The Origins of Inequality

AJ Lawton

 

 

 

 

 

 

 

 

 

 

 

 

Abstract

I want to look at why different societies accept different levels of income inequality. To do this I examine the histories, cultures, and the political and economic trends of a broad range of developed countries around the globe that participate in the OECD, as to have more reliable access to data. This includes looking at the causes of inequality from a technocratic perspective, and then looking at cultural inequality. I then see if there is any consensus on the benefits or consequences of inequality, and what policy options are recommended for dealing with those effects.

Introduction

Income inequality is an issue that has garnered more attention in American and world politics, especially since the Great Recession. By most measures, the level of inequality in the United States has reached levels not seen since before the Great Depression and Gilded Age. The same can be said of global inequality, as research by the charitable organization Oxfam outlined in a recent report which estimated that in 2016, 50% of global wealth will be controlled by 1% of the population. It has become an issue that now draws attention from both sides of the political spectrum. Inequality, of course, is a very controversial topic for many. The distribution of resources is the original problem of government, which has shaped the very bedrock of each nation’s political culture–spawning prosperity, turmoil, or revolution. To understand the causes of inequality is to hopefully understand the politics that creates varying levels of egalitarianism in economic policy, and figure out what, if anything, should be done.

The first question that is fairly asked when starting this analysis is: why does inequality matter? Many conservatives are skeptical of studies on inequality, and question the very motives of such research as loaded.  Those uninterested in societal levels of income inequality often believe the topic is irrelevant because people that do earn fantastic wealth have earned it through their talents and hard work. The focus, they argue, should instead be on growing the pie for everyone through growth, and inequality itself is not wrong so long as the marketplace that produced it has fair standards.  But the point of studying income inequality should be treated as far more academic and empirical. And as the inequality has skyrocketed, there is a populist wave behind even conservative proposals to reduce income inequality, albeit by different means than liberals. It can surely be agreed in every state that there is a certain level of inequality that is intolerable and by nature, inequitable and harmful to society. To quote a book of studies on inequality in the OECD that I will review and cite frequently, “feelings of inequity aversion lead people to resist what they perceive as inequitable outcomes”. Inequality by its very premise creates feelings of unfairness. As my research will indicate, measuring income inequality can be a valuable measurement when gauging the health and stability of a given society.

Methods

The first part of my analysis will be looking at what causes different levels of inequality through a hard analysis of numbers, development, and technocratic policy, which will involve an extensive look into the modern welfare state and how it functions in different places. Income inequality in academic literature is most commonly measured by the GINI coefficient. The GINI coefficient is the calculated distribution of income in a given country scaling from 0-1, 0 being total equality, and 1 being a single person having all wealth. There are different ways to use this variable: over time, cross country, pre-tax, post transfer and taxes, etc., which can all be true but paint very different pictures. My hope is that that my research will encompass a wide range of this data, specifically post transfer and taxes, that gives a complete story to the variety of ways inequality is created, dealt with, and maintained.

Rather than get caught up in creating a long, specific list of states from which I will compile data for, this research will be more generalized for states within the OECD (Organization for Economic Cooperation and Development), and very occasionally just outside of it. I am able to use this broader category because most of my research is already based on the organization and then occasionally divides it into other parts for further analysis. This allows me to focus more on the theoretical underpinnings of inequality itself, and put more emphasis on typifying policies, causes, and effects, rather than being misdirected by too much detail on excessive specifics from individual states. Using data from the OECD is advantageous for several reasons. First, the nations within the OECD are democratic, open market, and on the latter tier of industrial development compared to much of the world. This is helpful in weeding out factors like autocratic regimes, extreme political instability, recent civil wars, and lagging economic development which would be too difficult to control for in a small research paper, let alone get reliable data for. States within the organization share many common values within the traditional liberal institutions that they participate in. Perhaps more importantly, the openness of these states and the OECD in the name of transparent economic activity has provided a vast amount of reliable data available for comparison, and which much research is already based on.

The second part of this paper will be focused on specific cultural, political, and historical trends which might help explain the roots of general inequality in given states, both socially and in terms of income. It appears universal that these two inequalities are interlinked, since social inequality almost always is present when there is income inequality. Things like racial and ethnic fractionalization will be of particular interest, as well as patriarchal societal tendencies which create an inequitable gender divide.

What are the causes of inequality?

So first, let’s look at the economics and hard data on what causes income inequality from a policy and market centric perspective. This data is of most use for examining inequality, because at the end of the day it is the policy and the economy which are easiest to trace income inequality back to. It could be argued that the policy and marketplace are symptomatic of more or less egalitarian social cultures to begin with. This will involve looking deeply into the concept of the modern welfare state, which is the primary determinant of redistribution and income inequality in the OECD.

Throughout most of human history, income inequality has not been detrimental to economic activity. In fact, as Hoeller and Pisu (2014) point out in their introduction in the research book Income Inequality in OECD Countries with a variety of other research, the effects of inequality largely depend on the stage of economic development. During the early stages of the industrial revolution, the accumulation of capital was the most important factor to driving economic growth. The wealthy are what moved projects and development through investment and savings, since poor individuals had too little capital power to do so, and during these periods virtually no middle class existed.  This changed with the full swing of the industrial revolution.  As technological advancements come into creation, a more educated set of labor is needed to operate and maintain the machinery. These advances reduce the amount of labor needed for a task, and the excess labor produces goods on a global scale. This increases the value of labor, and is what gave rise to the modern middle class. In the later stages of development throughout the industrializing world, human capital, rather than monetary capital, became the most important factor in economic growth. This means that large income inequality, because of credit constraints on human capital, becomes detrimental to growth, as the authors of the book later conclude. (Sato, Tabata, Yamamoto, 2008)

The first measurement of analysis then is of the inequality originating from the labor market, before taxes and transfers are put in place. And in this respect, all countries vary wildly based on wage rates, hours worked, and inactivity. And each of these factors plays a very different role depending on the country being analyzed. In the United States, for example, the difference in wages (wage dispersion), is the biggest factor in measuring its inequality. Within the OECD, the US, Chile, and Portugal have the highest earnings inequality among full time workers. Other countries might have inequality exacerbated by a large amount of part time workers and those that are non-working. Inequality in labor income is the main driver of inequality by household market income (HMI) in the OECD. This rise in inequality coincided with rapid technological progress, rising international trade, and financial integration. (Hoeller, Joumard, Pisu, Bloch, 2014)

The authors then divided the OECD into four distinct groups based on these labor market inequalities. The first group includes the four Nordic countries (Denmark, Sweden, Norway, Finland) and Switzerland. This group of countries has a low level of inequality originating from the labor market compared with the rest of the OECD. They have narrow wage dispersion across the board, particularly on the higher income levels, and have a high employment rate. Cash transfers are mostly universal and household taxes are more proportional to household income. Despite the common conception of the Nordic countries as having a highly progressive system, the authors assert that their taxes are not highly progressive. It might be necessary to view these economies as being influenced by a more egalitarian culture, or at least different enough that take home pay disparity is so radically different than their counterparts in the OECD. For while government mandates for minimum wage, bargaining rights for unions, and workplace regulations put a base level for living standards on the economy, no country has policies mandating strict control of pay disparity. In this group, disposable income and the poverty rate are below the average of the other OECD members. (Hoeller, Joumard, Pisu, Bloch, 2014)

The second group consists of 16 nations (Austria, Belgium, Czech Republic, Estonia, Finland, France, Germany, Greece, Hungary, Italy, Luxembourg, Netherlands, Poland, Slovakia, Slovenia, Spain, Japan and South Korea) in which the wage dispersion and poverty are both about the average for the organization as a whole. What is stressed however, is that the causes for this differ wildly within the group. Some have high wage disparity within lower income groups, some higher income groups. Others are more effected by a high part time employment rate, others a high unemployment rate. Most interestingly, perhaps, is that in Greece and South Korea, the author’s identity a significant redistribution that takes place at the family level. Neither taxes or cash transfers are very progressive in any of these states. This set shows just how incredibly diverse each state can be with their taxes, transfers, and behaviors within individual economies. An analysis of this style is crucial in conjunction to cultural political will. For while governments can encourage certain policies and the culture influences these, economic forces can also be an independent force that can guide trends. (Hoeller, Joumard, Pisu, Bloch, 2014)

Another group consists of Australia, Canada, New Zealand, and the United Kingdom. Their income disparity is pushed by a large number of part time workers in their economies, even as the overall employment in these nations is above the OECD average. The taxes and cash transfers in these states are more targeted and progressive, which has a significant impact on their final GINI coefficients. What might be the most important thing to note from this set is that these states are comparatively small to other OECD nations. As I will detail later, the size of a state, and its diversity, appear to be a critical correlation for the structure of the tax system and welfare state. (Hoeller, Joumard, Pisu, Bloch, 2014)

The final group includes Chile, Israel, Mexico, Portugal, Turkey, and the United States. They have above average inequality originating from the labor market. There is a very wide wage dispersion within these states, a low employment rate except for in the US and Portugal, and Capital and self-employment income are highly concentrated in the upper income groups. The cash transfers in these states have a marginal redistributive impact because they are relatively small and insurance based. As a result, poverty and income inequality are far above the OECD average.  All four of these groups help lay the framework for further analysis, by first recognizing that inequality is first and foremost a byproduct of the market, which comes together with a lot of other demographic and economic factors to create a variety of pre-tax income disparity levels among different states.  (Hoeller, Joumard, Pisu, Bloch, 2014)

This graph shows the inequality of labor earnings between individuals of working age, and the complexity of each nation’s inequality produced by labor earnings, and how certain types of employment correlate strongly with each other in each country. (Hoeller, Joumard, Pisu, Bloch, 2014)

The different ratios of income sourcing per country along with their GINI coefficient.  (Hoeller, Joumard, Pisu, Bloch, 2014)

Transfers, Taxes, and the welfare state

Next is the more determinant factor in measuring inequality for our purposes: the welfare state. The welfare state can be summed up as the degree to which governments permit people to make their living standards independent of pure market forces (Holliday, 2006). The welfare state is a modern invention of the state, coming to prominence only recently in the 20th century, particularly after WWII. It is the primary mechanism through which states redistribute naturally unequal distribution of capital that occurs in modern capitalist economies, as elaborated above. A previous study by Epsing-Anderson (1990) identifies three types of welfare states: liberal, conservative, and social-democratic (Holliday creates a fourth which I will use later). A liberal welfare state is liberal in the classical sense. These states are reluctant to provide social benefits, and prefer to leave the market alone as much as possible. In a conservative welfare state, the church is more of an important force than the state, and granting social benefits is uncontested. The difference is that there is a strong inclination for the preservation of the class status structure, meaning that mobility and large scale redistribution are almost non-existent.  Last of the Epsing-Anderson model is the social democratic welfare state. Equality is emphasized more than just the provision of basic needs. Rather than a uniform implementation, social democratic states tailor their social programs to the goals and intricacies of a nation’s economy. The greatest inequalities of the market are marginalized, and the costs of raising a family are socialized to the state. (Holliday, 2000)

The way a welfare state is typified in a given country can lead to predictable results with income distribution. Each state within this research has their own blend of social-democratic and liberal qualities for welfare provision. The states that can be described as conservative are more traditional states and social structures that are often emerging or still developing economies. These states are being left out of this analysis. Instead, what needs to be examined is the degree to which these social-democratic liberal states redistribute their resources, and through what mechanisms they choose to do this with.

Taxes and transfers are the primary instrument of the welfare state. During the late 2000’s, income inequality in the OECD was about 25% lower on average after these policies were taken into account. In the same time period, poverty was measured 55% lower on average. Countries with more unequal distribution of market income tend to redistribute more to compensate. Cash transfers (direct payments to persons) constitute the bulk of the reduction in most of the OECD, accounting for 75% of the total inequality reduction. The remaining 25% is through the use of taxes. As might be expected, the impact of cash transfers varies a lot from country to country. Some states have a large part of their average household disposable income (HDI) redistributed over time through social security measures. Some countries rely more heavily on targeted, yet smaller cash transfers to individuals. The authors cite Stalhberg (2007) as estimating that 38% of lifetime benefits received in Australia were financed by taxes individuals paid at a previous time in their lives, with the remaining 62% of benefits were redistributed between higher and lower income individuals. In Sweden, it is only 18% of benefits are redistributed between higher and lower income individuals, while 82% is redistributed over the lifetime of an individual from a previous period. The authors use this example to explain that there are different models of redistribution. Sweden, like the other Nordic countries, relies on universal benefits, while the Australians use highly targeted cash transfers. Surprisingly, the redistributive impact of taxes between countries is very similar, even accounting for progressivity and differences in the economic structure. Cash transfers, however, show considerable cross country difference. In the Nordic countries of Denmark, Finland, and Sweden, cash transfers have five times as great of an impact on redistribution than in South Korea, and three times greater than the US. (Hoeller, Joumard, Pisu, Bloch, 2014)

(Hoeller, Joumard, Pisu, Bloch, 2014)

Taxes, despite the dominating impact of cash transfers, are still very important for assessing policy and redistribution. Other than redistribution, taxes are how governments fund themselves and their priorities. Citizens also don’t generally like paying taxes. Out of the numerous ways there are to tax incomes and consumption, governments are constrained by the effects that taxing has on the electorate that puts them into power. (Hoeller, Joumard, Pisu, Bloch, 2014)

From the study above, the authors emphasize that there are limitations to analyzing the redistributive impact of taxes between countries, because the meta data relating to it has only just became available in the past few years, especially data that relies on household surveys, which can be subject to inaccuracies. The broad progressivity of tax systems, however, can be measured by general tax schedules.  Despite the cuts to the top income rates—more than 10 percent in some countries—the progressivity of taxes has increased in a majority of the OECD member states, driven mostly by changes in the lower income brackets since the early 2000’s. Things like the earned income tax credit, or adding exemptions for social security contributions to encourage work, give lower income groups more take home pay, and as a result make the system more progressive overall. (Hoeller, Joumard, Pisu, Bloch, 2014)

The personal income tax has generally been the most progressive tax in the OECD. However, the progressivity of this has faded drastically in recent years as governments have expanded exemptions and tax relief for higher income individuals. The US, UK, and Canadian use of relaxed taxation on voluntary retirement accounts disproportionately benefits upper incomes, for example. In the US, more than 90% of the savings from reduced tax rates on capital gains go to taxpayers in the top bracket of income distribution, and about half of all benefits go to individuals in the top 0.1% of earners. This exemplifies a pattern within the OECD for preferential tax treatment for capital investment, income, and inheritance. This has important impacts on the distribution of wealth. Many OECD countries now tax capital at a lower, flat rate than most labor taxes, which are still taxed at a progressive and higher rate. While the direct causality is mixed, it is clear that the days of heavy taxing of the wealthy and business classes has largely faded. (Hoeller, Joumard, Pisu, Bloch, 2014)

The authors of another section of this study discern five models of taxation. Only three of which will be of concern for this study because of wealth and welfare development. There is the Nordic model (Nordic countries plus Belgium, Netherlands, Spain), characterized by large and mostly universal cash transfers, and a high level of social spending funded through a variety of taxation which promotes redistribution.  Then there is the Continental European model (Austria, France, Germany, including several others) with large cash transfers in the form of mostly retirement pensions, focused on the redistribution of income over an individual life cycle rather than between groups of people. The final group of importance for this paper is the Anglo Saxon model (UK, Australia, Canada), which promotes redistribution with small cash transfers and tax mixing. These categories conveniently coincide with earlier categories of market inequality, suggesting government policy that is cautious in interfering with market forces too heavily. (Hoeller, Joumard, Pisu, Bloch, 2014) (Bambra, Eikemo, 2009)

Figure above from Social Democracy Constrained (Beramendi, Rueda, 2007)

This brings us to the important question of how welfare states themselves are funded. Based on the trend cited earlier that capital is no longer the optimal choice of gathering revenue, even in the more progressive welfare states, the options for large sources of funds become rather limited. Ganghof (2006) produced an article that questions what he believes is a widely held view in academia that regressive taxes—consumption taxes aimed at the general population—made it politically easier for building and maintaining welfare states in Europe. He particularly cites Wilensky (2002) and Kato (2003), who argued that the revenue shift from capital to regressive taxes was the solution that modern states used to maintain large public sectors.

The bulk of Gangof’s research looks at the very technical nature of tax mixes and regressive vs. progressive tax structures, in what he calls the “tax structure argument”. Consumption taxes, it is assumed by the research he is trying to refute, imply a moderate taxation on capital and are the only possible funding that states have the capacity to draw and pay for things with. Gangoff insists that this can be done with progressive taxes like the income tax, to moderate effects on capital as well, something he finds is essential to maintain welfare states. This boils down to refuting the casual link between revenue raising capacity and welfare spending. Instead, he insists that high welfare spending simply means an overall high tax burden.

His case in point is in the Nordic countries, which links with this paper’s earlier findings that European states are reducing their tax burdens on capital. There has been a sort of dual income tax policy in these nations since the 1980’s, where only wages and above average capital income are subjected to the higher progressive tax rates of up to 60 percent. Average capital income, however, is taxed at 25 percent. This was the result of a small scale backlash to the modern welfare state. France appears to be the rare exception across Europe in the reduction of these capital focused tax breaks. It still has a strong revenue raising capacity and maintains high social spending, with tax growth of 10% of GDP specifically from progressive taxes from 1970-2003. Tax revenue from their value added tax (regressive consumption tax), decreased by 16-19 percent, social security contributions increased by 26 percent, and revenues from income and property taxes doubled. He attributes this rare exception of high capital taxation in Europe to the fact that France adopted consumption taxes early on. (Genghof 2006)

The key to maintain the welfare state, Gengof goes on, is not relying on one form of taxation too heavily. In states with large budgets because of welfare states, the social costs of taxing too heavily in one area carries inherent risks. This is called the budget stakes principle, coined by Lindert (2004), which states that “the higher the budget, the higher the marginal cost of choosing the wrong fiscal design, both economically and politically”. The modern welfare state adheres to these costs, and it is reflected in the most ardent supporters of European welfare today. Another case is Denmark, which has by his definition a large welfare state. Denmark has a high consumption tax burden and a high income tax, but built into that income tax are exemptions to ease the burden on capital. (Tsangarides, Berg, Ostry, 2014)

He concludes by noting that policy makers with strong spending commitments have no choice but to rely on regressive consumption taxes. The strong reliance on at least one regressive tax reflects the policy desires of the electorate for high social spending, and also the constraints of taxing capital, which is essential for modern economic growth. The use of a regressive tax does not imply that a large welfare state exists, such as the case in the UK and New Zealand, who simply use consumption as a general revenue. But large welfare states must use at least some regressive taxes by necessity, rather than because of political convenience. This is an unexpected paradox: that social democratic governments which desire a strong welfare state and security for the most vulnerable in society, must also rely on consumption taxes which by nature are levied on those most targeted by welfare. (Beramendi, Rueda, 2007)

Up until this point, the modern welfare state in this paper has been characterized as a tool used by governments to give in to the desire of populations to guarantee a certain standard of living, and to provide a safety net for the most vulnerable in a population. This is indeed true for all of the social democratic welfare states within Europe and the West. However, this does not hold true with research on East Asian welfare regimes by Ian Holliday (2000), whose work was referenced earlier. Returning to the earlier definitions of states as either liberal, conservative, or social-democratic, he adds a fourth category: statist. In these welfare regimes, social policy is driven primarily by the requirements and outcomes of economic development. And so the literature surrounding the East Asian welfare states points to this, rather than the cultural element that seems to qualify the western welfare regimes.

A brief history of a few of the two East Asian welfare states that are in the OECD is in order with reference to an article by Aspalter (2010). The start of the Japanese welfare state can be traced back to the rise of Imperial Japan in the late 1930’s. The government wanted to promote social security through programs targeted at soldiers and their families as a means of boosting economic and war productivity. This would also address the problem of poor health among drafted men, and provide a morale boost to the nation as a whole. A workers insurance pension was passed in 1941, and a welfare pension was established in 1944. After the Second World War, there was a major expansion of programs including national health insurance, broader coverage under the national pension, unemployment insurance, and disabled and elderly assistance. After a period of a no growth in the welfare state during the 1960’s, the 1970’s saw stable funding increases in the welfare state as a result of successful socialist and communist parties in local elections. The Liberal Democratic Party made expansions as a way of curbing support for the leftist parties, and this largely succeeded. It was not until the late 80’s and 90’s that the nation saw a wave of increased pressure for elderly assistance programs. Aspalter finds that the Japanese welfare state today is rather developed, although not expenditure oriented. It is redistributive through progressive income taxes, but this is not the primary goal of its programs even today. National development was first and foremost a priority. Providing security to its army and later workforce were concession means of boosting economic activity and curbing left wing enthusiasm, rather than altruistic goals. (Aspalter, 2010)

The South Korean welfare state goes back to the 1960’s, entirely as a means of legitimizing state rule after the failure of the First Republic in 1960. The authoritarian leader, Park Chung-Hee, came to power in a coup d’état, and to overcome the perception of illegitimacy, he granted major social program concessions to the working classes. This forced economic development and put down discontent within the population. Socialist and communist parties were not a factor in pressuring the regime for change here. From 1972-1979, South Korea was under a more repressive and authoritarian rule. This regime did not utilize the welfare state as a tool for social and economic development. A formal democracy rose in 1987, and with it came competitive national elections in which politicians began promising major welfare enhancements. The majority of the workforce came to be covered by a national pension, and a universal public healthcare system came in 1989. Each of the following regimes maintained these programs while trying to curb expenses whenever possible. The goal of this “productive welfarism” is to encourage participation in the workforce, and reduce social exclusion. Public assistance, like in the US, is highly stigmatized, and it is comparatively weak in benefit provision. The South Korean welfare state is aimed at high growth and reducing mass discontent in the workforce, and is geared towards market orientation, rather than redistribution. And yet both Japan and South Korea have average income inequalities within the OECD. (Aspalter, 2010)

While the aims of these programs were focused primarily on economic development and social stability, the potential redistributive power of national pensions, universal healthcare programs, and unemployment benefits is undeniable. However, Aspalter notes that large scale redistribution is largely absent from these societies. These programs are to ensure a minimalist safety net that does not deter growth. Extensions in the welfare state have only come when the political pressure becomes too intense to ignore. Both states hold similarities that are also present in the rest of the East Asian community. East Asian regimes tend to have systems based on social insurance principles, have low rates of taxation, considerable economic growth into the 1990’s, and broad social stability even during the Asian Financial Crisis.  The political establishment has a general hostility towards the expansion of the welfare state, and so states like South Korea and Japan have a much greater emphasis on the family, which as mentioned in the OECD study on inequality, plays a central role in their overall distribution of wealth. The post war states of East Asia were authoritarian, undemocratic, or unaccountable states. Political parties and leaders did not play as central of a role then, and rather, policy development took place by technocrats working within governments to produce results that legitimated the state.  (Aspalter, 2010) (Holliday, 2000)

In conclusion for the analysis of East Asian welfare states, they have been shown to be primarily driven by the statist approach outlined earlier, designed to drive rapid growth and industrialization without the widespread social instability that has marked industrialization in western historical cases. There is no single model that typifies East Asia other than the fact that they are driven by political and economic vulnerabilities. An important theory behind these is that welfare states develop more easily in small and open economies that are particularly vulnerable to international markets (Katzenstein 1985). Post war Asia is precisely most exposed to those elements of the world economy, and political control rests on mitigating the worst effects of that. (Holliday, 2000)

Cultural and Inequality

The next part of this research will look specifically at the cultural dimensions of what causes inequality, using cultural, political, and historical analyses of the west, particularly in the United States. As I stated in the introduction, the two are interlinked variables, since social inequality almost always is present when there is income inequality.

Markus Hadler (2005) published a very pertinent article titled Why Do People Accept Different Income Ratios? A Multi-Level Comparison of Thirty Countries. The study encompasses a large international survey of more than 30 countries and 3,500 respondents.  His study looks at the roots of ideological differences as belonging to specific cultural and historical traits. Post-communist countries in Eastern Europe, for example, are much less comfortable with the inequality produced in the laissez faire economies of the west.  The eastern bloc was subjected to planned economies for the length of the cold war, and even with the horror stories of repression in Hungary or Poland, there was a general degree of security that came with the Soviet State. Most of the basic needs of society were met until the final days of the regime, even if that came without rapid growth and luxury goods that their counterparts in the west were used to. Also, and perhaps unsurprisingly, those in the higher income brackets in all surveyed countries expressed a greater acceptance for inequality, and those in the lower income brackets of course expressed more intolerance for such. The perception of inequality became a critical factor for many respondents that felt unrewarded.  Greater guarantees of security in welfare states like Norway, Sweden, and Denmark are believed by some sociologists to trace back to the feudal culture that prevailed over these regions during the Middle Ages. These societal structures have political parties in which even the conservative coalitions feel less comfortable with higher levels of inequality in implementing policy. (Halder, 2005)

This study helps interpret the levels of inequality through a cultural historic lens in countries compared to what the population in each country is comfortable with. What citizens are okay with or what their culture encourages may be the greatest determining factor of the distribution of income because it is the citizens in democratic nations which influence policy makers and elect them. If inequality becomes too high, citizens are more likely to influence the change necessary to adjust distribution.

Crutchfield and Pettinicchio (2009) write an article about the culture of inequality in western nations. It is a popular belief held by many political office holders that the poor hold values which is the source of their woes, and therefore government spending efforts to help them are a waste which only leads to dependency. The authors argue instead that many social problems are produced by the persistent effects of poverty, not because of bad values among the poor, but because the society marginalizes them with acceptance of social inequality.

Their thesis is based on what they describe as a “taste for inequality” which leads to major shifts in welfare and imprisonment policies. Central to this, and a common theme in the literature for the remainder of this paper, are the effects of a society that becomes more heterogeneous vs. homogenous. The growth of what is perceived as “others” (immigrants, ethnic or religious minorities) tends to be viewed as a threat by majority or native populations with regards to competition for jobs, housing, and resources. When this attitude of the “others” becomes imbedded into a culture, the consequences are that a nation is less likely to invest in social welfare and respond to crime more harshly. (Ostendorf, Musterd, 2013)

The number of prisoners and homicides correlates strongly with the GINI coefficient and “others” in a population. (Ostendorf, Musterd, 2013)

By this thesis, the authors use a body of other research to discredit the notion that a subculture of poverty is to blame for social problems regarding the poor. Instead, it is the structured inequalities of a society that are to blame for the emergence of norms and values that make life difficult for the poor. The social isolation of “others” and the poor exacerbates their condition and produces counterproductive behaviors in these marginalized communities. (Crutchfield, Pettinicchio, 2009)

Societies that are more individualistic and accepting of inequality are more likely to embrace a reliance on imprisonment for social control, and view the problems of disadvantaged people as a condition of their own doing. While on the opposite spectrum, nations that demonstrate a low “taste” for inequality are more inclined to provide state benefits for healthcare and unemployment in response to social problems. The era just before and during the Ronald Reagan administration is when several authors find that the US’s culture of inequality dramatically increases, resulting in large cuts to the welfare system. Betweem 1973-1997, the incarceration in the US increased 500%, which coincided with the creation of “tough on crime” policies, including the drug war, which disproportionately punishes and imprisons minorities for drug related crimes, despite the fact that such activity has been shown to be equal between all ethnic backgrounds. (Alexander, 2011) (Ostendorf, Musterd, 2013) (Birch, Heideman, 2014)

(Crutchfield, Pettinicchio, 2009)

The U.S. has a long history of being a diverse, heterogeneous population, which is only furthered by immigration. This has helped suppress the creation of a larger welfare state. The European Union is experiencing increased immigration rates as well, and this has coincided with various pressures to reduce the budgetary amounts of the welfare states across nearly all OECD nations. Though Europe has been fairly diverse for decades, the general media and politicians have often sensationalized crime accounts as explainable by new immigrant communities. (Crutchfield, Pettinicchio 2009)

Mau (2007) adds a host of useful information in his piece on ethnic diversity and welfare state solidarity. He understands the welfare state as a social agreement for coping with collective risks and lessening social inequality. This development of the welfare state only emerged with the rise of the modern nation state. A welfare state can only exist the formation of a closed society, defined by borders and with a unified people that is socially homogenized with the ever important idea of citizenship.  With the rise of transnational migration and open borders, this social homogenization and distinct feeling of solidarity is threatened.

Mau implies that it was easier for small states to develop this concept of a nation, and therefore a welfare state, because the social differences in these smaller societies were less noticeable, which fostered a stronger sense of community. These smaller states, such as the Scandinavian countries, have less immigration and less external pressure to be inclusive with benefit provision. Mau explains that since the fifties and sixties in Europe, increased immigration has led to an observable denationalization of solidarity practices. Where once citizenship and ethnic identity were the clear markers of a community, by necessity the welfare state is now territorially defined. The sense of community is then less relevant to the requirements of the modern welfare state now, and there is a greater demand for redistribution in the face of a changing and far more diverse population. This is even more challenging when proportionally, immigrants are more reliant on the welfare state, and the general public perceives them as such. This creates tension and a dilemma for the state. It is in the public interest to be open and generous with social security systems to reduce the marginalization and segregation of minorities, but the state must also balance this desire with the very legitimacy and financing of the welfare state, which is only mediated by a restriction on immigration or a levying of new taxes.

Alesina and Glaser (2004) demonstrated a negative correlation between racial fractionalization (marginalization and isolation as described above), and the level of social spending. European nations are more homogenous and generous welfare states, compared to the USA which is very heterogeneous and a less generous welfare state. “If the ties that bind you to an increasingly diverse citizenry are loosened, you are less likely to be inclined to share your resources with them” (Wolfe, Klausen, 2000). Another study by Soroka (2006) found a correlation between an increased immigration rate and slower growth of welfare spending over time. There is a tendency for giving those you perceive as like you in-group preference compared to those perceived as “others” because of the competition for resources and jobs. In light of this, the redistribution efforts of most welfare states counter this tendency, with predictable hostility to such efforts by “natives” being the result. (Mau, 2007)

Maria Charles in her piece, first explores the different perspectives on what social inequality stems from to demonstrate the disagreements and complexity of the issue.  The functionalist school emphasizes the beneficial integrative effects of ideology. Conflict theorists look to culture in explaining exploitation and marginalization. Neo Marxists view the concept of culture as misplaced and irrelevant. And finally, Weberian scholars view culture as an independent variable that reflects and shapes material relations.  Analyses on Intergenerational mobility have often centered on ideas about the egalitarian effects of industrial development, specifically that economic modernization leads to value changes and the rejection of assigned benefit in favor of achievement based earning. Citizens of advanced industrial societies are more likely to express cultural views that value equality, but it appears there is a diminishing return on this effect—mobility has not increased continually with economic growth in industrial nations. (Charles, 2008)

Much like earlier research in this paper, Charles is concerned with the perpetuation of inequality and poverty. Influential research by “Wisconsin School” scholars found a strong correlation between parental expectations, peer-group membership, and personal aspirations. She puts a strong emphasis on what this school found as the “subculture of poverty”. This treats the norms and values of the poor as a structural problem of marginalized groups rather than a failure of individual behavior.

Gender and race are key in examining historical and sociocultural inequality.  There has been a renewed interest in the study of discrimination and inequality based on a variety of studies which show that there is a declining significance of race and gender in the public consciousness of advanced industrial states, who largely view their societies as post-racial. Despite this, most sociological studies suggest that discrimination based on race, gender, and sexuality still has a large impact on the social structure. Charles notes that this is “even while most Americans express strong support for liberal principles of procedural equality”. (Charles, 2008)

Charles then goes to the task of identifying three important questions in examining social inequality. The first is how persons come to occupy unequal social positions. This critical first question is best addressed with a source Charles cites that finds the family unit to be the most determinant factor for perpetuating social inequality. She found that at lower social class levels, parents are more likely to be ill equipped at giving their children the tools or networking necessary to advance social standing. And while education can be a counter force to this tendency, it can only mediate the situation to a small extent. Likewise, groups that are marginalized in poor urban communities exhibit the same kind of difficulties. Trying to adapt to the poverty and isolation leads many to develop an oppositional culture to the behaviors and norms that define the middle class. (Charles, 2008) (Heideman, Birch, 2014)

The other important side of this question is that which is exacerbated by discrimination. Prejudice and cultural devaluation are shown to cause persistent inequalities between generations through the practices of discrimination, stigmatization, or stereotyping of ethnic or sex related identifications. In cited social experiments, several authors found widespread wage discrimination against mothers, but not fathers. The ongoing negative attitudes towards all minorities has profound impacts on job and housing prospects, even as the society they live in consistently professes value to values of equality. It is not beyond the imagination to understand that modern disadvantages of African Americans in labor, housing, politics, and education are strongly linked to modern forms of racial prejudice. (Bobo, 2000) (Charles, 2008) (Ostendorf, Musterd, 2013)

Her next question is how positions of social class are generated and maintained. Within this is an examination of class specific cultural practices based on race, gender, or sexuality, and the historical constructs which subordinated them. Sociologists have found that subordination and discrimination cause these groups to “band together” to defend their interests. Closely linked to the construction of class identities is the role of consumption practices. A class is defined by its being perceived as much as by actually being.  Practices and consumption are essential to crafting that perception. For example, young people are shown to have a clear understanding of their social position in society early on. Regardless of how they react to that position, anxiety and isolation over such differences harms school performance. Beliefs in innate differences, be that in gender or ethnicity, can cause negative confirmatory shifts in self-assessment and performance, which then reinforces societal expectations and perceptions of these different categories. (Charles, 2008) (Ostendorf, Musterd, 2013)

And finally, Charles asks how inequality is legitimated. She finds that it is arbitrary societal structures, such as male dominance and white superiority, that are perceived as natural and most efficient.  This is commonly linked to the perception of how much an individual or class of persons contributes to the collective welfare. Neo-institutionalists argue that egalitarianism is a social construct rather than a response to the inequalities produced by modern industrialization. Some scholars argue that liberalistic values of individual choice and equal opportunity themselves help legitimate inequality. Individualism can be used to reconcile egalitarian principles with perceived natural differences in skills or attitudes. Unequal outcomes are therefore valid so long as it is understood to be the result of free choice and individual effort. Hostilities to the welfare state and immigrant or minority reliance on it are created because the majority, which has not felt the effects of marginalization, believe that “others” have opportunities to succeed, and that if they don’t, it is because of individual failure. (Charles, 2008) (Heideman, Birch, 2014) (Ostendorf, Musterd, 2013)

What are the effects of inequality?

 

As Holler and Pisu (2014) write in their section of the study on income inequality in the OECD, there is a very mixed link between GDP and growth in a cross country meta-analysis. Theoretically, inequality can produce economic effects on opposite spectrums because of the huge variance in policy and societal structure. A higher savings rate can mean more investment, which favors the creation of new projects and activities. Work incentives in more unequal countries tends to be stronger as well.

But inequality can also negatively affect growth, which is also indicated through most of this papers other sources. High inequality can lead to a greater need for redistribution, which is less efficient and lowers growth. It can also mean that more people turn to crime, violence, and protest–political instability which deters growth and investment itself. And also, an overreliance on the credit market to make up for inequality leads to an underinvestment in human capital. Examples of both possible outcomes have proponents in policy making circles, and surely both can come up with examples at the micro or macro level to bolster their case. What this research has consistently found, however, is that the macro analysis tends to point to negative correlations between growth and inequality in developed nations. In developing nations, it appears that inequality is essential to driving the first stages of development. (Joumard, Koske, 2012) (Tsangarides, Berg, Ostry, 2014)

The chart above shows how some research finds mixed results on inequality and growth. (Hoeller, Peter, Joumard, Isabelle, 2014)

Throughout studies on inequality, general publics polled on the topic are frequently intolerant of inequitable outcomes of wealth because they are perceived as an unfair creation. It does appear that high income inequality is tolerated so long as there is clear equality of opportunity. But inequality has a tendency to lead to a lack of equal opportunity. Several authors point out that if one does not have equal access to things like healthcare, education, or social services, then they can very likely be deprived of opportunity. (Tsangarides, Berg, Ostry, 2014)  (Heideman, Birch, 2014)

An important thirty year research of inequality done by Wilkinson and Pickett in 2009 titled The Spirit Level, used a massive analysis between nations to argue that higher inequality is correlated with more acute social problems like violence, drug abuse, prison rates, mortality, etc. Hoeller and Pisu, who write about this in the introduction, find the research compelling but are far more skeptical of the implications of the research.

The table above measures a total scale of social problems against the level of inequality in the state. (Wilkinson, Pickett, 2009)

This chart is of interest because, while only a comparison of the U.S., it highlights the relationship between inequality and imprisonment. (Wilkinson, Pickett, 2009)

The IMF, however, went forward in taking a far more strident view of inequality in a surprise report issued in 2014. In the introduction of their article they say “lower net inequality is robustly correlated with faster and more durable growth, for a given level of distribution”. Their analysis is unique in that it measures both the effects of redistribution via transfers and inequality itself on economic growth—the first, they claim, that uses a cross country dataset this comprehensive.

They analyzed the growth rate of growth over five year periods for a large number of countries, and the duration of those growth cycles. Along with finding that more equality correlates highly with growth, they also found that unequal societies redistribute more, and unlike the numerous authors in the OECD study, they found that redistribution has a benign effect on growth. It was only in extreme case studies which massive redistribution had negative effects on growth. Importantly, the authors of the IMF study underscore the different policies and effects on different countries at different periods of time, making absolute causality of one policy or another with inequality indeterminate. But they are still confident that in all of the data available, the claim that welfare provision and taxes harms long term growth does not have support. (Tsangarides, Berg, Ostry, 2014)

Like the OECD authors as well, they agree that inequality can create growth with wealthier individuals increasing investment, but it can also impede growth by depriving the poor of basic access to healthcare or the ability to accumulate human capital, leading to increased political and economic instability. Other academic research assumes that in democracies, high inequality creates political pressure for redistribution, because political power is better distributed than economic power. But the IMF cites Benabou (2000) and Stiglitz (2012) in their research showing that that this conclusion is far from certain if the wealthy are able to use their economic power to increase their political influence.

What are the policy options to deal with inequality?

The major sources of research within this paper have fairly consistent means for addressing inequality. Perhaps most encouragingly, most authors found policies that on average, reduce income inequality and increase GDP in the long run. The key is delivering a system which delivers equitable opportunity and high social mobility. Making educational potential less dependent on personal circumstance, and also increasing the quality and length of education, is a widespread idea. Promoting the integration of immigrants, females, and those at the margins into the labor market is believed to have the potential to greatly reduce inequality and also create less social instability. In many economies, this would be best served by enforcing existing legal tools to reduce discrimination and negative stigma in public and private spheres. (Tsangarides, Berg, Ostry, 2014) (Koske, Joumard, 2012) (Wilkinson, Pickett, 2009)

Of course wages and market imperfections, as shown earlier, are the major source of inequality. Joumard and Koske in the OECD study recommend reducing tax expenditures that benefit the wealthy, like deductions for investing in housing, and contributions to equity funds. To reduce wage dispersion, they recommend better collective agreements between administration and workers, but not to the point where labor becomes too expensive, because that would reduce employment. Interestingly, they believe that shifting the tax mix systems from labor and corporate income to consumption and real estate would improve incentives to work and invest, but they acknowledge that consumption taxes would undermine equity, so they would have this mediated with direct cash transfers at lower incomes.

In the IMF article, the authors found that when redistribution occurs with progressive taxes to finance things like health and education spending on the poor, this helps offset the income inequality derived from the market. Progressive taxation and a moderate welfare state, it appears from the data of all countries, makes the very promising and realistic case that it is possible that growth and equality can be simultaneously increased through policy efforts.

Conclusion

Inequality has risen over the past few decades among the developed nations of the OECD. This is largely attributable to fact that governments have not kept pace with inequality produced by the market, and the effect that globalization has on industrialized economies. Inequality is at its base an issue of the natural market economy, which is different depending on industry, demographics, resources, etc. And while necessary in the initial stages of economic development, inequality becomes detrimental when in excess during post-industrial economic conditions. Societal attitudes and diversity have the greatest impact on how a government tolerates inequality and demands for redistribution. When people believe redistribution will directly harm their own interests, or their own slice of state sponsorship, they reject such policies as necessary (Irwin, New York Times, 2015). Without political or cultural pressure, or the threat of instability, states simply do not appear to have the desire to strive for more egalitarian policies.

There are several important things to take away from the data and research of this paper. First, there is surprisingly little evidence that tax increases and the existence of the welfare state impedes long term economic growth, despite the dogma in many conservative circles. While caution is always recommended when analyzing any of this extensive and dense data, particularly with such a variety of nations, the trends and scholars consistently point to the negative effects of social marginalization and excessive inequality produced by the market and then not mitigated by the state. If and how any particular state achieves greater equality is not a definite conclusion of this research, as asserted by most of this paper’s sources. What works for one state may not work for another. Even what worked for one state in a given economic cycle may not work five years later. The structure of the world and national economies varies too drastically based on natural resources, demographics, and employment structures to make forgone conclusions in every circumstance beyond the recommendations of things that generally reduce inequality, like putting equality of opportunity at the forefront of policy.

 

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