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Opinion: Inequality, and Why it’s Misleading

by | 6 August, 2018 | Article


By Brodie Fennell, Edited by James Penfold

At present, Australia and the world are facing grim economic prospects. To liberals such as myself, future economic growth looks increasingly unsustainable in a world dominated by populists and disruptors on both the left and right. Additionally, Australia’s economy suffers from a burgeoning system of regulation encompassing all key areas of the economy (from labour, to health care, financial markets and real estate) – as well as an amalgam of progressive income taxes and specialised levies, whose proceeds are utilised to fund an ever-expanding welfare state.

Australia is currently in an unending cycle of regulation, taxation, and transfer payments which are inducing desperate political competition, whereby strong voting coalitions take from their adversaries and subsidise their political allies. Such a scenario leads to crony capitalism that not only reduces the absolute return on capital, but also the return on labour. The solution to such problems is systemic microeconomic deregulation, leading to a revival of economic growth and increased human satisfaction.

And to do it, we need to stop thinking about equality.

Thomas Piketty & the Egalitarian Vision

Those who read my previous article (Risk & Capital; A reply to ‘Capital in the Twenty-First Century) will already be familiar with some of my criticisms of Thomas Piketty’s economic analysis; in particular, his failure to consider risk, and the necessity of rewarding it.

To recap, Piketty’s central assumption is that the rate of return on capital investment will always exceed the growth of the entire economy. So, according to this logic, the long-term trend inevitably results in an immense concentration of wealth in the hands of a very small group of individuals – who reap the returns in the form of dividends, economic rents, and interest payments from their capital assets.

For Piketty, this concentration of wealth, and the resulting political instability, cannot be stopped by structural market reforms. Rather, “the right solution is a progressive annual tax on capital. This will make it possible to avoid an endless inegalitarian spiral while preserving competition and incentives for new instances of primitive accumulation.” Piketty suggests, such taxes can range in the order of magnitude up “to 2 percent between 5 and 10 million euros, and as high as 5 or 10 percent for fortunes of several hundred million or several billion euros.”

Combine this wealth tax with a progressive income tax, singling out the highest income earners, and these fortunes will almost certainly dissipate. This dissipation of wealth won’t only occur for future heirs, but also for those that earned such wealth in the first place, including Bill Gates, Warren Buffet, Mark Zuckerberg and so on.

The Vision Derailed

The source of Piketty’s flaws ultimately stems from his overriding concern for equality, even to the detriment of social wealth. He justifies this position in two ways; firstly, through an ethical argument of fairness, and secondly, via the adverse effects of inequality on democracy.

Turning to the first of these, just because one section of society becomes wealthier, doesn’t imply an ethical problem. If an economic actor gains wealth, and not at the expense of others, this is termed a Pareto improvement, which in all cases should be welcomed. Even if in cases where it increases the overall levels of inequality everyone is just as well off as they were before, and at least some have managed to improve their position. However, for Piketty and his egalitarian supporters, increased wealth inequality is bad in and of itself!

As an example, imagine if Chloe and Darcy each have $100 of wealth, but then Chloe manages to legally earn an extra $50, at no expense to Darcy. Inequality in this system has increased, but who would say this is unfair? Darcy is just as well off as before, and Chloe can enjoy the fruits of her labour and/or luck.

It’s worth noting that a real situation like this is unlikely to occur. In our example above, we have assumed the Chloe is able to earn additional wealth entirely on her own, but in reality, almost all economic improvements are the result of cooperation. In that case, for Chloe to earn the extra $50, she has to persuade Darcy to cooperate. Ultimately, this persuasion will be in the form of a share of the profits, and so both Chloe and Darcy will end up improving their economic position (by sharing the $50 increase). The tides of market forces, in other words, tend to lift all boats.

Thus, economic growth tends to be to the betterment of all concerned, and thinking such improvements are good or bad based only on their effects on equality, is a disastrous oversimplification.

The other justification of Picketty’s concern for inequality is its effect on democratic institutions. In his book, he seems to imagine that the super wealthy act as a unified lobbying group to create a political monopoly on the levers of government. Yes, these people have a disproportionate amount of the overall wealth, but they comprise only a tiny fraction of the people, and the proposition that the oft-talked-about “one percent” winning electoral battles against the majority is pure fantasy.

My point here is not a normative claim, but rather a descriptive one. Large concentrations of wealth within a democratic society certainly entail a modicum of political influence, but it also makes these individuals immense targets, rendering them extremely vulnerable to majoritarian politics. This is nowhere more evident than in the Anglosphere (including Australia) and Western Europe, which host many of the world’s richest corporations and individuals yet have strongly progressive income taxes and (often) high estate taxes. Far from being politically unstoppable, the rich are more often political pariahs. In such a political climate, which treats the primary objective as being the rectification of the inequalities of fortune, the net transfers in the developed world aren’t to, but rather from, the economic elite.

So, what about the relationship between social trends and inequality?

Regrettably, the current fixation on economic wealth and income, leads egalitarians to overlook other social trends which are of enormous importance. Although, economic inequality is a relevant metric, it is far from being the only valid measure of individual satisfaction and well-being (for instance, access to education, the opportunity to travel, etc.) As is probably obvious, even the poorest in today’s society have reaped substantial benefits from the economic growth of society, in many of these fields. There is simply no feasible way for the wealthy to deny these advances to the rest of society, even if they were so inclined.

Taking child mortality as an example, it is true that wealth is inversely correlated with infant deaths. However, although the children of rich families are more likely to be able to survive infancy, this doesn’t actually support the egalitarian case when considering the wider context. A study conducted by a British team of epidemiologists found that the infant mortality rate in 1901 in the poorest income group ranged from 247 per 1000 births to 94 per 1000 in the highest income group. A century later, in 2001, due to considerable advances in medical technology, those numbers plummeted to 8.1 per 1000 for the poorest income group and 3.7 per 1000 for the highest income group.

Therefore, an extremely shallow consideration of these figures would dwell on the remaining inequality in child mortality (a ratio of 2.19, between the poorest and richest). A slightly more nuanced view would consider that the situation has gotten relatively better (the ratio having fallen from 2.63 in 1901). However, both these perspectives bury the lede; the absolute decline in mortality rates for both groups by a whole order of magnitude. Needless to say, many other quality-of-life metrics tell the same story.

It is a pity that Piketty remained silent regarding the incredible advances in basic public health, medicine and science, which have fuelled a technological revolution, and created living conditions that even our most optimistic ancestors would have considered utopian. A key aspect of these improvements, is that they were by far more dramatic in the first quarter of the twentieth century than they have been so far in the first quarter of the twenty-first century. Consequently, it looks as if neither politics nor technology can accurately explain this difference. However higher marginal tax rates and greater economic regulations can. It is a shame that the obsession surrounding Piketty’s income inequality thesis currently conceals more than it reveals.

Brodie Fennell is a regular contributor, member of the PPE Society, and studies Economics, Philosophy, Politics and French at UQ.


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