of my last article for CapX– please see item 7) and we are probably at those limits. Advanced nations don’t need to increase public spending to make government more supportive of equality, however. So much of existing public spending goes to marginal/battleground electorates rather than to the most deserving. It goes to pensioners who tend to vote rather than to young people who are more likely to stay at home – even though younger people are poorer on average than older people. It subsidises landlords through housing benefits rather than the next generation through the building of new homes. Those concerned about inequality should fix the state before they even begin to think of making it bigger. This is the best electoral hope for the Left in this age of austerity.

 8. People with economic power shouldn’t be allowed to buy political power 

Friends of capitalism should follow US Senator Rand Paul’s lead and advocate a war on crony capitalism. Paul worries about large bailouts for companies that are too large to fail. He wants those companies broken up so that they face the same competitive pressures as the rest of us. He worries about forms of regulation that create barriers to entry. Governments and big corporations concoct systems of red tape and compliance that no small, start up businesses can afford to absorb. Then there are government subsidies for favoured sectors, such as agriculture and renewable energy. These arrangements are rarely in the public interest but are sustained by unhealthily close relations between big business and politics – relations often characterised by sizeable lobbying industries. Crony capitalism won’t be dismantled until there are much stricter limits on political donations to political parties but it must be. Voters will support capitalism if they think it’s free and fair. They’ll withdraw their support if they think riches flow from ill-gotten political connections.

9. We should tax consumption, assets and inheritance more, and income less – but we shouldn’t tax more overall 

Piketty recommended a global wealth tax to reduce inequality. It would need to be global in order to stop the rich jumping from high tax jurisdictions to low tax climes. The one country that did embrace a super tax on the wealthy – Piketty’s native France – has already decided it was counterproductive and has abandoned it. The chances of any worldwide agreement on a super tax is next to nil. The same governments that for twenty years have failed to agree action against climate change are unlikely to all suddenly join hands, sing kumbayah and sign up to a global tax regime. Insofar as tax can be used to tackle inequality it will have to be modest and shouldn’t be focused on income. Already in Britain the top three thousand income taxpayers pay more tax than the nine million lowest-paid income taxpayers. Inequality is greatest in wealth and property rather than income and that’s where any new taxes should fall. According to Janet Yellen the lower half of US households (by wealth) held only 3% of all wealth in 1989. By 2013 they only held 1%. Any new taxes should be imposed on properties or, as Bill Gates suggests, luxury consumer goods. In Britain that could and should include new council tax bands for higher value properties. Ideally progressive property and consumption taxes would be replacement rather than new taxes and should fund reduced income taxes for the low-paid. There is certainly no global demand for higher taxes overall. A plurality or majority of electorates in 22 of 44 nations surveyed by Pew Research want lower rather than higher taxes. Electorates in 13 of the 44 nations preferred high taxes. Slow growing European electorates were most in favour of high taxes. Tigerish Asian and African nations most wanted low taxes.

10. Public policy should ensure more people have a stake in capitalism

Mrs Thatcher had the right idea in the 1980s when she transferred the ownership of local authority housing and nationalised companies to private ownership. A larger middle class emerged as more people owned their own homes and shares. Wider ownership of such assets gives more people a stake in the success of capitalism. Margaret Thatcher’s mistake was not to do a lot more to encourage replacement housebuilding. The decline in housebuilding has left millions of people living in insecure, often cramped and usually expensive private rented accommodation. That’s bad for family life, bad for social justice and bad for faith in free market systems. Capitalism won’t survive in democracies if fewer and fewer people own capital. Any capitalist that doesn’t know that is no friend of capitalism.

Tim Montgomerie is a leader writer for the The Times and founder of the Centre for Social Justice.