Dismantling the myth of the growth-inequality trade-off

2003

Is there a trade-off between inequality and economic growth? The theory and the evidence are so far inconclusive. So far the theory and the evidence are inconclusive. We want to construct a political economy model of growth to demonstrate that excessive inequality can disrupt the economy by inviting political interference through rent-seeking behavior and appropriation, but that policies supporting some modest inequality to take advantage of productivity differences can lead to the best growth rates. Thus we show that the relation between inequality and growth may be mildly hump-shaped: growth may rise modestly at first, as we move away from complete equality, and then drop again as inequality increases further.

Synopsis Taimoon Stewart " Growth is extremely important because that is the basis upon which infrastructure is built, but we cannot forget equity. If we forget equity, social tensions will surface. " 1. Introduction This remark by Dr. C. Rangarajan at the book launch of Growth and Equity elicited a thoughtful and provocative debate, with submissions by distinguished thinkers in academia, practitioners of competition law, both in the public and private sectors, and in the NGO community. The response is not surprising because the main worry in today's world is the increasingly skewed distribution of wealth in favour of the rich, while there is persistent impoverishment of the masses, leading to precisely the social tensions and eruptions of which Ragaranjan warned. The greatest challenge that policy makers face today is how to empower non-privileged participants to become part of a dynamic economic system, so that the majority of people could feel included in the benefits to be derived from well functioning markets. This debate was largely a competition (law and policy) debate, but there were considerations of other subjects, including growth and equity and inequity that exist both in national economies and at the level of the world economy. Submissions to the online forum provided empirical evidence of the consequences of exclusion of the masses from a fair share of the gains from growth, citing particularly the social upheavals of the Arab Spring, and warning of similar consequences elsewhere as governments continue to pursue exclusionary policies, as for instance, in China and in Tanzania. We were also alerted to the fact that inequity span both intra-national and international spaces, with the developing countries caught in a continuous cycle of unequal negotiating spaces in the world economy, and receiving an inequitable share of the global gains from trade and investment. The core of the debate rested on the following basic questions; 1. Is it acceptable to have growth and an inequitable sharing of the derived benefits, so long as the poor are better off than they were before the pie was increased?

2004

The equity-growth trade-off has a long history in neoclassical economics (Okun, 1975). Namely, income inequality generates incentives that channel resources into higher valued uses, and it is conducive to saving and capital accumulation (Kaldor, 1956). It creates market signals for resources to reallocate across industries, occupations, and regions, and it encourages greater labor specialization and human-capital accumulation (Edin and Topel, 1997).

SSRN Electronic Journal, 2016

2011

This thesis assesses the social-welfare implications of modifications to the post transfer distribution of income, in the context of welfare maximising policy design. Both the inequality-distributional efficiency and inequality-growth relationship are assessed. An Atkinson social welfare function is employed in a novel fashion to model the inequality distributional efficiency relationship, including direct effects that result from the concavity of the personal utility function, and external losses operating via positional income effects. This analysis produces estimates of the social welfare losses from inequality across a data set of 137 countries, where the unweighted average of total losses is found to be equivalent to be 47% of GNI. The equality-growth relationship is analysed from the standpoint of both endogenous growth theory and post-Keynesian theories of demand and investment. The relationships between the functional and personal distribution of income and key macroeconomic variables including the rate of savings, and physical and human capital accumulation are assessed. Crucially, these relationships are found to be highly modifiable by economic policy and structural reform, and in theory, no growth–equality trade off need exist. On the contrary, equality may be growth promoting at moderate to high inequality levels. Combined with the large static welfare losses from inequality uncovered in this analysis, the welfare optimum level of inequality is likely to be close to the level associated with distributional efficiency maximisation. This is likely to be a very low level of inequality in comparison to existing levels in most countries and regions, and large welfare losses result from levels of inequality significantly above this level.

2013

Several thousands of years ago, Aristotle famously argued that 'extremes of wealth and poverty are the main sources of evil' in the world. In our time, evil signifies short, miserable and undignified lives; xenophobia, urban crime and violence. Yet a common point with Aristotle's epoch is that all these phenomena disproportionately impact the poor rather than the rich. Seen from this perspective, it can be argued that to talk meaningfully about poverty inevitably also implies talking about wealth, insofar as it is the processes and institutions that connect people differently that make some poor and others rich. In other words, attacking poverty requires a focus on inequality. However, inequality has been treated marginally in international development policy. It is as if what matters in creating a more humane world is absolute poverty. In this view, if extreme poverty is falling, governments should not worry about what happens at the other end of the income distribution. This is particularly evident when one considers the Millennium Development Goals. Several factors have contributed to the unfortunate divorce of poverty and inequality. In the 1990s, the view gained ground among some economists that high growth rates were sufficient to alleviate poverty, especially if income distribution remained unchanged. Governments were advised that they need not follow equity-based growth strategies, as what mattered most was the income level of the poor, rather than equality, whose pursuit might affect efficiency and ultimately growth itself. The fixation with growth and absolute poverty coincided with the triumph of free-market ideas and the finance and technology-induced boom of the 1990s. Even low-income countries in Africa started to experience growth in the late 1990s after the regression of the previous decade. On the eve of the new millennium, there was thus a strong belief that the plight of the poor could be improved without questioning macroeconomic policy orthodoxy and income distribution. However, an increasing body of evidence is showing that highly unequal societies need higher levels of growth than relatively equal ones to overcome poverty, and that there is no trade-off between equity and growth. In particular, poverty is closely related to inequalities of class, ethnicity and gender, which are therefore dysfunctional for development. High levels of inequality make it harder for the poor to participate in the growth process; restrict the expansion of the domestic market; may raise crime levels or cause violent conflict; and may create institutions that lock the poor into poverty traps. This clearly implies that there is a real need for specific policies that promote greater equity in

The paper assesses the impact of overall inequality, as well as inequality among the poor and among the rich, on the growth rates along various percentiles of the income distribution. The analysis uses micro-census data from U.S. states covering the period from 1960 to 2010. The paper finds evidence that high levels of inequality reduce the income growth of the poor and, if anything, help the growth of the rich. When inequality is deconstructed into bottom and top inequality, the analysis finds that it is mostly top inequality that is holding back growth at the bottom.

SOUTH AFRICAN LABOUR BULLETIN, 2004

This commentary poses a series of progressively harder questions in the economic analysis of growth, inequality and poverty. Starting with relatively straightforward analysis of the relationship between growth and inequality, the first level of hard questions come when we ask what policies and institutions are causally related to equitable growth. Some progress is being made here by the economics literature, but relatively little is known about the second level, harder questions-how a society comes to acquire "good" policies and institutions, and what exactly it is that we are buying into when we accept the number one Millennium Development Goal of the United Nationshalving the incidence of income poverty by the year 2015.