Inequality is Not Simply a Matter of the Strivers Getting Ahead

Keith Rankin, 31 July 1998


The Herald's editorial ("Income gap welcome", 28 July) presents a view of the recent Chatterjee Report "Sharing the National Cake in Post Reform New Zealand" that needs to be contested.

There are a number of reasons why only a minority of New Zealanders have benefited from the post-1984 reforms, and why a few have done very well. They include increased market failure with respect to skill acquisition, relatively greater returns to property ownership, and falling real wages.

Your editorial notes that success in "selling" goods and services (and, presumably, electricity) is being rewarded. Descartes said "I think therefore I am". Today that appears to have become "I sell therefore I am". The world, with a glut of goods and services, is scarce of purchasing power. Hence premium incomes are payable to people who can sell well on a buyers market.

Finance Minister Mr Birch (as reported on 24 July) claimed that the results of the study are misleading in that they use pre-tax rather than post-tax income, and that they disregard the growth of the incomes of many of those who are shown to be relatively worse off.

Contrary to the claims of Mr Birch, GDP growth per capita has been only 9% since the end of the 1983-1986 upswing. The growth rate since 1986 represents only half of our average growth rate for the previous 90 years. The reforms have, it would seem, left us with a per capita GDP 10% lower than it should have been. Furthermore, most of the small increase in the 'economic pie' is the property of foreign investors who now receive nearly ten percent of our GDP in remitted and retained earnings.

In fact, the bottom 60% of incomes have fallen in absolute terms, while the next 20% are up in absolute terms while down in relative terms. Many of those families in the top 40% have had to work very hard for very small gains. The children of overworked families may be worse off despite the small income gains of their parents.

Income taxes have been cut four times since the reforms began in 1984. On each occasion the top 20% of New Zealanders gained more in percentage and dollar terms than did the bottom 80%. The introduction of GST in 1986 and its extension in 1989 increased the tax burden on the lower 80%. If taxation as a share of GDP peaked in 1994, as Patrick Caragata suggests (Herald 29 July), then the flattening of the tax scales must have significantly aggravated the impact of reduced gross incomes on the bottom-earning 60 percent. On the other hand, each round of income tax cuts accentuated the gains to the top 20% that Dr Chatterjee has identified.

The experience of New Zealand since 1984 has been one of slow growth with three groups of 'new rich' and one group of 'old rich' making gains despite (or possibly because of) the slow overall growth of the economy.

The reason given in your editorial for some people getting huge salaries is "skills in short supply", what economists call "scarcity rents". This may indeed be part of the reason, but is unlikely to be the only explanation for very high elite salaries.

The increased scarcity of managerial skill is a direct indictment on the reforms. The reforms were supposed to make executive positions increasingly contestable, thereby decreasing the ability of established managers to protect their income sources. The reality is that experienced managers are scarce only because of raised entry barriers faced by their potential competitors.

The second reason why the top 5% earn much more than they used to is that many of them are "insiders". In today's context, insiders are those who are loyal to the culture of economic and business rationalism. Many of the new rich are rich because they are seen to strongly support the post-1984 reform process. High salaries and consultancy fees paid to people like Roger Estall and the late Wayne Gilbert reflect their track record as business insiders as much as they reflect superior managerial talent.

By way of contrast, employees who in 1997 might have considered alerting Mr Gilbert to the deficiencies of Mercury Energy's management would have expected such criticism to jeopardise their future career prospects. Whistle-blowers, by definition, are outsiders. Cultures which overvalue insider loyalty are probably responsible for a variety of systemic failures, ranging from Cave Creek to Queen Street.

The third form of new rich are entrepreneurs. Entrepreneurs are outsiders, risk-takers, innovators. While risk-takers are more likely than ever to fail in the unforgiving environment of the 1990s, endemic instability creates increased opportunities for those who think they can predict future markets and are willing and able to borrow money to prove it. This is ironic, because the reforms were meant to create an efficient self-regulating economy that works like clockwork; an environment in which businessmen require no more market information than the prices of the products that they are able to supply. The entrepreneur has no place in such a predictable economy.

The new "neo-Schumpetarian" orthodoxy in growth economics - called "new growth economics" - takes a very different view from that of the market rationalists. It sees the market economy as generating disturbances and uncertainty from within, and that its self-generated crises create a plentiful supply of problems for creative people to try to solve. Innovation, the driving force of economic growth, is motivated by a complex range of motives of which profit is only one. While a few prominent entrepreneurs become very rich, it is the entire entrepreneurial community, past and present, that generates economic growth today; a point made well in a controversial American article "Distributing our Technological Inheritance" by Gar Alperovitz (in the October 1994 Technological Review).

The fourth and most important reason for the advance of the upper 5% (140,000 people receiving in excess of $60,000 according to the 1996 census) is that most people in this group own private property from which they draw a rental income; they are, for want of a better name, a 'creditor class'. Creditors, who like high interest rates, lend to entrepreneurs, who like low interest rates.

The major single reason for the rich getting richer in New Zealand has been an increase in the share of national income paid to the owners of New Zealand located property (many of whom, like the proverbial Belgian dentist, live overseas). The major single reason for those on lower incomes becoming worse off is the reduced share of national income paid as wages.

As a result of the post-1984 reforms, it is likely that inherited private property will be much more important as a source of wealth in the 21st century than it was this century. One of the tax reforms, the abolition of death duties, has accentuated this form of inequality.

Economic realists should not "positively welcome the rising income gap". We have a more divided society, in which the interests of executives and their hard-working employees have diverged; in which people are more sharply divided into insider and outsider camps; and in which undercapitalised risk-takers stand opposed to interest-maximising owners of private property.


© 1998   Keith Rankin

Rankin File