Saturday, May 7, 2011

Age of widening income inequality?

Widening income inequality is one of the most challenging long-term problems facing many economies across the world. A recent OECD study on the subject offers some very interesting insights, including a possibility that it may be a global trend, driven by factors related to globalization and technological changes.

The Gini coefficient for OECD countries, which stood at 0.28 in the mid-1980s had increased by some 10%, to 0.31 by the late 2000s. It increased in 17 out of the 22 OECD countries for which data are available. Even the traditionally egalitarian Nordic countries have experienced significant increases in income inequality.

The structural transformation in labor markets, with increasing role of part-time employment, has resulted in reduction in working hours. But more working hours were lost among low-wage than among high wage earners, again contributing to increasing earnings inequality.

On the role of globalization, technological change and regulatory reform, the OECD report says,

"Over the past decades, OECD countries have undergone significant structural changesresulting from their closer integration into a global economy and rapid technological progress. These changes have brought higher rewards for high-skilled workers and thus affected the way earnings from work are distributed. The skills gap in earnings reflects several factors. First, a rapid rise in trade and financial markets integration has generated a relative shift in labour demand in favour of high-skilled workers at the expense of low-skilled labour. Second, technical progress has shifted production technologies in both industries and services in favour of skilled labour...

Globalization also went hand-in-hand with the rapid adoption of new technologies which may penalize those workers who do not have the necessary skills. Technological progress is therefore often seen as inherently “skill-biased”. Some studies put this process at the forefront of their explanation for increasing inequality...

Finally, during the past two decades most OECD countries carried out regulatory reforms to strengthen competition in the markets for goods and services and associated reforms that aimed at making labour markets more adaptable... Minimum wages, relative to average wages, have also declined in a number of countries since the 1980s. Wage-setting mechanisms have also changed; the share of union members among workers has fallen across most countries... unemployment benefit replacement rates fell."

As the graphic below indicates, market incomes are much more biased towards the top half of the income ladder. As I have blogged earlier (here, here, and here), public cash transfers, as well as income taxes and social security contributions, play a major role in all OECD countries in reducing market-income inequality. Together, they are estimated to reduce inequality among the working-age population by about a quarter on average across OECD countries.

The OECD study finds that while tax-benefit policies have offset some of the large increases in market-income inequality but they appear to have become less effective at doing so over the past 10-15 years. It writes,

"Up until the mid-1990s, tax-benefit systems in many OECD countries offset more than half of the rise in market-income inequality. However, since then, while market-income inequality continued to rise, the stabilising effect of taxes and benefits on household income inequality has mostly declined. In some countries, taxes and benefits became less redistributive during the past decade... Despite the large gains of high-income earners in some countries, income taxes played a relatively minor role in moderating trends towards higher inequality."

1 comment:

Jayan said...

It is not correct to consider income tax(and any other tax) as tool make world equal. It is a tool to collect money to make general improvement in society and infrastructure so the absolute state of every one improves.