In discussions with @gappy3000 and @groditi over the past few weeks I made an argument as to why economic parity should lead to faster economic growth than great inequality. As I googled and found blogular discussions about this recent paper, I couldn’t find anyone making the same points I did. So I’ll state them in case I’m the only person who thought of this (though how could that be?):
- From a supply-side perspective, a more-homogeneous population is easier to produce for.
- In planning a new business, less variation in customers makes it easier to answer the necessary question: “Who is the customer going to be?”
- For “blue chip” businesses, greater efficiencies of scale are possible in a broad market.
- Taking the example of housing (which constitutes the lion’s share of most people’s lifetime spending): it’s easier to build the same house 10⁹ times than to build 10⁶ different kinds of houses for 10⁹ different people.
- Positional goods should account for a larger share of the economy in more-unequal economies than in economies closer to income parity. Take for example rents in Manhattan.
- As William Vickrey argues, micro ≠ macro so whilst ↓ 10% of your income would make you 10% worse off,if everyone in Manhattan ↓ 10% of their income it might mostly ↓ the price of housing, since an auction is a better model for that market than a posted-offer.
- Yet the option for businesspeople to cash in on easy money by producing exclusively for the rich must crowd out other uses of capital. Why work hard to insulate 10⁹ homes owned by people without much dosh to hand over, when there’s so much more of a market base making stuff for the people who have plenty?
- ↓ economic profits to providing positional goods would decrease the producer surplus without a deadweight loss (since the trades would still take place but at a ↓ price), but the £10,000,000 that went to counter-bidding against other top-wealth people would instead be owned by lower-wealth people and go toward purchasing goods they previously couldn’t afford, incenting ↑ production levels.
- As an add-on: this wouldn’t show up in GDP, but utility per pound spent should ↑ if the incomes are more homogeneous because the people who most value things would get them rather than people who just have more to spend.
One final thought. Which do you think is more possible: to ↑ the output of someone making £2/day, or to ↑ the output of someone making £500/day? To me the person making £500/day is likelier to be near his peak output than the person making £2/day. The person ganando £2/day is not efficiently plugged into a “system” or hooked up to capital such that her abilities are amplified the way the £500/day person is.
So according to me, economic growth should be easier to obtain by ↑ the productivity of the least productive individuals than by ↑ the productivity of the most productive individuals. This is consistent with the observation that growth rates are ↑ in developing countries (where ∃ more poor people) than in rich countries:
The counter-argument is about incentives. Lesser rewards make it less attractive to work all the way to the top, if indeed it’s work that takes you to the top.
As @gappy3000 says, the evidence is mixed on elasticity of labour supply at high incomes. However, based on my own subjective anecdotes, my beliefs are the following:
- Pay is strongly related to negotiation power and less strongly to output.
- Motivation and utility are derived from rank as well as from absolute earnings/spending. To the extent this is true, if tax levies do not reorder wealth levels they leave those individuals’ utilities alone.
- Most well-paid people are replaceable. Convexities in pay are more common than convexities in talent.
- Elasticity of labour supply is very low around the high income levels. These people either have a driven personality (easily bored if not working), competitive personality (rank-based utility), or logarithmic utility in money (so linear reductions in money reduce utility concavely).
For these reasons and maybe a few more, when well-paid people threaten to work less if they are taxed more I either don’t believe them, or think that if they did quit then the world’s output would be very little affected.
isomorphismes 