Inequality and Real Income Growth in Rich Countries

Brian Nolan

INET and Department of Social Policy and InterventionUniversity of Oxford

Queens University International Institute on Social PolicyConference

Inclusive Prosperity: Recoupling Growth, Equity and Social Integration

August 2019

The Context

Rising inequality has become such a widespread concern in rich countries in large part because it is seen to be associated with long-term stagnation in living standards for ordinary working households, compounded by the Great Recession

Globalisation and technological change widely seen as inexorable external driving forces, hollowing out the jobs market, squeezing ‘the middle’,and concentrating benefits from economic growth right at the top

Calling into question the sustainability of their long-standing economic and social models, as ‘left-behind’ voters reject mainstream parties and anti-elite sentiment is rife

But analysis across the rich countries suggests a more nuanced and varied picture, which has major implications for how we respond to the challenge

Two Books

Two Books

Inequality and Inclusive Growth in Rich Countries: Shared Challenges and Contrasting Fortunes

- Case studies of ten rich/OECD countries from around 1980 with a common analytical frame, including Canada (by Lars Osberg)

Generating Prosperity for Working Families in Affluent Countries

- Comparative analysis of about 30 rich/OECD countries from around 1980, drawing on a range of data sources

Their span is much wider, but this presentation concentrates on income inequality and real income growth across the distribution

Income Inequality Across Entire Distribution

While trend in overall income inequality as captured by household surveys has mostly been upwards, striking feature is how varied country experiences have been:

- In terms of scale, with increase in Gini ranging from 7-8 ‘points’ (Sweden UK, US), 4-5 (Australia, Canada, Finland, Germany, Norway) to 2-3 (Italy, Japan), or 0 (France, Ireland)

- In terms of timing, with e.g. rise in UK concentrated in 1980s, Sweden from mid-1990s, US in early 1980s and 1990s –‘episodes’ rather than steady upward trend

- In terms of nature, whether driven by top pulling away, bottom lagging behind, share of middle being ‘squeezed’

Income Inequality Since 1980

-10 -5 0 5 10 15 20

PortugalSwitzerland

FranceGreeceIreland

ItalySpain

NetherlandsBelgiumAustriaCanada

Slovak RepJapan

NorwayPoland

AustraliaCzech RepDenmark

FinlandGermany

IsraelLuxembourg

UKNew Zealand

EstoniaUSA

HungaryLatvia

SwedenLithuania

Gini Change since 1980 (in 'Gini points')

Income Inequality Current Levels

0

0.05

0.1

0.15

0.2

0.25

0.3

0.35

0.4

0.45

USA

Lithuania

Israel

Latvi

a

New Zealand UK

Japan

Spain

Australia

Greece

Italy

Portugal

Canada

Estonia

Ireland

Luxembourg

Switzerla

nd

France

Germany

Hungary

Austria

Netherla

nds

Poland

Sweden

Belgium

Denmark

Finland

Norway

Czech

Rep

Slovak R

ep

Slovenia

Gini Coefficient in 2016

Top 1% Income Shares

0

5

10

15

20

Australi

a

Canad

a

Czech

Rep

Denmark

Finlan

d

Franc

e

Germany

Greece

Hunga

ry

Irelan

dIta

lyJap

an

Netherla

nds

N.Zeala

nd

Portug

al

Slova

kiaSp

ain

Swed

en UKUSA

Top 1% Share in Income Pre-Tax (%)

1980 latest

Inclusive Growth and Median Income

Limitations of relying on GDP as indicator of prosperity/progress widely recognised; OECD, World Bank, IMF employ a variety of indicators to capture ‘inclusive growth’ (ambiguous term):

- OECD: ‘dashboard’ of 24 indicators (from GDP growth to ‘Share of SME loans in total business loans’ and voter turnout’- IMF: poverty, inequality, jobs, gender gap, governance, climate change – particular focus on Growth Incidence Curves

Median of equivalised household disposable income distribution advocated as key indicator of ‘ordinary living standards’ by e.g. Atkinson and LSE Growth Commission, and used by e.g. EU Commission in Social Situation Reports

Particularly relevant to concerns about ‘squeezed middle’, and about GDP-median wage divergence

Tracking Median Incomes Over Time

Here construct data series on median (and other percentiles) for rich OECD countries by combining data from LIS and OECD IDD

Up to 2016, but varying length of time covered – for some countries back to early 1980s, for most at least early/mid 1990s

Mostly 3 or 5-yearly observations/waves (not always aligned across countries), some annual data more recently

Disposable income (after cash transfers and direct taxes/contributions), equivalised with square root scale, deflated by change in consumer prices; Also seen in PPP terms

Growth in ‘Middle’ Incomes

Annual average real growth in median derived for each available sub-period and for total years covered by data for country in question

Country experiences seen to have varied widely in terms of average real income growth at median over time

- average annual increase ranged from -0.5 in Greece up to 2.5-3% in Ireland and Norway

- very little growth in Germany, Italy, Japan, and US

- also very wide variation in timing and pattern of this growth

Median Income Growth 1980s-2016, Rich Countries

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

GreeceJapan

Italy

USA

Germany

Canada

Denmark

France

Netherlands

Austria

Australia

Finland

New Zealand

Belgium

Hungary UKSpain

Slovenia

SwedenIsr

ael

Poland

Norway

Luxembourg

Slovak R

ep

Czech

Rep

Ireland

Annual Average Growth (%)

Growth in Median Incomes

(Earliest year 1978-81 = 100)

90

100

110

120

130

140

150

160

170

180

190

200

210

1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010

United States

United Kingdom

SwedenSpain

Norway

FranceCanada

Australia

5

‘Middle’ vs ‘Lower’ Incomes

Real income growth at median compared with P30 and P10

- average annual real growth in median across countries covered was 1.22%, compared with 1% for P30 and only 0.6% for P10

- countries with large shortfall for P10 include Belgium, Czech Rep, Estonia, Finland, Germany, Hungary, Netherlands, New Zealand, Poland, Portugal, Spain, Sweden, and Italy Japan and US (where P10 fell)

- countries where P10 kept up or even outpaced median include Austria, Denmark, Greece, Ireland,

- note median not a reliable indicator of real incomes of poor

Growth in Median vs Lower Incomes

-2 -1 0 1 2 3 4

USAUK

SwedenSpain

SloveniaSlovak Rep

PolandNorway

New ZealandNetherlandsLuxembourg

JapanItaly

IsraelIreland

HungaryGreece

GermanyFrance

FinlandDenmark

Czech RepCanada

BelgiumAustria

Australia

Annual Average Growth in P10 vs Median

P10 Median

Inequality and Median Income Growth

Traditional view that reducing inequality would limit economic growth and thus reduce income growth across broad middle.More recently, (rising) inequality seen as potentially negative for growth through variety of channels:• contribute to boom-bust cycle and retard investment• impede education, skill upgrading, socio-economic mobility • entrench elite capture, reflect and reinforce rent-seeking• fuel demands for protection and stifle innovation• contribute to ‘secular stagnation’ via reduced demand• fuel credit boom and crises

Plus direct effect: if benefits of growth go disproportionately to top, middle lose out on potential gain from given level of GDP growth

Inequality Change and AverageMedian Income Growth All Years

Change in inequality (Gini ‘points’) over entire period

AUS

AUT

BEL

CAN

CZE

DNK

EST

FINFRA

DEU

GRCHUNISL

IRL

ISR

ITAJPN

LUX

NLD NZL

NOR

POL

PRT

SVKSVNKOR ESP SWE

CHE

GBR

USA

-20

24

6C

AG

R (

%)

med

ian

inco

me

-5 0 5 10Average annual change in inequality

CAGR_median = 1.13 + 0.03 entireginichange + εR-squared= 0.01

Inequality Change and Median Income Growth in Sub-Periods

Change in inequality (Gini ‘points’) over sub-period

Inequality and Median Income Growth

Relationship between inequality and median incomes:

- some weak association between change in Gini/top incomes and real growth in median incomes over 5-year sub-periods

- but accounts for little of variation in median income growth

- adding initial level of inequality, lagged change in per capita GNI and inequality measures, and predictors of growth (average years of schooling of working-age population, dependency rate) did not affect estimated inequality effects

- many potential channels through which inequality levels and changes may affect median, with varying dynamics/interactions

Inequality and Median Income Growth

US combination of high and rapidly rising inequality and very little growth in median household income is distinctive not typical

Other countries have displayed widely varying trajectories:• Long-term stagnation in incomes, little increase in inequality –

Japan, Italy • Some growth in incomes, stable inequality – France• Some periods of rising inequality and income growth, some

flat inequality with income stagnation – UK• Substantial growth and stable inequality up to Crisis, collapse

in income and rising inequality - Greece, Spain• Strong income growth, increase in inequality – Poland• Modest income growth and increase in inequality

Inequality and Median Income Growth

But no evidence of a positive relationship between inequality and growth in median

Long-standing argument that higher inequality fuels more real income growth that trickles down to median and lower incomes now exploded

- consistent with OECD/IMF studies showing no evidence that more inequality or less direct redistribution is associated with higher real GDP growth

Growth in Median Vs GDP

-0.6 0.4 1.4 2.4 3.4 4.4

Australia

Austr ia

Belgium*

Canada

Czech Rep

Denmark

Finland

France

Germany

Greece

Hungary

Ireland

Israel

Italy

Japan

Luxembourg

Netherlands

New Zealand

Norway

Poland

Slovak Rep

Slovenia

Spain

Sweden

UK

USA

Average Annual Growth in Median vs GNI per Head

Median % GNI per head %

Factors Behind Median Decoupling from GDP

Growth in median household incomes in real terms can lag behind GDP per capita because:

1) Growth goes disproportionately to the top – inequality risesaccounts for 29% of gap for Canada

2) Consumer prices (used to deflate nominal income growth) rise more rapidly than producer prices (used to deflate GDP) (24%)

3) Some GDP growth goes to non-residents (net) (-8%)

4) GDP growth in National Accounts is not reflected in household income as captured in surveys (22%)

5) Household size falls so equivalised household income does not grow as much as household income per head (19%)

Key Messages

Growth in median household incomes since 1980s has varied widely not just across countries but different sub-periods

US distinctive case in terms of combination of pronounced increase in inequality with very little improvement in ordinary living standards over decades

Rising inequality and stagnating living standards are not unavoidable products of inexorable external forces such as globalisation and technological change

Tackling inequality not a ‘magic bullet’ to promote growth, but inclusive growth should be the strategic goal for its own sake

- and policies to address inequality and strengthen growth can be mutually reinforcing

Ingredients for Inclusive Growth

Both overall macroeconomic performance and wage and employment- related institutions and policies are key

Macroeconomic performance and policies determine scope for growth in middle incomes – ‘austerity’ and premature tightening of monetary policy have been major constraints

Neither increasing levels of workforce education nor increasing employment rates necessarily produce rising real incomes and living standards around and below middle of the distribution

Countries with reasonable income growth have generally combined some increase in real wages with rise in the overall employment rate and especially female employment

Ingredients for Inclusive Growth

‘Accommodating’ fiscal and monetary policy to provide scope

Wage and employment-related institutions and policies are levers:- link Minimum Wage to earnings over time- reinforce collective bargaining institutions- legal setting for unions - limit top pay

Active labour market policies to promote employment (underpinned with jobs guarantee?)

Education and training specifically to target disadvantage and barriers to mobility

Infrastructure investment (regional focus)

Ingredients for Inclusive Growth

Strengthening direct redistribution:

- scope for more progressive income tax - increase taxes on property, capital (transfers) - restructure and increase tax on corporate profits (globally)

- improve family/child benefits - strengthen safety-nets in terms of coverage and adequacy- link support levels to earnings growth as well as prices

- broaden access to wealth/income from capital (housing policy; capital endowment?)