Global crises have grown in frequency and intensity over the past 20 years, with worrying implications for future economic development. The World Bank warns that the effort to reduce poverty has suffered its “worst setback” in a quarter-century, owing to the COVID-19 pandemic. Inequalities are deepening within and between countries, and across many key sectors, from education to health.
Given the scale of these problems, public policy cannot focus narrowly on income and wealth. The situation demands a holistic approach with longtime horizons. Otherwise, subsequent governments will always be tempted to pursue short-term improvements with immediate political payoffs (such as an increase in households’ purchasing power), rather than investing in future welfare. We will need to quantify the necessary trade-offs so that politicians can explain to voters why they should support having a bit less now for the sake of gaining more later.
We also need to be mindful of how we measure inequalities. Is it fair to demand that developing countries reduce their greenhouse-gas emissions at the same rate as advanced economies, even though the latter have contributed far more historically?
The challenge for policymakers is to adopt strategies that are both global and granular, tailored to specific contexts. Otherwise, there is a strong chance that measures to correct one type of inequality will introduce new ones. We can fight climate change by subsidizing new solar panel installations, but we should be prepared to hear complaints from those who already reduced their carbon footprints before state incentives were introduced.
Advocating for equity in all its dimensions requires an expansive perspective on inequality – a frequent consequence of zero-sum dynamics, rent-seeking, “private taxes,” free-riding, corruption, discrimination, and so forth. The most salient forms of inequality change over time, often evolving with the broader legal environment. At the end of World War II, work was considered a fundamental right, whereas during the pandemic, access to low-cost high-speed internet became a top priority.
The ever-changing nature of these issues implies the need to broaden the concept of social welfare, so that policies do not end up simply perpetuating the advantages of insiders. It also must become more adaptive, so that we can face challenges like climate change and energy-price spikes. And it must develop new tools (such as universal basic income) to help the disadvantaged and marginalized overcome longstanding structural hurdles and take calculated entrepreneurial risks (which ultimately benefit all of society).
The concept of social returns must guide policymaking. In education, for example, we know that developing human capital from early childhood provides the best long-term return on investment. But social policy does not necessarily mean public or state action. We should remain open to the use of markets in situations where they add value. For example, in pensions systems, a capitalization pillar can ensure that the greatest number of people benefit from the generally higher returns of markets, rather than being stuck with the lukewarm returns of the pay-as-you-go system.
Taxation is another key lever for combating inequality, because it generates the revenues to support inclusive social policies and reduces income and wealth gaps. The point is not to treat wealth itself as a problem. Rather, we should follow the philosopher John Rawls’s difference principle, which holds that inequalities are justified only if they redound to the benefit of the least well-off. Economist Philippe Aghion’s research shows that innovation satisfies this condition: although it increases the weight of the top 1% (in income and wealth), it also tends to increase social mobility, and it does not necessarily increase inequalities across the rest of the population.
That said, the current structure of taxation could be improved to meet desirable objectives such as simplicity, efficiency, stability, equity (eliminating loopholes that benefit only the rich), better incentives (to work or to protect the environment), and neutrality (so that a euro earned in one year is not taxed more than a euro earned in ten years).
Finally, an essential step in reforming contemporary capitalism is to review competition rules. The market is far superior to any centralized system when it comes to price discovery and the dissemination of economic information; but it also must be rigorously supervised and regulated by public authorities. Regulation and enforcement to ensure competition have become all the more important now that digital and robotic technologies have restructured markets and ushered in what Shoshana Zuboff of Harvard Business School describes as “surveillance capitalism.”
The pathology is reflected in sharply rising inequality in corporate performance. In 2016, the White House Council of Economic Advisers noted that a “90th percentile firm sees returns on investments in capital that are more than five times the median. This ratio was closer to two just a quarter of a century ago.” Moreover, as Aghion shows, the top 1% of exporters now account for 67% of all exports, while the top 1% of patenting firms account for 91% of patents and 98% of references in research papers (an indicator of the most valuable patents). The margins of the top 10% of firms have increased by 35% since the beginning of the 2000s, and their profitability has grown by 50% – indicators that have stagnated for most other firms.
The changes proposed above would marshal the widespread demand for equity in the service of efficiency, ensuring true equality of opportunity for individuals and companies. The alternative is a return to a rigidly hierarchical society with less freedom for all but those atop the pyramid.
It remains to be seen whether today’s chain of financial, environmental, and geopolitical crises will lend momentum to the kind of shift that is needed. The danger is that they could just as easily become a distraction or, worse, an excuse for fatalism and complacency.
10th Year • May 2022 • No. 107