Wednesday, 21 March 2012

The UK Budget and the Political Dangers of Inequality

                The symbolic centre piece of the UK budget was cutting the top rate of income tax. There has been and will be plenty written on the merits or otherwise of this (see Chris Dillow for example), but I want to raise a broader point about political influence. To do that I will start with the UK and US, but then move to Uzbekistan and Nepal, before returning to the US and finally back to the UK.
                Let us start with trends in inequality.

The distribution of income in the UK has been getting steadily more unequal over the last two decades. As this chart makes clear, we are following in the footsteps of the US in this respect. There has been a great deal written about this trend. Is there a similar trend in inequality of opportunity, and are they linked? Just how many measures of health and social wellbeing are negatively correlated with inequality? But rather than discussing this, I want to move to Uzbekistan, Sierra Leone and Nepal.
                In a fascinating series of blog posts (trailing a book just published called Why Nations Fail), Daron Acemoglu and James Robinson tell stories about why these economies failed to develop over long periods of time. The common theme is that an economic and political elite (a dictator, a tribe) had established a system of extracting the surplus from an economy, and either that system prevented development (children spent a large amount of school time picking cotton in Uzbekistan) or development threatened this extractive system (the caste system in Nepal).
                Now move back to the US, and Larry Bartels’ book published a few years ago called ‘Unequal Democracy: The Political Economy of the New Guided Age’. Although Bartels notes that technology and globalization have contributed to growing inequality over the past 35 years, he finds that Republican policies on macroeconomics, taxes, and social spending have produced substantial increases in inequality, while Democratic policies have produced relatively equal income growth across the economic spectrum. The real incomes of working poor families have increased six times as fast under Democratic presidents as they have under Republican presidents. The corollary, of course, is that the wealthy have gained under Republican presidents – the Bush tax cuts, for example.
                However the causation runs both ways. Money buys votes in the US, which means it also buys politicians. Acemoglu and Robinson, in a recent Huffington Post article, make similar arguments about the US as they do about failing nations. They write: “Money matters much more in politics today than it did in the 1960s, and we are currently witnessing its import rising.” This matters because: “The problem is that economic inequality often comes bundled with inequality of opportunity and political inequality. Prosperity depends on innovation, and we waste our innovative potential if we do not provide a level playing field for all: we don't know where the next Microsoft, Google, or Facebook will come from, and if the person who will make this happen goes to a failing school and cannot get into a good university, the chances that it will become a reality are much diminished.”
                So finally back to the UK. The influence of money on politics here is perhaps more discrete. Take the major reform of the National Health Service (NHS) that has just been passed into law. This was not part of the government’s pre-election manifesto: in fact the prime minister appeared to rule out such a reorganisation in the campaign. The reform is opposed by nearly every professional association involved in the NHS. It is supposed to give more power to local doctors, yet the Royal College of GPs suggest it will "cause irreparable damage to patient care and jeopardise the NHS". A former NHS chief executive describes the bill as a mess that will set the NHS back. With the reorganisation happening at the same time as fiscal austerity, the political pay-off for the next general election is almost certainly negative. So why pursue it? Well, one group that will benefit are the private companies that will do a lot of extra business as a result of the reforms. These companies are - how can I put it - well connected in various ways.
                When business sees more profit in rent seeking and manipulating the state compared to investment and innovation, economic growth suffers. Which brings us finally back to the Budget and the 50p tax rate. The campaign to get rid of the 50p rate has been well organised, and has signed up many business leaders for support. The evidence that it will have a noticeable effect on UK growth in the next few years is non-existent. What UK business should have been lobbying for were changes in monetary and fiscal policies, but this has not happened in the UK or US. That the key 2012 Budget measure is a cut in the top tax rate, at a time when unemployment is rising because of demand deficiency, represents a specific macroeconomic policy failure. That the business community appears to be backing this stance perhaps represents a more general political problem.


  1. I'm glad someone of your profile has got the balls to come straight out and say this in the open.

    Too many people are afraid of being labelled "anti business" (whatever the hell that is?) or a communist or some other attempted-insult.

    We apparently have to "pay our way in the world" (more sound bites that don't actually mean anything in real economics)

    This government is systematically making life extra cosy for a very specific and narrow elite in the UK. It stinks.

  2. Interesting, and I agree with lots of this. But should you be a little more sceptical about the BMA's opposition to healthcare reforms? Its members earn several times the median national wage, and opposed the foundation of the NHS. I know we are not allowed to say anything unpleasant about doctors, but we should at least consider the possibility that they are a well paid group that is using its influence, like bankers? Correct me if I'm wrong, but I think french doctors are paid less.

  3. @Luke. It is precisely *because* medical doctors have so much prestige and influence that the fact they have been over-ruled here is interesting. It provides evidence of the linkage between changing levels of inequality and changing levels of political influence which the OP suggests.

  4. Great post. Good point Andrew Fisher.

    A natural experiment related to great wealth is the loss of great individual landholdings due to military defeat. Your argument suggests that the loss of East Prussia was not totally bad for German economy. Same for Japan and Manchuria and France and Algeria. Also massive land reform as in Japan, S Korea, Taiwan and Italy 1953 ( don't laugh there was a miracolo italiano from 53 through roughly 62). The problems are Peru and why did the UK underperform after being liberated from its massive empire ?

  5. William Peterson22 March 2012 06:40

    @Luke. Although NHS doctors have been quite well paid (especially since Labour renegotiated their contracts) the medical profession is rather different from the business interests who campaigned so successfully for reductions in personal and corporate tax rates. Studying medicine probably socialises students toi think in an altruistic way (unfortunately there is evidence to suggest that studying economics has the opposite effect). In addition in the UK medicine is probably better than professions such as law and banking in recruiting on a meritocratic basis: you will not get into medical schools without exceptional grades, and family connections will not help you. Ruling elites are always inclined to favour activities which are characterised by inequality of opportunity, since this makes it easier for them to ensure that their children inherit their status and position.

    1. William (and Andrew) with hindsight I probably should have kept my mouth shut when (a) I agreed with the main thrust of the post and (b) I have not followed NHS reforms closely.

      A better way to put my point is that professions have a tendency to convince themselves the status quo (with which they are familiar and to which they have adapted) is the best and only method. So doctors objecting to the foundation of the NHS were probably not arguing purely from (conscious) self-interest. Where I think doctors may score over lawyers(I am one) is not in socialisation or intelligence (though most are cleverer), but in that they are trained to look at evidence to find the right answer, rather than to argue a case.


  6. Here's another good read that touches on some of the points the author raises -

    "Facing pressure from both sides of the coalition, George Osborne delivered another neutral set of fiscal plans in his third budget as Chancellor. However, unlike his first two budgets, his strategy of shifting the tax burden on to the rich, and promoting pro-business and growth strategies seems to be more cohesive."

  7. There is now no line between government and big business. Both Brown and Cameron have surrounded themselves with a panel of the bosses from top firms to help form economic policy i.e. suck as much money out of the public as possible.

    Interesting that in the budget yesterday Gideon Osborne said he found "aggressive tax avoidance as morally repugnant"

    He must have forgotten that he allegedly flipped his Cheshire/London homes to avoid CGT? When he inherits the family business I assume a trust fund might be used?

    The main issue in the budget yesterday is the lack of an increase in Capital Gains Tax. You can see why a 50% tax will not work when people are allowed to channel income into capital gains. It's even rife all over Whitehall and councils as reported in the press recently.

    Of course MPs holding taxpayer funded property wouldn't want CGT to increase, if they ever decide to pay any. Also Gideon's banking chums don't want CGT to rise. The government portray bankers taking bonuses in shares as a punishment but with CGT at 28% surely it means they make more money by avoiding income tax?

  8. Re. the US: "money buys votes" is a gross and distorting simplification of the truth, as Mitt Romney can tell you, with feeling.