Saturday, August 16, 2008

Inequality

Michael Walton has a good opinion piece in Financial Express on the subject of inequality in India. He starts out with the eminent good sense on the subject:

Should we care about inequality? Many would see this as a dumb question. But there are two, opposing views on why it may be considered dumb. The first is that inequality is so obviously central an issue, so pervasive in Indian society that it is transparently the case that tackling inequality is central to the development process. Indeed, the long history of both rhetoric and action by the Indian state is, ostensibly, in line with this view.

A second view is that inequality is a big diversion. India is still a poor country. The first order question is sustaining growth, while ensuring the poor participate in that growth. (And, indeed, in most growth episodes, most of the time, the income of the poor grows more or less as fast as the average.)

Moving from Latin America to India a year ago (as I did) casts this question into relief. At first glance the contrast seems to support the view that inequality is a second order question here. Latin America is the region of inequality par excellence. Measured inequality in India (from the National Sample Survey) is way below the Latin American average, and even below the most equal society theretiny Uruguay, famed for its extensive social insurance system. It is also lower than in China, Malaysia and Thailand. Sustaining rapid growth looks much more important than any feasible redistribution, not least for the poor.

On the scale of decades, the only thing that matters for poor people is GDP growth. Every percentage point of the growth rate that is given up in the quest of reduced inequality today does permanent damage of the trajectory of consumption of poor people in coming decades. As an example, suppose a family starts out in poverty in India today earning Rs.1000 a month. Here is what 30 years of growth does at a few alternative growth rates:

2.5% 2,097
6.0%5,744
7.0%7,612

6% growth over the coming 30 years gets a family making Rs.1000 a month in India today up to Rs.5,744 a month. But if the growth rate gets up to 7%, then this same family gets up to Rs.7,612 per month. These large differences are induced by small improvements in the growth rate. And, if we sink into socialist stasis of 3.5% GDP growth which would yield 2.5% per capita growth, then this family gets up to Rs.2,097 a month in 30 years.

I think 30 years is the right horizon to think about these issues, for it corresponds to the change that a person sees from age 0 to age 30, and then again from age 30 to age 60. It is very important for poor people in a country to see such massive changes in their well being coming about within such timescales.

Policymakers who care about the consumption of poor people have to have a very short-sighted discount rate (in addition to certain kinds of preferences) in order to espouse policies that emphasise equity at the price of growth.

Manish Sabherwal has a piece in Economic Times today, where he points out the logical fallacies of simplistic beliefs about inequality using a natural experiment that recently took place in India:

India has become substantially more equal since January 8, 2008. About two hundred billionaires have turned into millionaires. The drop in stock market and real estate values means that the top 5% richest people may have lost about 40% of their wealth and making the rich poor increases equality. But does this exponential increase in equality help India’s poor? Do they even care?

Michael Walton then runs through the criticisms of this perspective. First, inequality off NSSO data is underestimated. I feel that inequality using household survey data is underestimated everywhere. It's as hard for an investigator in Mexico City filling out forms to get into one of the haciendas of the rich, or an investigator in New York City filling out forms to get into a penthouse in Manhattan, as it is for him to get into a prosperous home in Bombay.

Second, the really important thing is inequality of opportunity. I fully agree. Here, it is possible to obtain first best with reduced inequality of opportunity and higher GDP growth, by undertaking fundamental reform of education and health in India. This is a rare situation where policy makers with an interest in one kind of inequality can actually assist growth. But so far, the gigantic spending programs in health and elementary education (e.g. Sarva Shiksha Abhiyaan) have been dominated by the interests of their respective civil servants, and not the interests of the users of these services. Higher education is another great opportunity to make a difference to equality of opportunity, but so far in India, the policy framework is systematically designed to disadvantage a person born in a family with weak financial and human capital.

Third, he says that inequality is likely to get worse, and that this will have implications for the political system and society. I agree with this outlook. Inequality in India will get a lot worse before it gets better, given that the top decile is in the process of plugging into globalisation, and generating tremendous wealth in the process. Over time, the remaining nine deciles will handsomely reap the fruits of this transformation, but in the short term, inequality will worsen.

Vijay Kelkar has always emphasised that inequality matters because it influences the political foundations of liberal economic policies. I see this as shaping up to be a big challenge for Indian politicians over the coming 25 years. So far, the early indicators are bleak.

In her article The first globalization: Lessons from the French, Suzanne Berger emphasises one of the `great surprises in history' : despite the inequalities created by capitalism, no electorate has ever voted in free national elections to overturn it. She argues that while anti-capitalist political parties have been strong, they have never won the day.

I'm not so sure. Democracy does contain the possibility of the demos coming together and expropriating private property and trampling on individual freedoms - as Indira Gandhi did and as a number of `idiotic' regimes in the world have shown. Berger emphasises one element of what holds such dangers in check:

...the constitutional engineering of Madison and the founders of other liberal democratic societies did work to protect the rights of individuals and the functioning of a market economy. Institutions like the Bill of Rights, the Supreme Court, and federalism did in fact build dikes that protected property and markets against democratic majorities

To the extent that the `constitutional engineering of Madison' is important in throwing up these dikes, we are in trouble in India, given the extent to which constitutional engineering (and re-engineering) have systematically damaged the rights of individuals and the functioning of the market economy.

3 comments:

  1. I am remembered of the Idiom " People in glass houses should not throw stones ". Sometimes, I feel Indian politicians instigate the poor against the rich with good reasons( Its in the politician's own selfish interest to keep people poor so that they fall for their electoral doles of free electricity, cheap ration food etc). Education again is tightly rationed since its not in the interest of government to make people independent.

    This rhetoric of inclusive growth is possibly a euphimism to continue the selfish agenda of petty corrupt political practices.

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  2. You left the small matter of inflation out.

    When there is growth in excess of 5% i.e high growth rates, there is usually inflation, which removes the appreciation in absolute terms.

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  3. Bravo, Ajay!
    India desperately needs greater protection of Individual Rights including property rights. Indian democracy tends to run roughshod over property rights in use, subject to majoritarian and/or regulatory tyrrany.

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