Tag: redistribution

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The rich discuss poverty

The World Economic Forum has been holding its annual meeting in the up-market Swiss ski resort of Davos. Many of the world’s richest and most powerful people attend these meetings, including political leaders, business leaders and representatives of various interest groups.

This year, one of the major topics has been the growth in inequality across the globe and how to reverse it. According to a report by Oxfam, Wealth: Having it all and wanting more:

The richest 1 per cent have seen their share of global wealth increase from 44 per cent in 2009 to 48 per cent in 2014 and at this rate will be more than 50 per cent in 2016. Members of this global elite had an average wealth of $2.7m per adult in 2014.

Of the remaining 52 per cent of global wealth, almost all (46 per cent) is owned by the rest of the richest fifth of the world’s population. The other 80 per cent share just 5.5 per cent and had an average wealth of $3851 per adult – that’s 1/700th of the average wealth of the 1 per cent.

Currently, the richest 85 people in the world have the same amount of wealth as the poorest 50% of the world’s population. It might seem odd that those with the wealth are talking about the problem of inequality. Indeed, some of those 85 richest people were at the conference: a conference that boasts extremely luxurious conditions. What is more, many delegates flew into the conference in private jets (at least 850 jets) to discuss not just poverty but also climate change!

Yet if the problem of global inequality is to be tackled, much of the power to do so lies in the hands of these rich and powerful people. They are largely the ones who will have to implement policies that will help to raise living standards of the poor.

But why should they want to? Part of the reason is a genuine concern to address the issues of increasingly divided societies. But part is the growing evidence that greater inequality reduces economic growth by reducing the development of skills of the lower income groups and reducing social mobility. We discussed this topic in the blog, Inequality and economic growth.

So what policies could be adopted to tackle the problem. Oxfam identifies a seven-point plan:

• Clamp down on tax dodging by corporations and rich individuals;
• Invest in universal, free public services such as health and education;
• Share the tax burden fairly, shifting taxation from labour and consumption towards capital and wealth;
• Introduce minimum wages and move towards a living wage for all workers;
• Ensure adequate safety-nets for the poorest, including a minimum income guarantee;
• Introduce equal pay legislation and promote economic policies to give women a fair deal;
• Agree a global goal to tackle inequality.

But how realistic are these policies? Is it really in the interests of governments to reduce inequality? Indeed, some of the policies that have been adopted since 2008, such as bailing out the banks and quantitative easing, have had the effect of worsening inequality. QE drives up asset prices, particularly bond, share and property prices. This has provided a windfall to the rich: the more of such assets you own, the greater the absolute gain.

The following videos and articles look at the problem of growing inequality and how realistic it is to expect leaders to do anything significant about it.

Videos and podcasts

Income inequality is ‘brake on growth’, Oxfam chief warns Davos France 24, Winnie Byanyima (22/1/15)
Davos dilemma: Can the 1% cure income inequality? Yahoo Finance, Lizzie O’Leary and Shawna Ohm (21/1/15)
Richest 1% ‘Will Own Half The World’s Wealth By 2016’ ITN on YouTube, Sarah Kerr (19/1/15)
The Price of Inequality BBC Radio 4, Robert Peston (3/2/15 and 10/2/15)

Articles

Richest 1% will own more than all the rest by 2016 Oxfam blogs, Jon Slater (19/1/15)
Global tax system can cut inequality The Scotsman, Jamie Livingstone (23/1/15)
A new framework for a new age Financial Times, Tony Elumelu (23/1/15)
The global elite in Davos must give the world a pay rise New Statesman, Frances O’Grady (22/1/15)
New Oxfam report says half of global wealth held by the 1% The Guardian, Larry Elliott and Ed Pilkington (19/1/15)
Davos is starting to get it – inequality is the root cause of stagnation The Guardian, Larry Elliott (25/1/15)
Inequality isn’t inevitable, it’s engineered. That’s how the 1% have taken over The Guardian, Suzanne Moore (19/1/15)
Why extreme inequality hurts the rich BBC News, Robert Peston (19/1/15)
Eurozone stimulus ‘reinforces inequality’, warns Soros BBC News, Joe Miller (22/1/15)
Hot topic for the 1 percent at Davos: Inequality CNBC, Lawrence Delevingne (21/1/15)
Global inequality: The wrong yardstick The Economist (24/1/15)
A Richer World (a compendium of articles) BBC News (27/1/15)

Data

OECD Income Distribution Database: Gini, poverty, income, Methods and Concepts OECD
The effects of taxes and benefits on household income ONS

Questions

  1. Why has inequality increased in most countries in recent years?
  2. For what reasons might it be difficult to measure the distribution of wealth?
  3. Which gives a better indication of differences in living standards: the distribution of wealth or the distribution of income?
  4. Discuss the benefits and costs of using the tax system to redistribute (a) income and (b) wealth from rich to poor
  5. Go through each of the seven policies advocated by Oxfam and consider how practical they are and what possible objections to them might be raised by political leaders.
  6. Why is tax avoidance/tax evasion by multinational companies difficult to tackle?
  7. Does universal access to education provide the key to reducing income inequality within and between countries?
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Inequality and economic growth

What is the relationship between the degree of inequality in a country and the rate of economic growth? The traditional answer is that there is a trade off between the two. Increasing the rewards to those who are more productive or who invest encourages a growth in productivity and capital investment, which, in turn, leads to faster economic growth. Redistribution from the rich to the poor, by contrast, is argued to reduce incentives by reducing the rewards from harder work, education, training and investment. Risk taking, it is claimed, is discouraged.

Recent evidence from the OECD and the IMF, however, suggests that when income inequality rises, economic growth falls. Inequality has grown massively in many countries, with average incomes at the top of the distribution seeing particular gains, while many at the bottom have experienced actual declines in real incomes or, at best, little or no growth. This growth in inequality can be seen in a rise in countries’ Gini coefficients. The OECD average Gini coefficient rose from 0.29 in the mid-1980s to 0.32 in 2011/12. This, claims the OECD, has led to a loss in economic growth of around 0.35 percentage points per year.

But why should a rise in inequality lead to lower economic growth? According to the OECD, the main reason is that inequality reduces the development of skills of the lower income groups and reduces social mobility.

By hindering human capital accumulation, income inequality undermines education opportunities for disadvantaged individuals, lowering social mobility and hampering skills development.

The lower educational attainment applies both to the length and quality of education: people from poorer backgrounds on average leave school or college earlier and with lower qualifications.

But if greater inequality generally results in lower economic growth, will a redistribution from rich to poor necessarily result in faster economic growth? According to the OECD:

Anti-poverty programmes will not be enough. Not only cash transfers but also increasing access to public services, such as high-quality education, training and healthcare, constitute long-term social investment to create greater equality of opportunities in the long run.

Thus redistribution policies need to be well designed and implemented and focus on raising incomes of the poor through increased opportunities to increase their productivity. Simple transfers from rich to poor via the tax and benefits system may, in fact, undermine economic growth. According to the IMF:

That equality seems to drive higher and more sustainable growth does not in itself support efforts to redistribute. In particular, inequality may impede growth at least in part because it calls forth efforts to redistribute that themselves undercut growth. In such a situation, even if inequality is bad for growth, taxes and transfers may be precisely the wrong remedy.

Articles

Inequality ‘significantly’ curbs economic growth – OECD BBC News (9/12/14)
Is inequality the enemy of growth? BBC News, Robert Peston (6/10/14)
Income inequality damages growth, OECD warns Financial Times, Chris Giles (8/10/14)
OECD finds increasing inequality lowers growth Deutsche Welle, Jasper Sky (10/12/14)
Revealed: how the wealth gap holds back economic growth The Guardian, Larry Elliott (9/12/14)
Inequality Seriously Damages Growth, IMF Seminar Hears IMF Survey Magazine (12/4/14)
Warning! Inequality May Be Hazardous to Your Growth iMFdirect, Andrew G. Berg and Jonathan D. Ostry (8/4/11)
Economic growth more likely when wealth distributed to poor instead of rich The Guardian, Stephen Koukoulas (4/6/15)
So much for trickle down: only bold reforms will tackle inequality The Guardian, Larry Elliott (21/6/15)

Videos

Record inequality between rich and poor OECD on YouTube (5/12/11)
The Price of Inequality The News School on YouTube, Joseph Stiglitz (5/10/12)

Reports and papers

FOCUS on Inequality and Growth OECD, Directorate for Employment, Labour and Social Affairs (December 2014)
Trends in Income Inequality and its Impact on Economic Growth OECD Social, Employment and Migration Working Papers, Federico Cingano (9/12/14)
An Overview of Growing Income Inequalities in OECD Countries: Main Findings OCED (2011)
Redistribution, Inequality, and Growth IMF Staff Discussion Note, Jonathan D. Ostry, Andrew Berg, and Charalambos G. Tsangarides (February 2014)
Measure to Measure Finance and Development, IMF, Jonathan D. Ostry and Andrew G. Berg (Vol. 51, No. 3, September 2014)

Data

OECD Income Distribution Database: Gini, poverty, income, Methods and Concepts OECD
The effects of taxes and benefits on household income ONS

Questions

  1. Explain what are meant by a Lorenz curve and a Gini coefficient? What is the relationship between the two?
  2. The Gini coefficient is one way of measuring inequality. What other methods are there? How suitable are they?
  3. Assume that the government raises taxes to finance higher benefits to the poor. Identify the income and substitution effects of the tax increases and whether the effects are to encourage or discourage work (or investment).
  4. Distinguish between (a) progressive, (b) regressive and (c) proportional taxes?
  5. How will the balance of income and substitution effects vary in each of the following cases: (a) a cut in the tax-free allowance; (b) a rise in the basic rate of income tax; (c) a rise in the top rate of income tax? How does the relative size of the two effects depend, in each case, on a person’s current income?
  6. Identify policy measures that would increase both equality and economic growth.
  7. Would a shift from direct to indirect taxes tend to increase or decrease inequality? Explain.
  8. By examining Tables 3, 26 and 27 in The Effects of Taxes and Benefits on Household Income, 2012/13, (a) explain the difference between original income, gross income, disposable income and post-tax income; (b) explain the differences between the Gini coefficients for each of these four categories of income in the UK.
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UK spending on welfare: definitions, myths and facts

How much does the UK spend on welfare? This is a highly charged political question, with some arguing that benefit claimants are putting great demands on ‘hard-working tax payers’. According to information being sent by the government to all 24 million income tax payers in the UK, the figure of £168bn being spent on welfare is around 24.5% of public spending. But what is included in the total? Before you read on, try writing down the categories of government expenditure included under the heading ‘welfare’.

The heading does not include spending on certain parts of the ‘welfare state’, such as health and education. These are services, the production of which contributes to GDP. The category ‘welfare’ does not include expenditure on produced services, but rather transfer payments. The way the government is using the term, it does not include state pensions either, which account for 11.6% of public expenditure. So does the 24.5% largely consist of payments to the unemployed? The answer is no.

The category ‘welfare’ as used by the government includes the following elements. The percentages are of total managed expenditure (i.e. government spending).

• Public service pensions, paid to retired public-sector employees, such as teachers, police officers, doctors and nurses (2.6%)
• Other support for the elderly, including pension credit, winter fuel allowance, bus passes, etc. (1.5%)
• Sickness and disability benefits, including long-term care for the elderly, sick and disabled (6.6%)
• Support for families and children, such as child benefit and child tax credits (3.4%)
• Social exclusion, including income support and housing benefit (7.8%)
• Unemployment benefits, including Job Seekers Allowance (0.7%)
• Other (1.9%)

Lumping all these together under a single heading ‘welfare’ can be highly misleading, as many people have strongly held preconceptions about who gets welfare. In fact the term is used pejoratively by many who resent their taxes being given to those who do not work.

But, as you can see from the figures, only a small proportion goes to the unemployed, the majority of whom (around 65%) are unemployed for less than a year as they move between jobs (see). The bulk of benefits goes to children, the retired and the working poor.

Another preconception is that much of welfare spending goes to fraudulent claimants. But, as the article by Professor Hills states:

Just 0.7% of all benefits was over-paid as the result of fraud, less than the amount underpaid as a result of official error. For the main benefit for unemployed people, Jobseeker’s Allowance, estimated fraud was 2.9%, or an annual total of £150million.

It is also important to consider people’s life cycle. The same people receive benefits (via their parents or guardians) as children, pay taxes when they work and receive benefits when they retire or fall sick. Thus you might be a net contributor to public finances at one time and a net beneficiary at another. For example, the majority of pensioners were net contributors when they were younger and are now mainly net beneficiaries. Many unemployed people who rely on benefits now were net contributors when they had a job.

The message is that you should be careful when interpreting statistics, even if these statistics are factually accurate. How figures are grouped together and the labels put on them can give a totally misleading impression. And politicians are always keen to ‘spin’ statistics to their advantage – whether in government or opposition.

Webcast

Annual Tax Summary: TUC and MPs on spending information BBC Daily Politics, Jo Coburn (3/11/14)

Articles

Osborne’s tax summary dismissed as propaganda by the TU BBC News (3/11/14)
The truth about welfare spending: Facts or propaganda? BBC News, Brian Milligan (4/11/14)
Its Cost Is Just One of the Myths Around ‘Welfare’ Huffington Post, John Hills (12/11/14)
Welfare spending summary criticised Express & Star (4/11/14)

Data and Reports

Public Expenditure: Statistical Analyses (PESA) 2014 HM Treasury (see Table 5.2)
DWP annual report and accounts 2013 to 2014 Department of Work and Pensions (see Table 2)
Welfare trends report – October 2014 Office for Budget Responsibility
What is welfare spending? Institute for Fiscal Studies (4/11/14)

Questions

  1. What benefits do you receive? How would you expect this to change over your lifetime?
  2. What are the arguments for (a) reducing and (b) increasing welfare payments. In each case, under which categories of welfare would you decrease or increase the level of benefits?
  3. Referring to Table 5.2 in the PESA data below (the table used for the government’s calculations), which of the categories would be classified as expenditure on goods and services and which as transfer payments?
  4. Assess the arguments of the IFS for the reclassification of the categories of ‘welfare’ payments.
  5. Referring to the pie chart above, also in the BBC video and articles and Table 5.2 in the PESA data, assess the arguments about the size of the UK’s contributions to the EU budget.
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A growing debt burden

The linked article below from The Guardian paints a disturbing picture of the long-term problem of servicing both private-sector and public-sector debts.

With interest rates at historical lows, the problem has been masked for the time being. But with interest rates set to rise within a few months, and significantly over the coming years, the burden of debt servicing is likely to become severe. This could have profound effects both on long-term economic growth and on the distribution of income.

As the author, Phillip Inman states:

The funding gap is growing and with deficits on so many fronts, it is hard to see how promises to pensioners and health service users can be met without a dash for growth that is unsustainable, a switch to dramatic cost-cutting in other areas or higher taxes on those who came through the recession relatively unscathed.

You are probably facing the problem of growing debt yourself. How long, if ever, will it take you to repay your student loans? What impact will this have on your ability to spend and to have a ‘decent’ standard of living? Will you be able to afford a mortgage large enough to buy a reasonable house or flat? Will you be able to afford to do a masters degree or PhD without support from your parents or relatives or without a scholarship? And even if you manage to secure a well-paid job, will you be able to afford a reasonable pension for when you eventually retire?

The article looks at the nature of the problem and its causes. It concludes by saying:

Britain has become expert at putting off decisions and hoping for something to turn up. Without a return to ultra-cheap commodities, another technological/productivity revolution, or a return to more modest living and delayed gratification, it’s a plan that is running out of time.

Article

Trouble in store: the grave future of British public and private debt The Guardian, Phillip Inman (20/7/14)

Report

Fiscal sustainability report Office for Budget Responsibility (10/7/14)
Fiscal sustainability report – Executive summary Office for Budget Responsibility (10/7/14)
Fiscal sustainability report – Supplementary data series Office for Budget Responsibility (10/7/14)

Questions

  1. Why is public-sector debt likely to continue rising significantly over the coming years unless there is a concerted policy to make cuts in public expenditure?
  2. What factors are likely to lead to a rise in private-sector debt over the coming years?
  3. What factors have caused a redistribution from the younger to the older generation?
  4. How have ultra low interest rates affected the distribution of income?
  5. What is likely to happen to the gap in wages between ‘graduate’ jobs and ‘non-graduate’ jobs? Identify the factors likely to influence this gap?
  6. What is meant by ‘hire purchase’? Are leasing schemes for car purchase a form of ‘hire purchase? Are there similar schemes in the housing market?
  7. Does it matter if a country’s debts rise (either public or private) if the creditors are in the same country? Explain.
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Rich and poor in the UK

The ONS has just released its annual publication, The Effects of Taxes and Benefits on Household Income. The report gives data for the financial year 2012/13 and historical data from 1977 to 2012/13.

The publication looks at the distribution of income both before and after taxes and benefits. It divides the population into five and ten equal-sized groups by household income (quintiles and deciles) and shows the distribution of income between these groups. It also looks at distribution within specific categories of the population, such as non-retired and retired households and different types of household composition.

The data show that the richest fifth of households had an average pre-tax-and-benefit income of £81,284 in 2012/13, 14.7 times greater than average of £5536 for the poorest fifth. The richest tenth had an average pre-tax-and-benefit income of £104,940, 27.1 times greater than the average of £3875 for the poorest tenth.

After the receipt of cash benefits, these gaps narrow to 6.6 and 11.0 times respectively. When the effect of direct taxes are included (giving ‘disposable income’), the gaps narrow further to 5.6 and 9.3 times respectively. However, when indirect taxes are also included, the gaps widen again to 6.9 and 13.6 times.

This shows that although direct taxes are progressive between bottom and top quintiles and deciles, indirect taxes are so regressive that the overall effect of taxes is regressive. In fact, the richest fifth paid 35.1% of their income in tax, whereas the poorest fifth paid 37.4%.

Taking the period from 1977 to 2012/13, inequality of disposable income (i.e. income after direct taxes and cash benefits) increased from 1977 to 1988, especially during the second two Thatcher governments (1983 to 1990) (see chart opposite). But then in the first part of the 1990s inequality fell, only to rise again in the late 1990s and early 2000s. However, with the Labour government giving greater cash benefits for the poor, inequality reduced once more, only to widen again in the boom running up to the banking crisis of 2007/8. But then, with recession taking hold, the incomes of many top earners fell and automatic stabilisers helped protect the incomes of the poor. Inequality consequently fell. But with the capping of benefit increases and a rise in incomes of many top earners as the economy recovers, so inequality is beginning to rise once more – in 2012/13, the Gini coefficient rose to 0.332 from 0.323 the previous year.

As far as income after cash benefits and both direct and indirect taxes is concerned, the average income of the richest quintile relative to that of the poorest quintile rose from 7.2 in 2002/3 to 7.6 in 2007/8 and then fell to 6.9 in 2012/13.

Other headlines in the report include:

Since the start of the economic downturn in 2007/08, the average disposable income has decreased for the richest fifth of households but increased for the poorest fifth.

Cash benefits made up over half (56.4%) of the gross income of the poorest fifth of households, compared with 3.2% of the richest fifth, in 2012/13.

The average disposable income in 2012/13 was unchanged from 2011/12, but it remains lower than at the start of the economic downturn, with equivalised disposable income falling by £1200 since 2007/08 in real terms. The fall in income has been largest for the richest fifth of households (5.2%). In contrast, after accounting for inflation and household composition, the average income for the poorest fifth has grown over this period (3.5%).

This is clearly a mixed picture in terms of whether the UK is becoming more or less equal. Politicians will, no doubt, ‘cherry pick’ the data that suit their political position. In general, the government will present a good news story and the opposition a bad news one. As economists, it is hoped that you can take a dispassionate look at the data and attempt to relate the figures to policies and events.

Report

The Effects of Taxes and Benefits on Household Income, 2012/13 ONS (26/6/14)

Data

Reference tables in The Effects of Taxes and Benefits on Household Income, 2012/13 ONS (26/6/14)
The Effects of Taxes and Benefits on Household Income, Historical Data, 1977-2012/13 ONS (26/6/14)
Rates of Income Tax: 1990-91 to 2014-15 HMRC

Articles

Inequality is on the up again – Osborne’s boast is over New Statesman, George Eaton (26/6/14)
Disposable incomes rise for richest fifth households only Money.com, Lucinda Beeman (26/6/14)
Half of families receive more from the state than they pay in taxes but income equality widens as rich get richer Mail Online, Matt Chorley (26/6/14)
Rich getting richer as everyone else is getting poorer, Government’s own figures reveal Mirror, Mark Ellis (26/6/14)
The Richest Households Got Richer Last Year, While Everyone Else Got Poorer The Economic Voice (27/6/14)

Questions

  1. Define the following terms: original income, gross income, disposable income, post-tax income, final income.
  2. How does the receipt of benefits in kind vary across the quintile groups? Explain.
  3. What are meant by the Lorenz curve and the Gini coefficient and how is the Gini coefficient measured? Is it a good way of measuring inequality?
  4. Paint a picture of how income distribution has changed over the past 35 years.
  5. Can changes in tax be a means of helping the poorest in society?
  6. What types of income tax cuts are progressive and what are regressive?
  7. Why are taxes in the UK regressive?
  8. Why has the fall in income been largest for the richest fifth of households since 2007/8? Does this mean that, as the economy recovers, the richest fifth of households are likely to experience the fastest increase in disposable incomes?