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The fallout from the Global Financial Crisis (GFC) of 2008 triggered a wave of economic research on measurement of inequality. The most noteworthy early discussion on the topic, which turned into a treatise, was Thomas Piketty’s Capital in the Twenty-First Century. Piketty’s study focused on the evolution of incomes of the top 10%, 1% and 0.5%, using tax data. Piketty concluded that the top 1% benefitted enormously relative to the rest. The “Occupy Wall Street" movement that gathered momentum after the GFC adopted that slogan as its own.

There has been a wave of scholarly re-examination of academic work on inequality to better understand what has happened and whether the progress of the first three decades after World War II has indeed been eroded. At the economy-wide level, and parallel to the discussion on inequality, is a debate about the long-run decline in the national income share of labour relative to capital. Prima facie, labour’s share (income that accrues to workers rather than investors) has been falling in all major economies for the last 40 years or so, while it had remained constant prior to that.

To properly estimate changes in living standards, newer studies on inequality adjust Piketty’s income data for taxes and transfers for the top income decile and benefits for the other deciles. Those studies have come up with the noteworthy conclusion that the incomes of the top 1% have not changed materially for the last six decades, even in the US. In other countries like the UK, the difference between the top 1% and the rest was smaller even in Piketty’s study. The decline in labour’s share has been explained by several factors. In a comprehensive literature survey and study by McKinsey in 2019, the global consultancy attributes the decline to five factors: 1) Boom-bust cycles; 2) Rising and faster depreciation; 3) Superstar effects related to market dominance; 4) Capital substitution/deepening and automation; and 5) Globalization and labour bargaining power. Contrary to widespread perception, they find that the most important cause of the decline in labour’s share, particularly in extractive industries and the real-estate sector, are boom-and-bust cycles.

After the initial decades of positive trends after World War II, much has gone wrong with the practice of market capitalism. In recent years, social mobility has been falling, equality of opportunity has remained elusive, superpower companies (in developed countries) and superpower entrepreneurs (in the developing world) have accumulated market power that distorts competition, and housing, health care and some lifestyle aspects like live entertainment have become unaffordably expensive. Despite these failings, the new studies suggest that attributing the declining labour share of national income to globalization and automation would be hasty and possibly erroneous.

Populists around the world have risen to power by using economic inequality as a political plank. Over time, as populist leaders become the establishment, it seems likely that the economic basis of that plank will be questioned. Received wisdom that inequality in society is due to globalization and automation will continue to be re-examined. While de-globalization, or some form of “slowbalization", will probably remain with us for many years, globalization’s “villainy" will be better understood in the context of other factors. For developed economies, this would imply a need to turn away from knee-jerk “nationalism" and focus instead on reducing the disruption caused by a range of factors responsible for middle-income stagnation.

For India, in particular, the lessons are manifold. The first is that we should start tracking whole- economy statistics in a much more transparent, objective and rigorous way than we have been doing so far. Our labour market data, for example, is simply too poor for any useful data analysis. Only with consistent and unbiased data can we draw appropriate conclusions for policy action. A second lesson is that we should continue to enable economy-wide growth. This is the most effective way of lifting the entire population rather than attempting to focus on one group or another, which dissipates energy and lacks effectiveness. A third implication is that we should widen the tax base beyond our tiny group of income-tax payers. This should be the focus, rather than inventing new forms of taxation or increasing direct (cess) or indirect taxes (the goods and services tax already has extraordinary high rates) to make up for the shortfall. An important takeaway for India is that it stands to benefit greatly from globalization. Global capital and technology and international talent (both our diaspora and foreign citizens) have a role to play in India’s future prosperity. India should focus on fighting a resurgence of crony capitalism and keeping powerful businesses from distorting competition in any sector (this is a more significant contributor than globalization to inequality). Domestic policy in India should try to reallocate the fruits of a fair-play economy and globalization more inclusively, particularly to marginalized groups, through the use of innovative, modern and time-defined welfare programmes.

P.S: “Things are not always what they seem, the first appearance deceives many," said Plato in Phaedrus.

This is the concluding part of a two-part series on rethinking received economic wisdom in the aftermath of the covid pandemic.

Narayan Ramachandran is chairman, InKlude Labs. Read Narayan’s Mint columns at www.livemint.com/avisiblehand

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