Want to deal with the problem of income inequality? The answer is not, as many argue, to simply do a Robin Hood steal-from-the-rich-and-give-to-the-poor thing. According to a new study by the International Monetary Fund (IMF) , the best way to deal with inequities is to build strong economies, then use some of the newly created cash to fund education.
Income inequality has been a hot topic of late, for good reason. I spent a lot of time looking at the data when I wrote Economorphics, (www.economorphics.com) and honestly was astounded at how much damage is done when you have a large and growing gap between people of different income groups. There is even a credible case to be made that an off-kilter distribution of income was a contributing factor to the economic meltdown of 2008.
The IMF started with a pretty basic question: as a county grows richer, does its income distribution become more or less equal? Put another way, as economies grow, does the wealth get shared? At least over a long period of time, the answer is a resounding ‘yes’. Using historical data, the researchers found that a 1 percent increase in gross domestic product took down the Gini coefficient (a measure of income inequality that goes from 0 to 1, with 0 showing perfect equality) by 0.08 percentage points. Interestingly, and against common researchers looked at global data to deter men the relationship between a country’s prosperity and contrary to popular wisdom, they also found that when a country’s GDP grows, it boosts the relative income share of the poor and the middle class at the expense of the richest 20 percent.
The mechanism by which a stronger economy is translated into a more equitable income distribution is education. Richer countries spend more on education, and as more people get educated their earnings grow. There are lots of caveats to the whole thing but it really is a very simple story. And if it is true that the prospects are not immediately awesome for every recent graduate, it is also true that they are considerably worse for those who acquire less education.
Policy wise, what does not mean? ‘The IMF paper suggests that developed countries like the U.S. and Canada take care to make sure that they stem the number of high school drop outs, and further make sure that graduates are university ready. They also urge governments to deal with the post-secondary tuitions that are prohibitive to many.
I would not disagree with any of those suggestions but would also urge going back one step and dealing with building stronger economies as well. Unless you have investment and jobs and profits and productivity, you are not going to end up with much in the way of tax dollars to spend on anything, and income inequality will get worse rather than better.