In the inequality debate, Jason Furman wants economists and social scientists to obsess less over aggregate data, and to focus more on how policy decisions impact real people

In the inequality debate, Jason Furman wants economists and social scientists to obsess less over aggregate data, and to focus more on how policy decisions impact real people

By Jason Furman*

The belief that inequality hurts economic growth is gaining currency among policymakers.

Some argue forcefully that high levels of inequality can make sustained growth impossible, and may even contribute to recessions.

This view stands in stark contrast to the traditional view that there is a tradeoff between equality and growth, and that greater inequality is a price that must be paid for higher output.

Lost in the discussion, however, is whether any of this is actually germane to economic policymaking. I don’t believe it is.

Whether inequality is good or bad for growth should and will continue to concern social scientists. But those guiding an economy should focus on assessing outcomes and modes of distribution rather than on a puzzle that will never fully be solved.

Three developments make this refocusing necessary. For starters, while recent studies have concluded that higher levels of inequality produce lower long-term growth, other data have challenged this assumption, making definitive claims that are impossible to support, partly because different sources and types of inequality likely have different impacts on growth.

Second, most research focuses on the impact of inequality on growth, rather than on how specific policies affect growth. The former is of interest to social scientists and historians, but it is the latter that is relevant for policymakers.

And, finally, politicians generally defend their policies in terms of how they affect the middle class or the poor, not the arithmetic average of incomes across an economy – which gives equal weight to a $1 increase in the income of a poor person and that of a billionaire. So, even if reducing inequality was bad for overall growth, it might still be good for social welfare in the relevant sense, if it made many households in the middle better off.

The fact is, economic policies in the real world are nuanced and site-specific, making the search for a single answer to the question of how – and how much – inequality affects growth a Sisyphean task. Rather than concerning themselves with how to balance growth and inequality, policymakers would do better to focus on how policies impact average incomes and other welfare indicators.

Win-win policies – defined as distribution mechanisms that produce growth and reduce inequality simultaneously – are the easiest to evaluate, and the most advantageous to adopt. Education is a classic example. Reforms that cost little or no money, such as improving the quality of primary and secondary education, have been shown to encourage growth while ameliorating inequality. Even reforms that cost more – like expanding preschool education in the United States – generate economic benefits that far exceed the tax losses associated with funding them.

These types of approaches – what I call “all good things go together” policies – could be applied to other sectors of the economy that are being squeezed by imperfect competition. More vigorous antitrust policies, or increased consumer ownership of data, could strengthen competition and, in the process, boost efficiency and improve income distribution.

Any policy that promotes growth or lowers inequality without negatively affecting the other variable can also be classified as a win-win. A revenue-neutral reform of business taxes, for example, could raise the level of output with no meaningful impact on the distribution of income.

It is far more difficult to evaluate policies that involve a tradeoff between growth and inequality. For the sake of illustration, consider the effects of a hypothetical 10% reduction in labor taxes paid for by a lump-sum tax modeled using a neo-classical Ramsey growth model – a scenario that I detailed in a recent paper for the Olivier Blanchard and Lawrence Summers series on Rethinking Macroeconomics. This plan is good for growth, with average output increasing by 1%. But to understand how this policy would actually play out for taxpayers, I applied the scenario to the real distribution of US household incomes in 2010.

Nearly all households in the model experienced an increase in pre-tax income. But taxes increased for two-thirds of households. For middle-income households, the increased taxation was offset by earnings, but leisure also fell. As a result, the tax change left around 60% of households worse off, even as average household income grew, driven by gains at the top.

This analysis does not answer the question of whether this illustrative tax policy is a good idea. But most policymakers would likely object if they understood that growth would be achieved by higher taxes on two-thirds of households, leaving the median household working harder to earn the same after-tax income.

Social scientists should continue to ask whether inequality is good or bad for economic growth. More research is needed on the variables that affect growth, such as median income. Economists should also pay less attention to inequality in the aggregate, and more on the specific policies that might increase or reduce inequality.

But policymakers have different priorities than economists do. Rather than rethinking macroeconomics, policymakers must consider whether specific goals for social welfare and distribution can be achieved through win-win measures or through policies that make worthwhile tradeoffs. The answer may be to obsess less over aggregate data, and to focus more on how policy decisions impact real people.


Jason Furman, Professor of the Practice of Economic Policy at the Harvard Kennedy School and Senior Fellow at the Peterson Institute for International Economics, was Chairman of President Barack Obama’s Council of Economic Advisers from 2013-2017. Copyright: Project Syndicate, 2018, published here with permission.

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25 Comments

16
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What is the benefit of growth ? Stephen Joyce never worked out that his growth seeking policy by means of keeping New Zealand as a low income country was a bit pointless. You get a bigger number on your acronym of GDP but folk are working harder and you got lots of poor people. Why would you do that ?
The goal should be to get New Zealanders into higher incomes, have more assets under their control and lower costs. More fun and less work is also on this list.
It's not just the really poor, we have even allowed the incomes of the middle classes to be hollowed out.
Labour is no better, their argument is just the same as the Nats, a few fine points around tax and redistribution. What we need is to move government from focus on tax and to focus on the ability of New Zealanders to earn good money, and moving to owning the benefit of our work

14
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The growth also came at the expense of exploding housing costs, massive government and private debt expansion, and sale of important national assets.

We really need a land tax, and a decrease in other taxes to shake ourselves out of this productivity recession. Inefficient landholdings are choking our economy.

.. we had the wrong variety of " growth " under Little Johnny & the Gnats .. ... raising the nation's GDP by flooding the country with unskilled immigrants was barking mad , and unsustainable ...

As for real growth , innovation and productivity increases ... we saw naff all of either of them ... just glimmers and greenshoots ... .. nothing lush and abundant ...

... and yes , a land-tax ( plus air and water ) are needed ... we would benefit greatly from shifting away from taxing productivity , and push toward rent resources taxes ...

Interesting to see Don Brash on television this morning coming out strongly in favour of a Capital Gains Tax. His reasoning being:

1. Equality is not otherwise tooo bad vs. other similar countries.

2. The biggest impact on the lower two quartiles of society is the cost of housing.

3. It's not fair that someone can benefit so much from others creating infrastructure and betterment around their land, then get to make massive tax free gains as a result of that betterment others have given them, without having to contribute taxes on that gain.

He said he's been in favour of CGT since about the time of releasing his autobiography. He also seemed to be reflecting that the reliance on income tax unfairly puts so much of the load on middle, upper-middle class etc. (i.e. the folk who are making big incomes in the multi-hundreds but aren't at that elite level) while letting the truly wealthy easily avoid much of their tax load.

I think #3 is a good argument for specific betterment taxes e.g. the CRL impact on properties it improves transport options for, but how do you specifically tax that?

Didn't see it. But could it be the 1% ers are terrified of a land or asset tax? Thus they offer up capital gains as a sop as they know they have the ability to wriggle out of it?

Yes , either the Don has lost his marbles , or he's trying to protect them from the tax man ...

... CGT is a foolish idea ... why discourage folks and businesses from improving assets ? ...

A land tax is simple , and unavoidable .... and impacts the rich folks , the New Zealanded gentry much more than it does the poorer ... every single year .... plus , it encourages idle assets to be put into fruitful productive use ...

I would lean more toward a LVT tax than CGT overall, yeah. As you say, encourages more productive investment as we could drop company and individual income taxes.

11
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A good way to visualise inequality is with an engine analogy. The economy is an engine, money is economic lubricant. With excessive inequality, parts of the engine lose their effectiveness, and the engine stops turning.

Consumers employ businesses, if your consumer base is shrinking because their disposable income after the basics is falling because the landholders and banks are taking ever increasing bites of the pie, then your economy will slow down, and you'll need to do a whole lot of money printing to prevent deflation.

Well said Ocelot.

Capitalism inherently creates wealthier people at the top (CEOs, entrepreneurs & savers) as they either receive very large incomes or can save it. The poor and underskilled get low wages (as labour is an input cost its price is under constant pressure via competition) and cannot save & thus capitalism drives increasing inequality. Furthermore the requirement for price stability inherently requires a % of the population to be unemployed.

"Win-win policies – defined as distribution mechanisms that produce growth and reduce inequality simultaneously – are the easiest to evaluate, and the most advantageous to adopt" - couldnt agree more. We need policies that increase gdp/capita (income proxy) and how that is distributed.

My brother introduced me to this video regarding former US Labour Secretary Robert Reich. Though knee-high to a grasshopper he punches well above his weight with thorough analysis of economic performance/trends in the US and links some very interesting policy with economic growth.

He also elaborates on the increasing corporate sponsorship of electing US presidents through outrageous donations - given the fact he released this in 2013 it comes as no surprise to Trumps ascendancy to US president.

Though we can debate the merits of income inequality, there is one definite, those who have large pockets of cash can highly influence the democratic process.

If it wasn't for MMP in this country I'm fairly certain the status quo would have remained under a National govt.
I'm still chewing through my hat after that upset.

https://www.youtube.com/watch?v=CrNjGs1Fqd4

I've said elsewhere that nobody has such a gut dislike of Trump as myself. However two points about his election have been mentioned but not emphasised: he is old, he spent less than Mrs Clinton.

Money and politics goes back a long way - Greece and Rome where both were rather open about it. Money in NZ politics does worry me with the two major parties both having MPs famous for their fund raising who neither have ever been heard to criticize the communist party of the country of their origin. At least we have a website that records all large contributions and money didn't help either Colin Craig or Gareth Morgan.

Growth, schmowth. It is time the likes of this author and everyone else started to think about just what growth is and why it cannot continue in perpetuity. We need a new way of thinking or else we are going to "grow" ourselves out of a house and home (the planet). Time for the pasture, buddy, this thinking is due for the chop.

I'm so in agreement. Sustainability should be the target. Growth may or may not be appropriate, as long as the final result is sustainable. At some point, growth has to stop, as our resources are finite. We have been rather good in terms of improving efficiency in production, which has allowed more growth. I guess I'm a bit more in the Multhusian camp as opposed to cornucopian.

Malthus only got his dates wrong, otherwise his logic, give or take a bit of technology, is spot on. Only a fool could think otherwise. BTW getting dates wrong is not all that uncommon in these pursuits.

.. ah ha haaaaa .... 220 years of being completely & utterly wrong hasn't dimmed the gleam in the eyes of the resident Malthusians one iota ...

Don't hold your breath awaiting Robert Malthus to be proven correct ... you'll turn many shades worse than blue ... and the swarm of blow-flies will be a ruddy nuisance too ...

... growth , for wont of a better description , is essentially limitless here on Planet Earth ... How cool is that , hmmmmm ?

I will take that as the joke that I am sure you wrote it as. Malthus was limited by what he understood at his time, but basically the premise that you cannot keep expanding on a finite planet is absolutely correct. 200 years is a mere blip in terms of the planet, we have been here for not much more than a few blips, most of which time we did not have too bad of an impact, give or take a few other species, but that has accelerated so greatly within a few lifetimes that it has now become glaringly obvious that we are screaming through the planet's resources like there is no tomorrow, and at that rate, in real terms, there may well not be.
I only have to go back to my great grandfather to find a world that did not rely on oil, pretty much at all. He died in the first 1/3 of the last century.

Of course.

... your great grandpappy lived in a world that did not rely on oil !

How amazing is the human mind , and the ability to innovate ...

... cos we've gone from that , to total oil dependence , and are now heading back towards not needing the stuff ... all in about 5 generations !

Malthus is dead folks .... sorry about that ...

"... cos we've gone from that , to total oil dependence , and are now heading back towards not needing the stuff ... all in about 5 generations !"

Interesting perspective...
On the basis of what?

As Pocket Aces notes Malthus was not wrong, but his timing was. Likely only due to the industrial revolution.
The growth rates of man versus food production are not conducive for long term stability. Essentially, they do both have some finite limit and are described by entirely different functions, giving the reasoning for why the prophecy hasn't (yet) eventuated.
The reason Malthusian economics hasn't been in effect over the previous 200 years is purely due to technological/intellectual innovation and trade. Although it isn't happening now, logic dictates that peak globalisation, peak deforestation/land cultivation and peak technology/resource will occur.

So, we do have a mathematically finite level of population as Malthus predicted.
As mentioned though, the difference being the timing of the prediction.

Malthus problem was that he realised you cannot continually grow in a finite world but then proceded to write an entire tome about it. The basic premise still stands.

PS and of course he will not have been able to see things like bee colony collapse, which could quite well signify the end of us, if we manage to destroy the bees. There are many, many things we are running out of, not just oil, there is loss of topsoil, and depletion of what is there, there is degradation of the oceans and of course atmospheric pollution and warming due to/exacerbated by us. While we may be holding our own at the moment, there are significant signs that we may have shat in our own nests and we continue to do so.

We need companies, of all sizes, to start taking the whole thing of "being good corporate citizens" seriously.

Hold your breath only till you turn a slight shade of blue, ok.