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Inequality: a fact, an interpretation, and a policy recommendation

November 18, 2015

Tackling inequality and poverty aren’t mutually exclusive; rather, efforts devoted to fighting the former contribute to solving the latter.

1. A Fact: Inequality has increased

There is a common storyline about income inequality that goes something like this. Inequality has not increased; even if it has, there is little that can be done about it; and even if public policy has punch, the effort directed to fighting inequality diverts attention from more pressing problems, like poverty.

There is a strand of truth to this. The inequality our society faces challenges us not to use the policies of yesteryear, but to rethink social policy for a new reality. Fortunately, we already have a set of precedents in our toolkit that can be built upon to address both inequality and poverty in a smart way.

At least one aspect of this storyline has become a caricature. We seem to have gone past the denial stage. It is pretty well accepted that income inequalities have risen significantly during the last three decades in many countries, Canada included.

Income shares of the top middle and bottom 40 Canada market income

The slices of the Canadian economic pie have certainly changed. The richest 10 percent has seen its share of total income rise steadily during the last two to three decades, reaching about 30 percent in recent years. Over the same period the bottom 40 percent has had the opposite experience, a steadily shrinking slice that now amounts to about 12 percent of the total income earned in the country. Four in 10 Canadians have less than half of the income to divide among themselves than the top ten percent have for themselves.

But what to make of this?

 2. Differing views: The connection between high and low incomes

One view is that high and low incomes are distinct phenomena.

The rise of the top one percent reflects a vibrant capitalist spirit of enterprise, innovation, and productivity: the hard work of inspired entrepreneurs whose higher income is merited, and ultimately benefits us all in newer and better products, lower prices, and more jobs.

On the other hand poverty is entrenched in the values, skills, and choices of the poor, and also in dysfunctional public attempts to boost their incomes, programs that just end up zapping their work incentives. Robin Hood policies that tax the rich to give to the poor ultimately don’t lower poverty, while at the same time threatening the source of prosperity.

Dust Jackets of Two Books on Inequality Atkinson and Watson

Two recent books offer very different views In spite of similar covers.

That’s one common view, but another interpretation recognizes that high and low incomes are two sides of the same coin, reflecting important changes to the way we work, and the payoffs we receive.

Wage rates and job opportunities have increased in occupations requiring judgement, management, and teamwork; they’ve decreased in occupations that are routine. This has pushed up wages for some, and flattened them for others. A future of higher wage inequality is here. It implies both unprecedented opportunities and substantial risks, and this is not going away.

It is commonplace to think about the fate of the ‘traditional’ assembly line worker in a manufacturing plant who has been replaced by a robot designed and made by highly educated engineers. But the economic dynamics are broader than the replacement of workers holding high-school diplomas with those holding university degrees. Mesh another dichotomy on top of this physical versus cognitive division of tasks, one associated with routine versus judgement. Middle managers and X-ray technicians are as much at risk as old-school assembly line workers.

The underlying driver of all this is the computer revolution, a revolution that has been hyper-charged by freer trade. The Yale University economist William Nordhaus describes the astounding fall in the costs of performing routine calculations with computers – a 2 trillion-fold fall during the 20th century – with particularly rapid improvements made in the decade after WWII and then again between 1985 and 1995. He says: “Given the enormous decrease in computational cost relative to labor cost, it can hardly be surprising that businesses are computerizing operations on a vast scale.” If you perform a routine task, you are competing head on with the mother of all revolutions.

It’s workers doing routine jobs who face bigger risks of losing their jobs, getting paid a lower wage rate, and on this basis different incentives and opportunities to participate in the labour market, get more education, establish a long-term relationship with a partner.

Low wages for low skilled workers stuck in dead-end service jobs raise the chances many Canadians will disengage, particularly the young, and young men even more so.

But what to do about this?

3. Policies to turn to: How to make work pay

There is no one answer, and not all options involve governments tinkering with tax rates. But some do. One important step is to make work pay.

There is a grain of truth to the traditional storyline: a new economy requires a new way of supporting incomes. It is not simply unemployment insurance that Canadians need, but wage insurance; it is not simply a guaranteed income that Canadians need, but a participation income.

And we have precedents for delivering income support in these ways. The Working Income Tax Benefit is a good example. It can be thought of as a “social wage” that encourages a participation society by topping up wage rates, and offering a guaranteed income conditional on working. But in its current configuration is much too small to have significant bite for anything other than a small part of the population.

Working Income Tax Benefit 2014 Families and Single Individuals

The design of the Canadian Working Income Tax Benefit.

Benefits from the program begin to kick in once someone makes more than $3,000, then amount to 25 cents for every extra dollar earned, then top out at just under $1,000 for singles and about $1,800 for families. Benefits fall by 15 cents for every dollar a family earns beyond about $15,650, disappearing altogether at earnings of about $28,700.

Some parts of our Employment Insurance program also have a design of this sort, allowing Canadians to work while still collecting a fraction of their benefits.

This is smart income transfer policy for a jobs market that is more and more polarized, and it is not hard to imagine that an expansion of the Working Income Tax Benefit that folds into a restructured Employment Insurance program could become a social wage, offering Canadians both the kind of income support and wage insurance they need to stay engaged with a more polarized jobs market.

In other words with a more nuanced interpretation of the facts it is not hard to give credence to another storyline about income inequality that goes something like this. Inequality has increased; there is something that can be done about it; and if public policy has punch, the effort directed to fighting inequality contributes to solving other pressing problems, like poverty.

[ This post also appears in an abridged version as an article with the same title on the website ]

  1. cardiffkook permalink

    Hi Miles,

    Some suggestions.

    First, inequality measures need to measure not just income, but income including benefits and transfers and adjusted for actual working hours. As our workforce has aged and retired, they are increasingly living off transfers and no longer wages. Similarly the top levels need to be adjusted for changes in tax laws which change how income is computed and declared. I will let you judge how well your above charts have been adjusted to reflect reality vs other trends.

    Second, in a global market, looking at individual states can be extremely deceptive. The single biggest trend of the latest generation on a global level has been the unprecedented increase in labor participation and wages for lower skilled workers. We have seen close to a billion humans emerge out of severe poverty in the last 30 years. However they emerged out of poverty by joining the global markets. They got jobs. But the increased competition for jobs of course drives down wages for similarly skilled workers in developed countries. Basic Stolper/Samuelson. It also creates opportunities for capital and increased demand for skilled labor, which is now more in demand. To what extent is the enrichment of a billion truly impoverished people the other side of the the relative stagnation in wages of unskilled labor in the developed nations? As such, is this not a good, no, an absolutely unprecedentedly-awesome thing? I sometimes wonder if future economists won’t start redefining this era as the greatest ever and wondering why current economists missed it or misinterpreted it.

    Personally, I don’t get the fixation of the current Emperors Clothes paradigm on inequality. Poverty, sure, but inequality no. I agree that transfers are an important part of any poverty program and that transfers need to work in such ways as to not incentivize bad behavior from either the party receiving or paying.

Trackbacks & Pingbacks

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