Sharing the fruits of growth

Realdisposable incomes of Kiwi households have been rising on average for aconsiderable length of time even after taking into account increasing costs offood, fuel and mortgages. This was very clearly demonstrated by a colleague ofmine – Chris Worthington – in this column some weeks back. But averagessometimes disguise differences across social strata.   Have we all being beenenjoying the fruits of growth?

Somestartling statistics from the US raise our interest in this question.   TheEconomist newspaper reported recently in an article about widespread Americandespondency, that between 2002 and 2006 the incomes of 99% rose by an averageof 1% a year in real terms, while those of the top 1% rose by 11% a year.   Three-quartersof the economic gains during George Bush’s presidency went to that top 1%.   Thereare numerous reasons for America’s despondency but that many Americans feelthey missed out on the boom is a major contributor.

How doesNew Zealand compare in this regard?   Data from an outstanding report from theMinistry of Social Development shows that the answer depends on the time periodof our analysis. Between 1982 and 1998 there was a rapid rise in inequality. Averageafter-tax incomes of individuals in the poorest 40% of households declined by8% while incomes of the richest 10% rose by 31% (see chart).   Over this periodalmost half of the proceeds of growth accrued to the richest 10%.   Not quite inthe same league as the Bush years in the US but enough to raise a few eyebrows.

Sincecoming into power in 1999 the Labour Party has adopted a redistributivestance.   The wealthy were whacked with the introduction of the 39% tax bracket in1999 while bracket creep has further raised average tax rates.   But despitethese tax increases the richest 10% have enjoyed a healthy 14% growth inafter-tax income between 1998 and 2007.   In contrast to higher taxes on thewealthy, working lower and middle income families have been given tax relief throughthe Working for Families programme.   Predictably then the poorest 40% enjoyedthe highest growth in income between 1998 and 2007, but at 18% was onlymarginally higher than that enjoyed by the top 10%.   In fact Labour’s tenurehas been characterised by an extremely equitable sharing of the economic gains.

Labour hasoverseen a period of strong income growth and has ensured all strata of societyhave benefitted.   But it would be simplistic to grant them full credit.   Towhat extent did the era of economic reforms in the 80s and 90s that wascharacterised by low growth and rising inequality create the conditions for therobust economic growth of the 2000s which gave them room to ease the tax burdenof low and middle income working households? And have Labour’s redistributivepolicies undermined the growth potential of the economy and thereby reduced thepotential for future income growth of all households?

It isdifficult to believe that the high effective marginal tax rates of Working forFamilies won’t impose a drag on the economy.   At some income levels a rise in payperversely results in a fall in after-tax income as the pay increase pushes theindividual into a higher tax bracket and to a lower Working for Families taxcredit.   These high effective marginal tax rates create a disincentive forindividuals to seek higher wages through upskilling, promotion or sheer hardwork.   How can we grow the economy if we take away the reward for initiative?

Therelationship between income inequality and economic growth is complex and wedon’t fully understand it.   But we know that at the extremes income inequalitycan undermine growth.   An overly skewed distribution of income underminessocial cohesion and can result in social unrest with negative consequences forgrowth.   The perception in the US that so many of its citizens have notbenefitted from the boom could have damaged consumer confidence which underminesconsumer spending and growth.   At the other extreme an overly egalitariansociety removes the incentive for individuals to take risk and invest and createnew wealth.

Ourpolicy makers not only need to be conscious of inequality within our bordersbut also of disparities between ourselves and our neighbours.   The gulf inincome between New Zealand and Australia is a major contributor to the haemorrhagingof our workforce across the Tasman.   That gap needs to close quickly bypursuing strong growth policies. But with income inequality in New Zealand atthe high end among comparable developed countries the government should nottake its eye off the equity scale.   It is a tough balancing act betweenachieving growth and sharing it equitably. But have we slipped too far towardsthe latter?



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