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The Rise and Fall of Inequality

Updated: Jun 22, 2019

Countries around the world have different economic experiences, challenges, and policies. Societies have different views of economic risks, but there is one economic challenge that people around the world agree on: Income Inequality. In 2018, the Global Risk Perception Survey showed that “rising income and wealth disparity” ranks third as a driver of global risks over the next 10 years. Income Inequality is next only to Environmental Risk and Cybersecurity, warranting a separate article each. This means that the effects of inequality are not just a third-world problem, but a global one. Take for a fact that the US is the most unequal country in the rich world.

What are the causes of income inequality?

There are many literary sources that can be found on libraries and internet, among others. One of which is Joseph Stiglitz’s “The Price of Inequality, How today’s divided society endangers our future.” Stiglitz argues that inequality is produced by the vast amount of political power the wealthy hold to control legislative and regulatory activity. Joseph Stiglitz is a Nobel Prize winner in economics, together with Michael Spence and George Akerlof, for their work on analyses of markets with asymmetric information. Stiglitz posits that "While there may be underlying economic forces at play, politics has shaped the market, and shaped it in ways that advantage the top at the expense of the rest.” Another is "Why Nations Fail " by Daniel Acemoglu and James Robinson. They concluded that nations fail because of the extractive institutions that were embedded in the fabric of the society. They wrote “These extractive political institutions support these economic institutions by cementing the power of those who benefit from the extraction.” These two views are consistent with each other, but formed from different perspectives. Stiglitz mainly used data and observations from the US and, Acemoglu and Robinson used historical data and observations from different parts of the world.

Why is it a concern today?

Income inequality is not a new phenomenon. In the early 20th century US, there was great concern in monopolies that ended up with Anti-trust legislation. Empires that were built in 16th-19th centuries were broken up after revolts from the colonized people. All of these, arguably, are caused by the impact of income inequality. Economists suggest that income inequality is a fundamental part of a capitalist economy, the possibility of earning more and accumulating wealth gives people the incentive to be productive. But income inequality has a far greater cost: inefficiency of allocation of opportunities.

According to the basic theory of Economics, the free market or “invisible hand” is there to ensure fair allocation of resources, but the allocation of opportunities is not as straightforward as supply and demand. Our moral inclination dictates that human potential determines his opportunities, but consider this: a child born from a wealthy family already has an advantage from a child of the same age born from a poor family by having better education, tutoring (common among rich people), and access to information and technology. Imagine a future where technology meets biology in which a human can enhance his physical or cognitive ability through exoskeletons, microchips, or genetic engineering. The technology will only be available to the rich which will give them an unprecedented advantage against the middle class or poor. By then, income and wealth inequality will be a self-fulfilling prophecy that will haunt future generations.

It doesn't stop there. Economic networking also comes at a price tag. Business conferences, club memberships, or any other platform for business networking (an essential asset in entrepreneurship) are expensive and not within the grasp of small businessmen where the price is determined by the existing elites which made their circle as exclusive as one can get. Income inequality is a vicious cycle that societies in the world are starting to notice.

Income inequality, by some measure, fueled Brexit and many other nationalist movements.

Inequality caused a chain reaction around the world. It caused disenchantment in the elites of the society and gave rise to populism, and economic nationalism. The election of Donald Trump and Brexit are big examples of this. Trump represents the resentment of ordinary Americans to the elites which controlled Washington for a long time, and Brexit represented the British people's hatred towards the unelected bureaucrats in Brussels. In the Philippines, it resonated with the rise of Mr. Rodrigo Duterte, considered an outsider in the national scene having ruled Davao City for decades. In France, the rise of Marine Le Pen and her National Rally party. In Poland, Jarosław Kaczyński's Law and Justice Party.

According to the basic theory of Economics, the free market or “invisible hand” is there to ensure fair allocation of resources, but the allocation of opportunities is not as straightforward as supply and demand.

What can we do about it?

Now we know that the phenomenon is identifiable; it means it shall be measurable. There are two popular measures: the overall income going to different sections of the population such as the top 1%, and the Gini coefficient. Gini coefficient, also called GINI Index, is a summary ratio of distribution of income ranging from 0 (perfect equality) or 1 (perfect inequality). According to the data from World Bank, South Africa has the most unequal society with Gini index of 0.63 and the Scandivian countries such as Norway, Denmark and Sweden having Gini indices of 0.27-0.28. (It is also not a surprise that the top 3 most unequal countries also have a low score in the Corruption Perceptions Index. Rampant inequality and corruption goes hand in hand.) We can now identify what are the common factors between unequal nations. With tons of data being captured in the modern world: age, sex, race, income from tax reporting, among others. We can calculate what factors affect inequality in nations, and even between nations. That mountain of data is waiting to be mined and analysed.

There are lots of ideas brewing from academics to policymakers to tackle this problem. One thing is bridging the educational gap between the rich and poor. Improving education and welfare of the marginalized children will help them become healthier, and study better. Another solution is to attack the problem directly through a change in fiscal policy: Taxation. The TRAIN or Tax Reform for Acceleration and Inclusion law updated the creep bracket that haunted the Philippines for decades and gave more disposable income to the middle-class.

One interesting tax policy idea I have read is one made by Daniel Atman, an adjunct associate professor of economics at New York University, in his opinion article in the NYTimes, tax on wealth replacing income, estate, and donation taxes and I quote, "The real menace to our long-term prosperity is not income inequality — it’s wealth inequality, which distorts access to economic opportunities."

The scheme will be like this, a rate applied to wealth consisting of financial assets and other wealth like housing, cars and business ownership. This will be progressive, just like any income tax table, with rates increasing as wealth increases. This will ensure that richer people, people who have built wealth, will pay high taxes as they increase their wealth and the poor people, who spend their income on necessities will not pay taxes. This is a radical idea that would create political friction between the elites and masses.

In my opinion, if we consider the current trends and predictions of the experts, there will be growth among the middle-class around the world which will disproportionately exert influence in formulating economic policies. Over time, the middle-class will drive domestic consumption, and more distributive policies. This will encourage rapid and broadly-shared growth. If that happens, inequality within (and between) nations will fall sharply in our lifetimes.

Now that inequality jumped into the consciousness of the global masses, there will be actions by governments around the world to resolve glaring discrepancies between the rich and poor. There could be radical changes that could harm economies or smart policies that will be efficient in mitigating inequality, what’s important is that the world is aware and actions are being taken. With human ingenuity, inequality could be something we’ll look back in the future and say, “Why did we put ourselves in that position in the first place?”

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