Tuesday, October 16, 2012

When is inequality bad?

The lead article in the Economist purports to be about income inequality.  It starts out with the reasonable proposition:

... some measure of inequality is good for an economy. It sharpens incentives to work hard and take risks; it rewards the talented innovators who drive economic progress. Free-traders have always accepted that the more global a market, the greater the rewards will be for the winners. 

But then it argues that inequality has reached a stage where it can be inefficient and bad for growth:

That is most obvious in the emerging world. In China credit is siphoned to state-owned enterprises and well-connected insiders; the elite also gain from a string of monopolies. In Russia the oligarchs’ wealth has even less to do with entrepreneurialism. In India, too often, the same is true.

In the rich world the cronyism is better-hidden. One reason why Wall Street accounts for a disproportionate share of the wealthy is the implicit subsidy given to too-big-to-fail banks. From doctors to lawyers, many high-paying professions are full of unnecessary restrictive practices. And then there is the most unfair transfer of all—misdirected welfare spending. Social spending is often less about helping the poor than giving goodies to the relatively wealthy. In America the housing subsidy to the richest fifth (through mortgage-interest relief) is four times the amount spent on public housing for the poorest fifth.

 These examples are strategies employed by firms and individuals to manipulate government policy to their own advantage, which readers of this blog will recognize as examples of "make the rules or your rivals will." 

If this is the problem, I am not sure why the Economist proposes income re-distribution to address it.  Why not attack the problem directly by eliminating too-big-to-fail subsidies, regulatory barriers to entry, and misdirected welfare spending.

 HT:  Cassie


  1. I would certainly agree with eliminating the mortgage-interest deduction, entirely. In a society that is more and more concerned with the "1%", "fairness", and seems to foster growing hostility towards the wealthy -- the mortgage interest deduction yields the greatest rewards to the wealthy for buying expensive homes and ultimately drives up the prices of all US homes, making homes less accessible. It is one of the largest tax deductions and just so happens to be extremely regressive in its application. This is money that the government is arbitrarily giving back which causes distortions in the housing market. While a tough sell to most homeowners, eliminating this tax deduction would help make home buying more equitable.

  2. But shouldn't we consider the fact that the 1% (richest) are the ones that are also putting the most money back into the economy and have the most mobility to leave America and invest funding in other places? I don't think we can continue to make cuts on the wealthy based on equality because this leads to less incentives to become wealthier in America and to stay in America if you are already wealthy.

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  4. Much like your post about subsidizing risk. If the government would allow failure as an option for those who take the risks, then better decisions would be made. Or else failure would open up the market to new entities who would likely have a better way of doing business, naturally allowing the wealth to be spread among banks, businesses, etc. that have not been entrenched for years based solely on their reputations.

  5. I echo BJ. The survival of the fittest should be the strategy for the governments. No subsidy, no favoritism. Ahsley is right in saying that the wealthy will be willing to leave the country if they are not been given incentives. Let them leave and let a new breed of wealthy emerge. Everyone should get a fair chance at making wealth.

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