Inequality: Good, Bad and Benign

Posted on in Equality Debates – Full Comment
November 30, 2015.   William Watson

The current global furore over inequality is fuelled in large part by the assumption that all inequality is bad. It isn’t. Good inequality occurs when the economic virtues are rewarded: thrift, industry, invention, innovation, initiative, and so on. Bad inequality occurs when people prosper from morally dubious or even illegal actions or from some unfair advantage they have contrived for themselves or conspired with others, often through governments, to acquire. There is also inequality that is neutral, benign. Neither intrinsically good nor bad, it arises as a by-product of events most of us find unobjectionable, such as changing birth rates, marriage patterns, or divorce laws.

Though what has caused the recent rise in inequality in most rich countries is a more complicated story than is usually appreciated, the pressing practical question is, what do we do about inequality? My answer would be: not nothing but not much. But whether policy goes beyond minimalism or not, it needs to be driven by the good inequality/bad inequality distinction.

Probably the most vigorous counterargument to doing so is offered by the French economist Thomas Piketty, in his blockbusting intellectual phenomenon, Capital in the Twenty-First Century. Piketty proposes instead that we move beyond “sterile” and “futile” debates about merit and wealth, which are inevitably and irrevocably intermixed, like butter and eggs in an omelette. As he puts it, “[T]he central fact is that the return on capital often inextricably combines elements of true entrepreneurial labour (an absolutely indispensable force for economic development), pure luck (one happens at the right moment to buy a promising asset at a good price), and outright theft.”

Really? “Outright theft”? “Often” and “inextricably”? It would be naive to believe what amounts to theft is not involved in some investments — there was clearly widespread fraud in American mortgage securities markets leading up to the crash of 2008 — but, even allowing for the excesses of evocative rhetoric, is theft really a regular part of the return on capital? Piketty concludes we should impose a global, progressive, and comprehensive tax on all concentrations of wealth without worrying overly how they came to be. No doubt he is right that “the courts cannot resolve every case of ill-gotten gains or unjustified wealth.” But if we do as he recommends and tax as if it were stolen goods wealth that may have resulted from and might indeed have been a necessary inducement to the entrepreneurship that is this “absolutely indispensable force for economic development,” how do we avoid putting economic development at least potentially at risk? The Red Queen’s approach of “Off with all their heads!” will certainly punish ill-gotten earnings and may also prevent what Piketty regards as the excessive concentration of wealth, however “excessive” might be defined, but can we be sure the gain will be worth the cost?

Quite apart from the danger to development, there is the problem of fairness: a policy blind to wealth’s origin is also blind to justice, including social justice. “Tax them all” is certainly a consistent policy but it may in the end be much less fair even than letting everyone go free, guilty and innocent alike, in their supposedly undifferentiable mass. As a purely practical matter, in most countries the administration of justice can do better than amnesty for all plunderers. The courts do not provide perfect justice. Some scoundrels certainly will get off. But in this world the perfect is often the enemy of the good. Trying to differentiate between the two types of inequality may yet be a better social bet and produce a fairer outcome than taxing all successful entrepreneurs or investors as if they were thieves (which I immediately concede is an unfair characterization of Piketty’s policy, though he at least suggests a top marginal income tax rate of 80 per cent could be justified, and he does propose a progressive annual wealth tax set high enough to eliminate excessive concentrations of wealth. If we assume criminals face 100 per cent taxation of ill-gotten gains, his favoured tax rates are not that far off. )

What kind of policy approach would be sensitive to the distinction between good and bad inequality? We should certainly keep the police, prosecutors, and courts busy hunting down and punishing perpetrators of bad inequality. If the behaviour that leads to inequality is merely morally dubious rather than strictly illegal, we can at least publicize and condemn it. In the Internet age, public opinion is such a terrible, swift sword — if also usually self-righteous rather than simply righteous — that shaming may be ample incentive to good behaviour, as for instance with Warren Buffett’s “Giving Pledge,” which lobbies billionaires to commit at least half their fortunes to philanthropy and enables the rest of us to ask why they may have declined.

As for good inequality, we should largely leave it alone. So long as we keep taxation at reasonable levels, there are substantial inducements to personal achievement already, in terms of not just wealth but also reputation and satisfaction. Beyond that we should probably also re-think our view of those whose achievement does lead to profits. As the Nobel Prize-winning economist Edmund Phelps has put it, “This culture depreciates the moral qualities that high-achieving people generally have — determination, judgment, and care — and puts a harsh light on the ways in which they are ordinary or worse — their everyday habits and their peccadilloes.” In many cultural settings, profit seekers have become handy villains, even in cultural undertakings that are themselves often outlandishly profitable: think of Hollywood, where, along with Islamic terrorists, executives from Big Pharma and Big Oil (but never Big Movies) have squeezed out Nazis and Soviets as stock villains.

Neutral inequality? We may simply want to explain its role in generating greater inequality so that generalized angst is not the mass reflex every time the inequality indicators rise. Not the least important reason for discouraging overreaction to rising inequality is that most of the policies emerging from overreaction have substantial drawbacks and downsides.

Though a general policy towards inequality would be unwise, we do need policies, and we have them, to fight poverty, restrict privilege, and encourage opportunity. Poverty and inequality are often treated interchangeably in public debate but in fact are quite different things. Rising poverty generally has not been the source of the recent rise in inequality. In fact, in many countries, especially developing countries, many of which are now finally developing in reality and not just in name, poverty rates have been steady or falling: the rich may have been getting richer, and the super-rich super-richer, but in most places the poor have not been getting poorer. Despite the widespread uplift, however, acute misery is hardly unknown in our societies. But its source is not growth at the top of the income distribution but deprivation and desperation at the bottom. If the citizens of a rich society do not address such problems spontaneously on their own, and we should neither underestimate nor undervalue the extent that they do, they should supplement their own efforts with public policies – which in fact all rich societies have done. In some respects, having a robust welfare state is now the very measure of a rich society.

We also need to increase opportunity for those not lucky enough to be born into the top of the socio-economic distribution. This would be true even if it brought no change in overall inequality but merely re-shuffled who was at the bottom and who at the top. Good educational opportunity for all is the policy that first comes to mind. In fact, education’s effect on inequality is not so clear-cut as usually assumed. Subsidized education for all, especially higher education, may actually reinforce inequality, while even if somehow all citizens were to receive exactly the same education, economic inequalities almost certainly would remain, though we could then at least be reasonably sure they reflected differences in effort and ability rather than starting point.

If we do focus on policies that prosecute illegality, denounce immorality, fight poverty, restrict privilege, and encourage opportunity, we can then move towards a world in which most of the inequality that remains will be either neutral or good. Only “most” because no policies ever completely achieve their goal. But most would probably be good enough. At the very least, a world in which most inequality were either neutral or good would be a world that could stop worrying so much about inequality.

Excerpted from The Inequality Trap: Fighting Capitalism Instead of Poverty, copyright University of Toronto Press 2015.

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