Globalisation may not have increased income inequality, after all
A new study questions the received wisdom on trends within countries
photograph: stephen shaver/upi/shutterstock
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Working out who earns what is surprisingly tricky. Both the very rich, who sometimes try to keep their wealth from the taxman, and the very poor, who are sometimes mistrustful of clipboard-wielding officials, are especially hard to pin down. Nevertheless, before the covid-19 pandemic, household surveys consistently found a fall in the number of people living in poverty. The World Bank counted 659m living on less than $2.15 a day in 2019, down from around 2bn in 1990.
Yet this progress came at a cost: a global “precariat” emerged, members of which were barely out of poverty and perilously exposed to shocks, while the top 1% got rich faster. That, at least, is the received wisdom. The World Inequality Database, a project associated with Thomas Piketty and Gabriel Zucman, two economists, combines tax data with other sources of information to estimate the incomes of the uber-rich. They have found that although inequality between countries has fallen, as the rest has caught up with the West, within countries it may have risen. Chinese and Indian elites have done the best relative to their countrymen. American and European plutocrats, who are busy stashing wealth in tax havens, have done well, too.
A new paper by Maxim Pinkovskiy, Xavier Sala-i-Martin, Kasey Chatterji-Len and William Nober, economists at Columbia University and the New York branch of the Federal Reserve, challenges this picture. The researchers look at how likely people in different parts of the income distribution are to understate their income. They find that as the poor become richer, they become more likely to do so. Once adjustments are made for this, poverty has fallen faster than previously thought, and inequality within countries has not risen. It may even have fallen slightly.
To reach this conclusion, the authors look at the difference between estimates of income from regional household surveys and gross domestic product in the same area. When surveys imply that a region has less overall income than official figures, it suggests more income is going unreported. The researchers find that the richer an area, the larger the gap tends to be. This makes sense, notes Mr Sala-i-Martin. As a subsistence farmer becomes a small business owner or market trader, he develops more complex income streams and has more incentive to mislead the taxman.
If the finding holds, it changes the history of globalisation. Rather than a precariat, the researchers conclude that a “true global middle class” has emerged. Its members will not be plunged back into poverty by a financial crisis or a pandemic.
Yet the study will not be the final word. Economists have been arguing about trends in global inequality—and the quality of the data that lie beneath them—for decades. When it comes to the world’s richest people, the new research has more to say about the top 10% than the top 1%, who are widely believed to have done so much better than the rest. Like most papers, this one relies on assumptions that could be challenged by other researchers. Working out the global income distribution is one thing; convincing others you have the right answer is quite another.
In 2015, the boss of a card payments company in Seattle introduced a $70,000 minimum salary for all of his 120 staff - and personally took a pay cut of $1m. Five years later he's still on the minimum salary, and says the gamble has paid off.
Dan Price was hiking with his friend Valerie in the Cascade mountains that loom majestically over Seattle, when he had an uncomfortable revelation.
As they walked, she told him that her life was in chaos, that her landlord had put her monthly rent up by $200 and she was struggling to pay her bills.
It made Price angry. Valerie, who he had once dated, had served for 11 years in the military, doing two tours in Iraq, and was now working 50 hours a week in two jobs to make ends meet.
"She is somebody for whom service, honour and hard work just defines who she is as a person," he says.
Even though she was earning around $40,000 a year, in Seattle that wasn't enough to afford a decent home. He was angry that the world had become such an unequal place. And suddenly it struck him that he was part of the problem.
At 31, Price was a millionaire. His company, Gravity Payments, which he set up in his teens, had about 2,000 customers and an estimated worth of millions of dollars. Though he was earning $1.1m a year, Valerie brought home to him that a lot of his staff must be struggling - and he decided to change that.
Raised in deeply Christian, rural Idaho, Dan Price is upbeat and positive, generous in his praise of others and impeccably polite, but he has become a crusader against inequality in the US.
"People are starving or being laid off or being taken advantage of, so that somebody can have a penthouse at the top of a tower in New York with gold chairs.
"We're glorifying greed all the time as a society, in our culture. And, you know, the Forbes list is the worst example - 'Bill Gates has passed Jeff Bezos as the richest man.' Who cares!?"
Image copyrightGRAVITY
Before 1995 the poorest half of the population of the United States earned a greater share of national wealth than the richest 1%, he points out. But that year the tables turned - the top 1% earned more than the bottom 50%. And the gap is continuing to widen.
In 1965, CEOs in the US earned 20 times more than the average worker but by 2015 it had risen to 300 times (in the UK, the bosses of FTSE 100 companies now earn 117 times the salary of their average worker).
Breathing in the crisp mountain air as he hiked with Valerie, Price had an idea. He had read a study by the Nobel prize-winning economists Daniel Kahneman and Angus Deaton, looking at how much money an American needs to be happy. He immediately promised Valerie he would significantly raise the minimum salary at Gravity.
After crunching the numbers, he arrived at the figure of $70,000. He realised that he would not only have to slash his salary, but also mortgage his two houses and give up his stocks and savings. He gathered his staff together and gave them the news.
He'd expected scenes of celebration, but at first the announcement floated down upon the room in something of an anti-climax, Price says. He had to repeat himself before the enormity of what was happening landed.
Five years later, Dan laughs about the fact that he missed a key point in the Princeton professors' research. The amount they estimated people need to be happy was $75,000.
Still, a third of those working at the company would have their salaries doubled immediately.
Since then, Gravity has transformed.
The headcount has doubled and the value of payments that the company processes has gone from $3.8bn a year to $10.2bn.
But there are other metrics that Price is more proud of.
"Before the $70,000 minimum wage, we were having between zero and two babies born per year amongst the team," he says.
"And since the announcement - and it's been only about four-and-a-half years - we've had more than 40 babies."
Image copyrightGRAVITYImage captionDan Price with his mother
More than 10% of the company have been able to buy their own home, in one of the US's most expensive cities for renters. Before the figure was less than 1%.
"There was a little bit of concern amongst pontificators out there that people would squander any gains that they would have. And we've really seen the opposite," Price says.
The amount of money that employees are voluntarily putting into their own pension funds has more than doubled and 70% of employees say they've paid off debt.
But Price did get a lot of flak. Along with hundreds of letters of support, and magazine covers labelling him "America's best boss", many of Gravity's own customers wrote handwritten letters objecting to what they saw as a political statement.
At the time, Seattle was debating an increase to the minimum wage to $15, making it the highest in the US at the time. Small business owners were fighting it, claiming they would go out of business.
The right-wing radio pundit, Rush Limbaugh, whom Price had listened to every day in his childhood, called him a communist.
"I hope this company is a case study in MBA programmes on how socialism does not work, because it's going to fail," he said.
Two senior Gravity employees also resigned in protest. They weren't happy that the salaries of junior staff had jumped overnight, and argued that it would make them lazy, and the company uncompetitive.
This hasn't happened.
Image copyrightGRAVITYImage captionRosita Barlow
Rosita Barlow, director of sales at Gravity, says that since salaries were raised junior colleagues have been pulling more weight.
"When money is not at the forefront of your mind when you're doing your job, it allows you to be more passionate about what motivates you," she says.
Senior staff have found their workload reduced. They're under less pressure and can do things like take all of the holiday leave to which they are entitled.
Price tells the story about one staff member who works in Gravity's call centre.
"He was commuting over an hour and a half a day," he says. "He was worried that during his commute he was going to blow out a tyre and not have enough money to fix that tyre. He was stressing about it every day."
When his salary was raised to $70,000 this man moved closer to the office, now he spends more money on his health, he exercises every day and eats more healthily.
"We had another gentleman on a similar team and he literally lost more than 50lb (22kg)," he says. Others report spending more time with their families or helping their parents pay off debt.
"We saw, every day, the effects of giving somebody freedom," Price says.
He thinks it is why Gravity is making more money than ever.
Raising salaries didn't change people's motivation - he says staff were already motivated to work hard - but it increased what he calls their capability.
"You're not thinking I have to go to work because I have to make money," Rosita Barlow agrees. "Now it's become focused on 'How do I do good work?'"
Earlier this week, Jeremy Corbyn made reducing inequality central to his pitch to be the next prime minister
In a speech in Corby this week, Jeremy Corbyn made reducing inequality central to his pitch to be the next prime minister. Certain polling emboldens the Labour leader. When asked in the abstract, the UK public expresses strong concern about the gap between rich and poor.
Brexit, the NHS and now crime, remain more important concerns. But US evidence during the last crash suggests inequality rises in the public consciousness in a weakening economy. It spiked here last year too when the economy slowed. A messy Brexit or the threat of Corbyn’s agenda slowing growth further could produce fertile ground for egalitarian sentiment in a coming election.
A reawakening of this age-old debate though provides opportunity to highlight inconvenient truths for the Left about the trends and causes of inequality. Contra claims it’s spiralling out of control, UK income inequality has been pretty much unchanged for a quarter of a century. Wealth inequality – an aggregated measure comprising physical, financial, housing and private pension wealth– has risen somewhat over longer periods, but likewise has been near-flat for at least a decade.
Labour retorts that both are still too high. Wealth inequality is the bugbear de jour, being (as it always is given the life cycle) more unequally distributed than income. Scary-sounding data from the Office for National Statistics (ONS) suggest the richest 10pc of Britons hold 44pc of aggregate private wealth, while the bottom 10pc own nothing. In Corbyn’s world, this justifies more “Robin Hood policies” that take from the rich and spend on the poor.
Yet there’s another unhelpful observation you won’t find Corbyn and Co admitting. Heaps of evidence around the world shows the sort of big welfare state he favours actually widens the same wealth inequality measures he deems obscene.
Line chart with 2 lines.
Source: ONS
The chart has 1 X axis displaying categories. Range: 11 categories.
The chart has 1 Y axis displaying Average annual growth in five-year period, %. Range: -2 to 4.
How can “progressive” programmes make countries more unequal? Quite simply, taxpayer-funded state pensions, health and social care spending, housing subsidies, unemployment benefits and subsidised student loans, all reduce our need to save or build up personal financial assets. Broad-based higher taxes to finance them also reduce the means for ordinary households to save and invest for themselves. Across time and countries, these government programmes and transfers have therefore crowded out private savings disproportionately for those of modest means.
Unlike private wealth, the resources for government programmes are not heritable either. Contrary to popular belief, inheritance tends to be wealth-equalizing. While the wealthy can save and invest in business and financial assets to pass on to their heirs, a big welfare state means poorer households have less need or means for saving, and less often see unexpected windfalls. The welfare state thus widens wealth inequality, and Corbyn’s plans to expand it further would exacerbate this effect.
That’s why Scandinavian economies, despite low income inequality, have wide wealth distributions. Denmark is held up by Corbynistas as a country to emulate on social spending. Yet consider some striking OECD statistics: the bottom 60pc of Danish households have negative net wealth (ie combined, are in debt), while the top 10pc hold 64pc of all wealth. The figures for the UK under these calculations (different from the ONS) are 12.1pc and 52.5pc wealth shares for the bottom 60pc and top 10pc, respectively. In other words, UK wealth is more equally distributed.
Denmark is not just some outlier either. A 2015 European Central Bank study across the eurozone found that “an increase in welfare state spending goes along with an increase – rather than a decrease – of observed wealth inequality”. France has high social spending and low wealth among less well-off households, for example, while Luxembourg and Spain have relatively low social spending and high wealth holdings for the poor.
Now, this alone doesn’t mean the welfare state is inherently “bad”. Most programmes or transfers are introduced to achieve ends other than affecting inequality. Facilitating the poor to worry less about precautionary savings and granting them confidence to spend through their lifetimes may still improve well-being. There are, naturally, other important economic phenomena that shape wealth distributions.
The point here is that Corbyn and others use measures of wealth inequality “worsened” by the welfare state as justification for further expanding it. They risk us getting stuck in a loop whereby more social spending leads to more private wealth inequality, which is then used to justify additional social spending.
There are two potentially honest, rational responses to this evidence. One would be to give up on or augment wealth inequality statistics. Many economists believe a better proxy for well-being would be lifetime consumption, inclusive of private and government-provided services. Alternatively, we could adjust wealth statistics to account for the present value of promised government benefits as if they were “real” wealth. Accounting for government and state pensions for the UK alone has been found to reduce measured wealth inequality by almost a third. Adding more services might reduce it further.
Acknowledging that “lived” inequality is far less dramatic than quoted wealth figures suggest would probably be an ask too far for Corbyn, undercutting as it does his whole economic narrative. Yet the alternative response is equally awkward. For if he insists private wealth inequality is society’s premier problem, he might be forced to reconsider some of the welfare state drivers of it.
Could one imagine Corbyn campaigning for privatisation of the state pension or for replacing the NHS with individual health savings accounts to quell this wealth inequality scourge? Probably not. That itself reveals a great deal. Deep down, even the Labour leader would spurn reducing the measured private wealth gap in favour of other priorities.
Ryan Bourne occupies the R Evan Scharf chair for the Public Understanding of Economics at the Cato Institute
Corbynistas don't like to admit that a bigger welfare state makes inequality worse, not better