Werner's Blog — Opinion, Analysis, Commentary
Growing income inequality and its political consequences

In early June of this year I gave a talk at the CHRO Leadership Summit in Vancouver with the title: A Prescription for a Turbulent Economy. I pointed to the scenarios that could unfold with a possible Brexit and Trump presidency later that year. What might happen to international trade and the world economy? Back in early June I argued that both events needed to be taken as serious possibilities. Now that indeed both events have come to pass, more turbulence is what we can expect in a world that is suddenly more uncertain. But what is at the heart of the growing dissatisfaction of voters across the Atlantic Ocean that has boosted populism and nativism on the far right and far left of the political spectrum?

‘Rising income inequality breeds political discontent.’

Using data from the OECD, for my CHRO talk I had assembled a chart for a representative set of countries for which I could find sufficiently-long time series of the Gini coefficient, which measures the degree of income inequality in a society. A score of zero implies perfect equality, and a score of one implies perfect inequality. The red points show 2012, and the blue dots show 1984, so roughly a quarter of a century in between. There is an alarming trend: inequality has risen in virtually all OECD countries. Economic growth during that period has benefited the rich more than the poor. I call this diagram the scariest chart in economics because it describes a politically explosive reality. This reality has just lifted Donald Trump into the Oval Office despite the candidate's serious flaws (to put it politely).

Growing income inequality

click on image for high-resolution PDF version

The chart above shows clearly how income equality is growing across most OECD countries; even Sweden and Finland are not immune to this. Notably, the United States of America exhibits the highest level of income inequality among large OECD countries, and clearly higher than in Canada. Wages for white-collar jobs continue rising; wages for blue-collar jobs are stagnating. Labour economists have researched the reasons for this trend exhaustively (see references below). There are several competing explanations, but some are more important than others. The major source is what economists call skill-based technical change, while adverse effects from international trade are relatively small (although locally concentrated). In essence, many blue-collar jobs have been automated out of existence. The manual tasks carried out by low-skilled workers are also the easiest to replace by robots that never tire and work 24 hours a day if they must. These jobs won't come back, ever. You can't turn back the wheels of technological progress. So what can be done to deal with this crisis? The answers include skill upgrading and life-long learning. But this amounts to a major challenge for many who lack the acuity for this. But with increasing joblessness or inadequate jobs comes resentment, despair, and anger. People who hurt economically also hurt psychologically; their self-esteem is seriously injured as their place in society is less certain than it used to be.

Rising inequality breeds political discontent. When your neighbours can afford to drive a shiny Lexus or BMW and you can only afford to drive a rusty Chrysler or Chevrolet, and when your neighbours can go on fancy vacations and you can only enjoy "staycations", the gap in living standards becomes all too visible. It becomes a source of frustration and ultimately anger. Who is to blame for feeling left behind? Populism has always found the easy answer in scapegoats: foreigners, immigrants, minorities, elites and the "establishment". It's "them against us". Enter the strongman approach that promises to fix all social ills by dealing with the perceived scapegoats. The recent past is full of leaders, swept into power democratically, who have tried to exploited populist, nativist, and xenophobic sentiments: Italy's Silvio Berlusconi, Turkey's Recep Tayyip Erdoğan, Venezuela's late Hugo Chavez, or the Philippine's Rodrigo Duterte. Sadly, the list is growing.

Populism is actually a rather complex concept—it transcends the political spectrum. My political science colleague Jan-Werner Müller has just written a very insightful book "What is populism?" about this topic. He argues that populism has two defining elements: anti-elitism and anti-pluralism. The latter entails a form of identity politics—the "us against them" that I mentioned earlier. As Müller puts it, anti-pluralists refuse to recognize any opposition as legitimate and consider only themselves as righteous and morally pure. Liberal democracies need to find better ways to inoculate themselves against this type of populist bug, because populism can be the harbinger of despotism and worse, as history has taught us. Populists are merchants of false hope. Their economic recipes are mostly quackery and wishful thinking. Ultimately, they only replace old elites with new elites, and ordinary people are again left behind or have to pay for the economic foolhardiness of their populist leaders.

‘Swinging the wrecking ball into free-trade agreements will destroy jobs, not save them.’

To counter populism, liberal democracies need to address the root causes of malcontent, and income inequality is one of them. Yet, there is no easy solution to rising income inequality. Skill upgrading is hard work and needs to start at an early age. For those whose jobs fall victim to technological progress, we need to find a better way to protect these workers from the social repercussions. Countries such as Canada that have a social safety net that provides education, retraining, health care, and other types of support, will be better able to weather the storm than countries without. Nevertheless, populism is on the rise even in countries with admirable social safety nets such as Denmark and Sweden. What else is necessary, then? We need to find an answer to the question: if low-skilled manufacturing jobs disappear due to automation, what sort of jobs are we creating as replacements? The answer probably lies in creating novel service-sector careers with a range of skill levels that can be called professions rather than jobs. These are careers with meaningful long-term perspectives that generate pride and self-esteem. Burger flipping at the local fast-food joint is not one of them.

On the macro-side of the economy, economic growth alone is not enough either. However, economic growth can help generate the means to close the income gap. We also know what will definitely fail at closing the income gap. Swinging the wrecking ball into free-trade agreements will destroy jobs rather than save them. Low-income households will be worse off if they have to buy more expensive domestic goods instead of cheaper imported goods. Protectionism will also kill high-quality jobs in export industries as other countries would retaliate against higher higher import tariffs. A trade war only creates losers, and no winners. For Canada as a small open economy, trade is our economic lifeblood. If the world trading system sustains severe damage from anti-globalist rampage, Canada will be among its first victims.

References and further readings:

Posted on Wednesday, November 9, 2016 at 22:30 — #Economics | #US | #Politics
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