Must-read: Roy Van der Weide, Branko Milanovic, and Mario Negre: “Inequality Harms Economic Growth for the Poor”

Must-Read: Roy Van der Weide, Branko Milanovic, and Mario Negre: Inequality Harms Economic Growth for the Poor: “Using data from the United States spanning the years 1960-2010…

…the study establishes an important stylised fact: high levels of income inequality are associated with lower future growth rates for the poor and the middle classes. No such negative correlation is found to hold for the rich. If anything, higher inequality is found to help their future growth prospects. In other words, highly unequal societies are found to stimulate the type of economic growth that further enhances inequality, at least in the United States for the time period under consideration.

What makes it so hard to put a halt to this cycle and – in the case of the United States – put the country back on a trajectory where growth is shared by all? We hypothesise that when inequality is high and top incomes are significantly greater than the incomes of the middle classes, the rich prefer to opt out of publicly-funded and publicly-provided education, health care and other services, as they increasingly consume them privately. This can be seen as ‘social separatism’. Indeed, when asked if they would be willing to cut public spending on education and health as a way to reduce the deficit, 58 % of the rich in the United States are in favour of such cuts versus only 21 % among the rest of the population. The public goods that the rich are not interested in investing in are, however, crucial for real income growth among the poor.

Unfortunately for the poor, the preferences of the rich have been found to carry more weight in public decision-making than the preferences of the poor, or even those of the median voter. It is a model of society where high inequality, combined with credit constraints and the influence of the rich on the political process, results in a steady state of low government spending, which in turn holds back the rise of poor people’s incomes and perpetuates inequality.

While this study does not provide direct evidence for it, policies that would arguably reduce inequality and improve the growth prospects of the poor and the middle classes include curbing the influence of money in politics, confronting socio-economic segregation and ensuring that every child, regardless of socio-economic background, has access to a good quality education.