Inequality – more and less

A World Bank study a few years ago concluded that the forces of globalisation prevalent in the period 1988-2008 led to the first decline in global income inequality since the Industrial Revolution. The key drivers of this were the startling economic growth in the Chinese and Indian economies, both with populations of over one billion people, relative to the growth seen in the developed economies of the world. The increase in the size of the middle classes in emerging economies has been one of the most important growth themes in global equity investing for the last decade, benefitting the share prices of many global consumer products companies.

This reduction in global income inequality has however been achieved at the expense of rising income inequality in the developed world. The same forces of globalisation that have led to the creation of many jobs in the emerging world, destroyed the jobs of many in the developed world. The much lower wages available to employers in Asia saw first unskilled manufacturing jobs move from the West, followed by semi-skilled manufacturing jobs and digitalisation has also enabled many service sector jobs also to move locations. Workers in the developed world with modest skill levels and education have discovered that the global clearing price for their labour has fallen due to the increase in supply of such labour. However, those with the skills to be in the upper management echelons of many international companies found they benefitted from their companies’ larger global markets and higher profitability. Financial market services was one industry in particular that benefitted from these trends. For the top 1% in the developed economies, globalisation has boosted incomes.

Thus income inequality in the developed world has become much more marked at the same time as global income inequality has fallen. The statistic that demonstrates this most vividly is that the real income of the median US household has barely changed from 40 years ago. All the benefits of economic growth in that period have gone to the very richest in that society and national income inequality is back at the peak levels last seen in the 1920s.

 

Does this matter?

In purely economic terms, with the notable exception of the US economy, Andersen and Maiborn show a positive cross-country correlation between the level of GDP per capita and the rising equality of income in developed economies, in other words wealthier countries have a more equal income distribution, implying that greater inequality is negative for a country’s standard of living.

Perhaps the greater danger though is to politics and democracy. Recent political trends on both sides of the Atlantic show the poorer parts of the population of developed economies to be increasingly unhappy with the standard political approaches and type of politician. Instead more populist political figures such as Trump, Johnson and Le Pen, are on the rise with disguised and undisguised attacks on “others” in society as the source of the lack of improvement in living standards.

In a democracy the economic system must be seen to be operating in a manner that most in society believe to be fair and reasonable. If this is not the case then politicians will have an incentive to propose policies that produce better economic results for most people.

Rising inequality does matter within a democracy, and current levels in the developed economies are back at peak levels seen in the late 1920s. It may be worth a reminder that the 1930s saw the Great Depression and the rise of fascism.