Why income inequality must be moderated

By May 22nd, 2012 Uncategorized 2 Comments

Dr Maheswaran Sridaran

The predominant economic model practised in the world today is free-market capitalism. It is the economic model which has, in all human history, resulted in the creation of the greatest wealth. It therefore has its merits. Chief among them is its propensity to impel human initiative in pursuit of material gain for one’s self, which is a cogent incentive indeed. It rewards, however, only those who are able enough to compete and prevail. Those who can, amass riches. Those who cannot, that is, those who are too weak to compete and prevail, fail, and can fail hopelessly.

Free-market capitalism, therefore, results in some people having high incomes, and others having low or no incomes. That is an outcome with far-reaching ill consequences.  That such consequences do exist must be recognised if the harshness of their impact is to be mitigated though sensible policy measures.

Richard Wilkinson and Kate Pickett, both professors in the UK, in their 2009 book “The Spirit Level—Why More Equal Societies Almost Always Do Better”,  conducted an investigation of the correlation between income inequality and social wellbeing. Wilkinson and Pickett analysed a number of indices of societal health and development across 23 wealthy countries and all states of the USA.

The countries covered in their study included: Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Japan, the Netherlands, New Zealand, Norway, Portugal, Spain, Sweden, Switzerland, the UK and the USA.

They used the following indices of those countries as measures of societal health and development: mental illness (including drug and alcohol addiction), teenage births, homicides, incarceration, infant mortality, life expectancy, level of trust, educational performance of children, and social mobility.

The following are some of the key conclusions which the authors drew:

  • The wellbeing of children of parents with low incomes is poor, and the prospects for advancement during the life of those children are retarded due to their disadvantaged upbringing.
  • Trust among members of a society can be low where that society is one where income inequality is high.
  • The empowerment of women is low in a society with high income inequality compared to one where it is low.
  • Mental illness is relatively high in societies with high income inequality.
  • Illicit drug use in a society is positively related to the high income inequality in that society.
  • Countries with less income inequality have a relatively low rate of infant mortality.
  • The positive correspondence between a society’s rate of homicide and incidence of incarceration and the income inequality of that society is, indeed, quite strong.
  • Maths and literacy scores are higher in countries with less income inequality.

The book by Wilkinson and Pickett was very widely debated. It was reviewed well by a large number of authoritative critics, but was also critiqued by others as not adequately making the case that it was income inequality which was causative of the societal ill effects that the authors had observed. In other words, those critics argued that the societal ill effects observed by Wilkinson and Pickett were perhaps not necessarily the result of income inequality in those societies.

That inadequacy of income, or more specifically, poverty, can cause the societal ill effects observed by Wilkinson and Pickett is a point that is harder to refute. In other words, some being rich in a society is unlikely to cause those societal ill effects; what can cause them, is some being poor. The alleviation of poverty, accordingly, is the fundamental issue that warrants a policy response, which must necessarily embrace measures aimed at redistributing wealth from the wealthy to the less-wealthy.

All the social ills canvassed by Wilkinson and Pickett  do translate into real economic costs:

  • Poor health and poor education keep the productivity of a nation’s workforce significantly lower than they otherwise would be.
  • A society whose members trust each other less will have higher costs in consummating transactions.
  • Where some are disproportionately richer than the others, those that are richer can deploy their wealth to secure political outcomes that the others cannot, perverting the course of democracy.
  • Inadequacy of consumption (those who are rich consume a smaller proportion of their incomes compared to the poor) is not helpful to propelling growth in employment during times of economic recession.

That these social ills do translate to real economic costs is evidenced by a number of authoritative academic studies. Sir Michael Marmot, a professor of epidemiology and public health at University College London, in an article published in 2006, argued that there is greater prevalence of ill health in the USA compared to the UK, which he attributed to the greater inequality in the distribution of wealth in the USA (compared to the UK) and the consequent heavier mental stresses of those living in the USA experience.

In 2004, Jong-Sung You, a graduate student at the Kennedy School of Government at Harvard University, and Sanjeev Khagram, a Professor of Public Affairs at the University of Washington in Seattle, published a survey of 129 countries, in which they argued that income inequality can engender corruption, especially in countries which are democracies, as in them there was potential for political influence to be secured in exchange for wealth.

As the wealthy become wealthier, they can acquire greater political influence, and they indeed do, to ensure the enactment of policies that support them becoming even wealthier at the detriment of others. That was the conclusion reached by Edward L Glaeser, a professor of economics at Harvard University, in a paper which he published in 2005.

Drawing on the work on fairness by Daniel Kahneman, a Nobel laureate in economics, Steven Pressman, a professor of economics at Monmouth University in West Long Branch, New Jersey,  argued in 2006 that income inequality can lower productivity and reduce economic efficiency. Pressman reasoned that the widespread corporate practice of awarding substantial remuneration to senior executives while insisting on no pay increases, or even pay cuts, to rank-and-file employees will make the latter feel hopeless and may lower their motivation and thus productivity.

In 2004, the American Political Science Association appointed a taskforce to report on the impact of wealth inequality on American democracy. The taskforce comprised 15 academics from the following universities in the USA: University of Minnesota, University of Maryland, Princeton University, Harvard University, Stanford University, Yale University, Notre Dame University, George Mason University, University of California (Irvine), Syracuse University, Northwestern University, University of Illinois (Urbana-Champaign), and Boston College. The taskforce, in their report, unanimously drew the following telling overall conclusion with respect to their country, and it is a conclusion that we in Australia must heed, as our country is a liberal democracy not essentially dissimilar to the USA:

“Equal political voice and democratically responsive government are widely cherished American ideals. Indeed, the United States is vigorously promoting democracy abroad. Yet, what is happening to democracy at home? Our country’s ideals of equal citizenship and responsive government may be under growing threat in an era of persistent and rising inequalities. Disparities of income, wealth, and access to opportunity are growing more sharply in the United States than in many other nations, and gaps between races and ethnic groups persist. Progress towards realizing American ideals of democracy may have stalled, and in some arenas reversed.”

The solution is not the abandonment of free-market capitalism. That would be foolhardy. The solution lies in two broad policy measures. First, there must be an optimal degree of progressivity in the nation’s tax system. Those who are wealthy must, accordingly, be made to pay a greater proportion of their wealth as taxes relative to those who are not wealthy. Second, expenditure programmes undertaken by government must confer benefits not on the wealthy, but on the less-wealthy. The entitlement to benefit from those programmes must, accordingly, be means-tested, unless there are overriding reasons why access to a programme must be made universal without means-testing.

Dr Maheswaran Sridaran is a tax practitioner. He was previously a university academic who taught Australian tax law. His work has been published in prominent Australian newspapers and journals. These are his views and do not necessarily represent the views of The McKell Institute.



  1. Peter Fuller
    June 14th, 2012

    Income inequality is, of course, not the only determinant of the overall health and mental health of a society.
    Differing levels of income can and are “equalised” by other support systems. Australia has many support systems that make or society more equal, compulsory voting involves all in the democratic process, adequate quality public heath systems and free public education provide life qualities that don’t rely on one’s own income.
    That’s not to say that Australia could not do much better by creating a more level economic playing field by reducing entrenched privilege such as the untaxed income form inheritance and capital gains on the principal place of residence.

  2. June 8th, 2012

    Of course I could be proud to be Labour. I could be proud that Labour lreeads have elevated themselves from the life of poverty that many citizens of the UK still find themselves within. I could be proud that Labour has sought to enrich the wealth of the wealthy. I could be proud that bankers and speculators have increased their own wealth and living standards…but I could only be proud if the increased wealth was distributed in fair proportion to the real generators of wealth brought about by the toil of the worker. There is an argument that large financial incentives are required to ensure that the UK captures the talent of the so called “money makers” that in turn will cascade investment, productivity and prosperity for the nation. I have been waiting a long time to see the proof of this argument. If this argument were true, then poverty in the UK should be falling.The converse argument that fair reward to incentivise the worker to achieve full productivity is never heard from Labour lreeads. It is a national disgrace that, in spite of a “national Minimum Wage” too many workers do not earn enough to pay for even the basic needs of food, water, heating, clothing and travel to work costs,(not to mention the costs of regressive taxes paid by the masses according to the inabilty to effectively challenge unfair taxation, and not paid upon the abiltiy to pay) to the extent that government accepts that there is a need to indirectly subsidise miserly employers by paying tax credits to poorly paid workers. If respect and fairness were ever words to be uttered from Labour’s lips, then a minimum wage should at the very least be based on a true cost of basic survival without any need to claim benefits or tax credits. However, true value of the individual should be considered if Labour ever dares to utter the words “respect” and fairness.”To my mind, respect and fairness would reflect value to society. I cannot live without food produced by a farm worker. The farm workers contribute in more than an average way to my well being, so why is s/he paid so little, and so greatly below the national average income? – a more than average contributor to my life, but a recipient of a less than average wage. The same is true of the hospital cleaner, who guards my health when I am least able to defend it, and the shop worker who supports me by serving goods to cater for my needs (at least when I can afford to pay for goods and services)….and whoppeedee that more people in Britain are now working than ever before. There was a time in the history of this nation, that many families could choose for only one member of the household to work, and the other partner to stay at home yet still could afford a roof over their heads, food on the table, fuel, dental treatment, children, local taxes etc.there is nothing wrong with equality, if the rewards of equality at work are received. Gender equality in the workplace has not entirely resulted in emancipation, but has contributed to an increased abilty by the greedy to charge more for products and services. All other things being equal, “equality” and more people working should have resulted in a greater effective spending power amongst the workers, but the collective increase in worked hours and hence family wages has only given the greedy the abilty to price housing and other goods and services at a higher level than could otherwise be sustained. Logically, if more people are working than ever before, then there is an argument that everyone could be working fewer hours. Collective gross wages might of course be less, but the abilty of the greedy to extort inflated prices from a consequential reduction in gross collective income would be reduced. Poverty is getting worse, and will continue to do so until individuals are given the respect they deserve, and the abilty to earn fairly. I would expect a government elected by the people to do the job they are supposed to do …i.e.: represent the people, all of which deserve their respect. If a member of the community contributes in an average way to the rest of the community, then reward them in an average way, for example by allowing that person the average income. If a person performs a little less, then fair enough, pay them a bit less, but not a poverty income. If government policy prevents a person from working in the intersts of the economy (e.g. a flexible workforce needing spare capacity), then pay the value of having flexibilty to the victims of the policy. There is enough money to go round, if it was shared out fairly.Perhaps I’m naive, perhaps I’m a socialist, but perhaps I’m not proud to be Labour, or a least not proud to be Labour in the form that it manifests itself today.

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