Economist Donald Low explains 2 myths the S'pore govt has been repeating about inequality

Soft truths to keep Singapore from stalling.

Mothership | July 28, 2019, 04:00 PM

Hard Choices: Challenging the Singapore Consensus is a collection of essays on the challenges facing the current model of Singapore's governance.

Edited by author Sudhir Thomas Vadaketh and Economist Donald Low, the book examines the paradigm and assumptions that underpins the model of governance in Singapore. 

Here, we reproduce an excerpt consisting of two myths from the book's chapter "The Four Myths of Inequality in Singapore" by Donald Low. 

Hard Choices is published by NUS Press, and is available at Kinokuniya, Books Actually, other good bookshops in Singapore, as well as here.


By Donald Low

Myth #1: The best way to help the poor is to help the rich

What the Myth Says

A common refrain that one hears in the Singapore government is that we first have to grow the economic pie before we can share it.

Like it or not, it is the rich and talented who invest, spot, and exploit economic opportunities, and create jobs for the rest.

Depriving them of their just rewards by levying high income or wealth taxes on the rich simply reduces the incentive for them to create wealth, thereby hurting the poor and the rest of society.

In the long run, the best way to help the poor is to help the rich grow the pie. Societies can afford more generous redistribution when the economy is doing well and governments can afford to increase social spending. “Equity needs growth” is the common refrain from the PAP government.

What the Evidence Says

Have pro-rich policies led to faster economic growth, which then raised the incomes at the bottom? The evidence on this is mixed at best.

There is evidence that countries get richer by helping the poor

Among rich countries over the last 60 years, the evidence in fact suggests the opposite: countries tended to grow faster in the years they were doing more for the poor than in the years they were trimming social safety nets and cutting taxes for the rich.

Following the Second World War, there was rapid growth in progressive taxation and welfare spending in most of the rich capitalist countries.

Despite this (or perhaps, partly because of this), the period between 1950 and 1973 saw the highest-ever growth rates in these countries. Since then, rich countries have never managed to grow faster than that.

However, trickle-down economics was introduced as a response to slowing growth

When growth slowed in the mid-1970s onwards, the diagnosis in many developed economies was that the reduction in the share of income going to capital owners was the reason for the slowdown.

Across the rich world, and especially in the U.S. and Britain, policies that reduced the redistributive role of the state were introduced.

There were tax cuts for the rich (top income tax rates were brought down) even as social welfare spending was reduced.

Financial deregulation created huge opportunities for speculative gains as well as astronomical pay cheques for top executives and financiers.

Unions were weakened, making it easier for employers to sack their workers.

And trade barriers were dismantled, putting downward pressure on low-end wages in the rich world.

During this period, income inequality is the U.S., already the highest in the rich world, rose to a level comparable to that of some Latin American countries.

Much of this was driven by the rise of the super-rich in the U.S.. Between 1979 and 2001, the top 5 per cent in the U.S. saw their share of national income increase from 15.5 per cent to 21 per cent.

This was mainly because of the astronomical increase in executive pay, which in the aftermath of the 2007–09 financial crisis appears both unjust and unjustified.

There is little evidence that the benefits of trickle-down economics actually trickle down

Trickle-down economics may be justified if the benefits of growth do in fact trickle down.

Again, the evidence from highly unequal countries such as the U.S. suggests that this does not occur if simply left to market forces.

In contrast, countries with a strong welfare state find it much easier to spread the benefits of economic growth.

Through more redistributive fiscal systems, northern European countries have much more equal income distributions than the U.S. even though their income distributions before taxes and transfers are not all that different from the U.S.’s.

To sum up, there is no reason to presume that trickle-down policies will accelerate growth or benefit the poor. Even when there is more growth, the trickle-down that occurs through the market mechanism is very limited.

What about Singapore’s experience? Has trickle-down worked? It is less clear whether the increase in income inequality in Singapore over the last decade has been accompanied by a similarly perverse distribution of income to the super-rich as experienced in the U.S..

In Singapore, government policies have exacerbated inequality

Nevertheless, there are some reasons for concern.

To begin with, the state may have become less redistributive at a time when its redistribution functions are needed most. Government policies over the decade may have accentuated the rising income inequality wrought by market forces.

For instance, the tax system has become less progressive. Corporate and personal income taxes have been reduced significantly while the Goods and Services Tax (GST), a regressive tax, has more than doubled. More liberal foreign worker policies might also have worsened income inequality in Singapore.

If these tax and labour policies had in fact generated more growth, and if the government had been aggressively redistributing the fruits of growth to large segments of the population affected by wage stagnation, trickle-down economics may not be all bad.

Government policies have not been aggressive enough to overcome inequality

But while the Singapore government has increased spending on lower income segments of the population, through Workfare and discretionary fiscal transfers, its redistribution has simply not been aggressive enough.

This is demonstrated by fact that the income inequality after taxes and transfers has worsened at about the same rate as the income inequality before government redistribution.

Indeed, income inequality today, after taking into account government taxes and transfers, is worse than it was a decade ago before accounting for government redistribution.

This implies that the growth that Singapore has enjoyed in the last decade or so has not translated into proportionate gains for those at the lower end of the income distribution, and that growth has not reduced inequality.

Myth #2: Inequality is not really a problem as long as there isn’t extreme poverty and incomes are rising across the board

What the Myth Says

The second myth says that policymakers should not worry about inequality per se.

As long as there are opportunities for all to a good education, high social mobility will dampen people’s demands for a fairer distribution of income.

Furthermore, as long as everyone’s incomes are rising, the fact that incomes at the top are rising much faster than those at the bottom is not a cause for concern.

An analogy would be that as long as the rising tide lifts all boats, the fact that some boats (the yachts for instance) are being lifted up much faster than the rest should not matter.

Meanwhile, extreme poverty can be addressed with targeted measures such as social assistance.

These limited welfare programmes for the indigent and those who cannot work and have no other means of financial support are affordable so long as they are strictly means-tested.

There is no need for measures that redistribute incomes significantly since the problem—poverty—is a relatively limited one that can be surgically addressed.

The underlying assumption behind this myth is that people care only about their absolute, and not relative, levels of income.

So long as my income is rising, I should be happy and should not begrudge my neighbour’s income rising at a faster rate. To do so is irrational, and governments should not pander to my irrationality or green-eyed envy by redistributing income from my neighbour to me.

Parents should also teach their children to be satisfied with what they have and not compare themselves with those who have more.

What the Evidence Says

Redistribution makes sense, even at a purely utilitarian level

To begin with, conventional economics does not prescribe that distributional concerns should be subordinate to growth objectives.

Even if one takes a purely utilitarian view, there is a case to be made for redistribution.

Since an additional dollar is worth more to the poor person than it is to the rich person, a utilitarian perspective says that any growth in incomes should accrue to the poor and that this should continue until everybody’s marginal utility is the same.

Furthermore, to the extent that increasing inequality reduces society’s well-being, it hurts the rich as much as it does the poor, and redistribution would enhance overall welfare.

For instance, inequality has been shown to increase crime, which hurts the interests of everyone, not just the poor.

A matter of fair play for many

People’s general psychology also provides additional reasons for redistribution.

Behavioural experiments have suggested that people care just as much about fairness and relative income as they do about absolute gains.

In the ultimatum game, for instance, people routinely reject offers that they consider too low even though they are better off accepting whatever offer that is made to them. This suggests that people believe that windfall gains should be shared with others in society.

We should also try to understand the effects of inequality and why people care about them.

Greater inequality means more money is spent on competing over social status

One line of argument emphasises the role of positional goods (i.e., goods in which people’s utility depends on how much they own relative to others).

The point about positional goods—and of fashions and brands in general—is their relative attractiveness.

Owning a better car or the latest branded fashion item gives me more utility when others do not have it, much like how buildings are valuable because of their location.

With such goods, the rising tide does not lift all boats. I yearn to be not merely richer, but richer than my neighbours. The more important brands, fashion, houses, cars and other positional goods are in a society, the more relative income and inequality matter.

Rising inequality causes people to be more conscious of their status and to channel more of their spending to positional goods.

Because the incomes of the rich are rising faster than everyone else’s when inequality is increasing, they can afford to spend more on such goods.

Their spending causes “expenditure cascades” that induce others lower on the income ladder to also spend more just to keep up.

But in an era of rising inequality, the incomes of the middle class and the lower income groups are not rising as fast; they can only spend more on positional goods by diverting resources from non-positional goods (such as leisure time, or having babies) or by taking on more debt.

In an unequal society, social mobility is challenged

What about the claim that equality of opportunity ensures social mobility and so governments need not worry about rising income or wealth inequality?

Again, while this has some intuitive appeal, it is not borne out by empirical evidence.

Countries that are more unequal, such as the U.S., also tend to be less mobile (as measured by how much of a person’s income is predicted by his parents’ income) than countries that are more equal, such as Canada or the welfare states of northern Europe.

Why should this be? It turns out that equality of opportunity cannot be easily separated from equality of outcomes.

Unequal resources easily translate into unequal access to opportunities, say to quality education. Families with more resources have greater means to ensure that their children have a better education.

A more unequal society therefore finds it harder to achieve genuine equality of opportunity and social mobility than a more equal one.

To sum up, there are sufficient reasons—both theoretical and empirical—for policymakers to start taking inequality seriously even when incomes across-the-board are rising.

They should also reject the glib and empirically false dichotomy between equal opportunities and equal outcomes.

Being an opportunity society requires active government redistribution of incomes if market forces are producing more unequal outcomes.

Top image collage via Wallich Residence Instagram &