Income inequality, growth and economic systems

A careful reading of the statistical picture of income inequality among countries leads to the conclusion that income inequality is partly, but strongly a consequence of growth and development. (See last week’s column.)

As an economy increases in output and income, those in the growing segments become better off than those who remain in non-growing sectors. For economic growth to change the basic nature of life in the country, it must be on a continuously progressive stream.

Failure to do so could mean stagnation or limited progress, a condition that produces hopelessness. Accidental mistakes (and they happen often) can put thorns and breaks on the progressive path.

Growth often dislodges old ways of doing things. Low cost and more efficient ways of producing and consuming drives out those obtained at high cost and less efficiency. Living standards improve.

The trick toward achieving social peace is to make achievable a vision of progress for the poor who are left behind so that they are not helpless.

Today, the buzz word for this is “inclusive growth.” We will go into that later.

“Income inequality over the long term.” One of the conclusions from the lifetime work of Simon Kuznets who won the Nobel Prize in Economics is on income inequality and long term economic growth. He observed that inequality tended to worsen first before it began to improve.

Of course, there is no prescribed path. Each country has its own individual and unique paths to growth. There is a reason why inequality tends to improve later during development.

The countries themselves realize that for society to become more stable, certain inequalities have to be reduced and opportunities equalized. So, corrective reforms are adopted. Also, economic growth itself often broadens markets, thus increasing economic opportunities.

“Income inequality: Industrial Europe vs. US-UK.” Take the case of the industrial countries of Europe today. In the European Union – and to a certain extent the OECD countries (with the exception of the US and UK where inequality is quite high), observed economic inequality is quite moderate – in fact among the lowest observed today. Though they differ in their numbers and individual circumstances, that’s what we get for countries like Germany, France, Italy, and more broadly, the Scandinavian countries, and even Switzerland.

These countries have incorporated over time many social welfare programs, a feature of moderate socialist politics. Most of these programs and policies evolved to correct some of the ills of the capitalist system, but it happened gradually over time.

The high priority for social programs, relatively better income distribution statistics and relatively high standard of welfare for the poor are sustained by high levels of productive output and, most especially, a high degree of taxation. In these countries, public programs may account for close to 40 percent of the GDP and public taxation almost as high.

These are standards that are foreign to Philippine achievements or present economic capacity. Corresponding Philippine ratios of public spending and of taxation are only by half as much.

The reaction against the welfare state was strong in some countries. Such a pattern is a feature of the American and British political landscape today. Reaganism and Thatcherism were twin developments that dominated the restructuring of both the US and the British economy in the closing decades of the last century.

These two industrial countries both weakened the central state authority and contributed to the rise in inequality as they encouraged private markets over public programs. In Thatcherism, it meant selling off many state corporations through privatization.

“The communist path toward income equality.” In our country, the revolutionary path toward the greater equality of income suggested by those who want Marxist or communist doctrines has not prospered.

The armed struggle of the communist NPA did not succeed and is essentially in check. Those allied to its cause before had long moved toward the path of democratic parliamentary struggle.

The worst curse on any nation is civil war. It brings untold sufferings – the untimely death of parts of the population, the dislocation of families and personal misfortunes suffered on both sides of the struggle, but most gravely felt by the losers.

The successful civil war outcomes that were the Soviet Union and People’s China achieved political and economic hegemony, but failed to raise living standards on the basis of their economic programs. Their failure was basic. Their programs for economic reform initially ignored the core principles of profitability, individual incentives, and market pricing of scarce goods. Their economic outcomes produced inconsistent and inefficient results.

By the 1990s, the Soviet Union imploded and disappeared from the map. All of its former parts today are practicing elements of capitalism and individual initiatives in their economic systems. In restructuring their societies, income inequalities increased as a consequence.

China saved itself in timely fashion. A pragmatic leader – Deng Hsiao-ping reformed the system by emulating capitalist markets and techniques. In doing so, China achieved very high growth rates which created the income inequality that we observe for it today.

“Philippine economic reforms need to deepen to raise growth.” How can Philippine growth achieve a better record insofar as income distribution is concerned?

The following would help to improve the economic record and, eventually, income distribution. The annual growth performance has to be raised. High growth is better than moderate growth.

Fortunately, recent prospects suggest that income growth would rise above recent long term records. Such outcomes are contingent on improving economic fundamentals and further economic reforms that promote growth and employment. 

The growth must generate greater employment creation than in the past. Rising employment improves the overall incomes and raises the scale of the domestic market. I say this because in general, Philippine record on both growth and employment has been weak.

Economic reforms are needed in the following directions: improving market incentives for all, removing highly protectionist policies, amending restrictive economic provisions in the Constitution, removing barriers against unemployment, improving market access, support of wider markets and open competition.

These are the economic and social reforms that I have been writing about in this column consistently, persistently, and even to some extent, perhaps, foolishly.

My email is: [email protected]. Visit this site for more information, feedback and commentary: http://econ.upd.edu.ph/gpsicat/