Could high income inequality actually be a coiled spring that can be used to boost growth? Could redistributing wealth actually be good for the economy? These are the somewhat counterintuitive conclusions one might draw from a new paper by a team of International Monetary Fund economists.
Free-market advocates assume that taking money from the wealthy and transferring it to the less fortunate is bad for growth -- that it will reduce the size of the economic pie. Today's economists are not so sure.
The IMF researchers -- Jonathan Ostry, Andrew Berg and Charalambos Tsangarides -- worked with a newly available data set that allowed them to distinguish between market inequality (before taxes and transfers) and net inequality (after taxes and transfers). That made it possible to work out the size of social transfers and see how they correlate with economic expansion. The IMF economists' conclusion was that "lower net inequality is robustly correlated with faster and more durable growth" and that "redistribution appears generally benign in terms of its impact on growth."
According to the IMF study, a 5-point increase in the Gini coefficient, a measure of income inequality, is on average associated with a 0.5 percentage point decline in annual gross domestic product growth. It also finds that growth spells last longer in countries with less inequality. The researchers showed that more redistribution is actually associated with faster growth: The positive effects of lower inequality appear to cancel out the disincentive effects of even large taxes and transfers.
"On average, across countries and over time, the things that governments have typically done to redistribute do not seem to have led to bad growth outcomes, unless they were extreme," the IMF paper says. "And the resulting narrowing of inequality helped support faster and more durable growth, apart from ethical, political and broader social considerations."
These conclusions don't have much political relevance for, say, the Nordic countries or France, where inequality is already low. Redistributing more wealth there is unlikely to do much good. On the other hand, in developing countries with high inequality -- such as Russia with its Gini coefficient of 41.7 or Brazil with 51.9 -- the uneven distribution of wealth can be seen as a valuable resource. Given the political will, taking some of the resources from the rich and investing them in worthwhile ends could actually give a new impulse to both these economies, which are slowing down considerably this year (Russia's growth forecast for 2014 is about 1 percent and Brazil's is just under 2 percent).
Ukraine has not reported a Gini coefficient since 2009, but it's another high-inequality country with an average monthly salary of $400 and at least 10 billionaires whose combined fortune amounts to about 18 percent of GDP. Most of the Ukrainian "oligarchs" made their fortunes using their political connections. Companies controlled by the country's richest man, Rinat Akhmetov, won 31 percent of all government tenders last month. Under deposed president Viktor Yanukovych, who ruled from 2010 until last weekend, Akhmetov increased his business empire's workforce to 300,000 from 160,000.
It is only natural that, since the revolution that overthrew Yanukovych, calls have been heard in Ukraine for the oligarchs to step up and share some of their wealth with the nation, which is in financial dire straits and facing a default on public debt. Journalist Borys Davydenko suggested, for example, that the billionaires pay a share of their profits into a special fund from which government employees will be paid decent salaries rather than the symbolic ones they received under Yanukovych. The idea is that the higher pay would make government service a viable career in itself, rather than a vehicle for bribe collection.
"A monthly salary of $7,000 for 5,000 new top officials will cost $420 million a year -- a lot of money for the budget but quite an acceptable amount for big business," Davydenko wrote.
This may be a utopian idea, but it's in line with the IMF paper: an inequality-reducing measure that could boost growth, if only by improving governance and reducing corruption.
The IMF researchers suggested other win-win transfers: "Examples could include taxes on activities with negative externalities paid mostly by the better-off but harmful to the poor (such as, perhaps, excessive risk-taking in the financial sector), cash transfers aimed at encouraging better attendance at primary schools in developing countries, or spending on public capital or education that benefits the poor."
As economists get their hands on more data for cross-country comparisons, this kind of logic passes from the realm of socialist heresy to that of mainstream economics. In the end, even the wealthy individuals asked to contribute may benefit from the additional growth generated by a bit of well-considered redistribution.
(Leonid Bershidsky writes on Russia, Europe and technology for Bloomberg View. Follow him on Twitter at @Bershidsky.)
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