Lessons for the U.S. on Inequality

What countries like the U.S. should learn from the developing world about closing the gap between rich and poor
Illustration by Topos Graphics

On Feb. 29 the World Bank announced that the proportion of the planet’s population living in absolute poverty—on less than $1.25 a day—had halved from 1990 to 2010. That rate of poverty reduction is unprecedented, driven by rapid rates of economic growth in poor countries from China to Ghana. Yet despite the huge progress against poverty worldwide, inequality—the gap between rich and poor within countries—has been expanding. Recent analysis by economists Isabel Ortiz and Matthew Cummins at Unicef suggests about two-thirds of all countries have become more unequal over the past two decades.

Income inequality has become a preoccupation of voters in America and Europe, where the poverty line is more than 10 times higher than the $1.25-a-day standard used by international organizations. Governments in the U.S. and U.K. have proposed a range of measures targeting the incomes of the top 1 percent of earners, from limits on executive bonuses to the Buffett Rule, which would require Americans making more than $1 million to pay at least 30 percent in federal income tax. Yet the example of all those rapidly growing poor countries suggests that the developed world’s emphasis on soaking the rich is misplaced—or at least inadequate. To make real progress in closing the gap between rich and poor, countries like the U.S. would be better off lifting the quality of life for their least advantaged citizens—and stopping the obsession with lowering the boom on the most privileged.

Before we start harking back to a golden age of more equal paychecks, it’s worth examining some of the factors that have contributed to inequality in rich countries. Greater use of computers and other technology has played a big role in increasing demand for the well-educated over the past 20 years, a process economists call “skill-biased technological change.” “Skill premiums”—in which people with more education earn higher salaries than those with less—have risen across the world since the 1980s. In Mexico, to cite one example, the gap between the pay of skilled and unskilled workers grew by almost 70 percent between 1980 and 2000. Short of banning cell phones and laptops, however, it’s unclear what the direct policy response to such trends should be.

Tax policies and financial regulation have also fueled inequality—especially in the United States. A 2011 paper by Anthony Atkinson, Thomas Piketty, and Emmanuel Saez of the London and Paris Schools of Economics and University of California at Berkeley, respectively, found that since 1985, changes in the tax code helped bolster the 1 percent’s share of national income from 9 percent to 15 percent. Given that those changes were followed by a period of particularly sluggish growth for the U.S., it is clear that the gains for the richest Americans have not created a rising tide for all.

Nonetheless, taxation and regulatory policy are only part of the story and thus only part of the solution. The policies that have done the most to improve the lives of the world’s poor have often taken decades to do so. Americans can look at the East Asian “miracle” economies, like those of China, South Korea, and Thailand, to see how expanding opportunities for the underclass can promote broad economic growth. Land reform (which gave small farmers a larger share of property) and wider access to health and education gave the poor greater economic security and allowed parents to invest more in their children’s education and well-being, which in turn made them more productive workers. That’s a big reason why a number of Asian countries have catapulted from mass poverty to membership in the group of high-income economies.

In Brazil, meanwhile, the top fifth of the population saw their share of total income decline from 65 percent to 59 percent from 1990 to 2008, while the bottom two-fifths saw their share increase from 8 percent to 10 percent. Part of that is due to an innovative program called Bolsa Família, introduced by former President Luiz Inácio Lula da Silva. The program provides government cash transfers to 12 million poor families, with part of the money conditional on parents getting their kids vaccinated and sending them to school. The payments add as much as 40 percent to household incomes, and most of the money is used to buy food, school supplies, and clothes for the children. Among recipient families, vaccination rates and school enrollment have soared. And far from hurting growth, Brazil’s war on poverty has coincided with stronger economic performance. In the seven years after Bolsa Família was introduced in 2003, the country’s average gross domestic product growth was 4.3 percent. That compares with 1.9 percent in the seven years before.

Both the East Asian and Latin American experiences demonstrate that the priority for policymakers concerned about inequality shouldn’t be middle-class people who can’t afford to renovate their master bathroom. A more effective approach is to focus on poor people—and in particular poor kids—who can’t compete on anything like a level playing field because they are excluded from the social, health, and learning opportunities that underpin success.

Education can play a huge role in leveling that field. Miles Corak of the University of Ottawa has found that kids of low-income parents are far more likely to become low-income adults in the U.S. than in other countries. In the U.S., fully half of what a person earns can be predicted by how much his father made—compared with less than 20 percent in Canada or Scandinavia. Rich parents ensure their kids go to school and stay there, and in countries where education produces high returns, that means rich kids go on to earn a lot more. Among OECD countries, the strongest correlations between education and future earnings are in France, the U.S., and the U.K.—which are also the countries with the highest correlation between parents’ income and their children’s.

The answer is not necessarily “more money for education”—after all, the U.S. is already a big spender on schools, and there’s little desire in Washington to spend more. But ensuring that more young children have access to environments that stimulate learning could yield outsize returns. Corak argues that universal day care is a significant factor in explaining both low child poverty and higher rates of mobility in Scandinavia compared with the U.S.

Making a serious dent in inequality, in other words, requires more focused investment in the future. That might well mean higher taxes on the 1 percent: providing opportunity for more people to attain a better quality of life entails the very richest paying their fair share. But that revenue shouldn’t simply go toward propping up middle-class subsidies like the home office tax deduction or mortgage interest relief. The solution to inequality isn’t just to bring the 1 percent back down to earth. It’s to ensure that everyone has the potential to reach the top 1 percent themselves.

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