Simon Duffy

Thoughts, Bemusements & Arguments

Tag: economics

Inequality is Inefficient

Over the past few decades inequality in the UK has grown considerably, by whatever measure you choose. After World War II, at the birth of the welfare state, inequality was at a very low level. Over time we’ve come to accept very high levels of inequality. In just a generation it has doubled.

And the UK is an extreme case. It is now the most unequal country in Europe. A land that prided itself on its sense of fair play seems to have readily abandoned the notion of a fair distribution of resources. It would be fascinating, in a rather disturbing way, to explore why the UK has been so particularly negligent of equality.

Often the explanations offered for inequality are economic. However it is particularly important to recognise that inequality is political, not economic. It is a social and political choice to accept or encourage high levels of inequality. Society can choose to control inequality – if it wants to. However the political nature of inequality is often wilfully ignored and inequality is often presented as being merely a matter of economics, as if economics was some natural and uncontrollable force, quite distinct from human decision-making.

Inequality is neither inevitable nor necessary; but this truth has been perhaps obscured by a rather different debate. Often the debate about inequality is confused with the debate about the role of the state in the economy: the conflict between dirigisme and the free market.

Now it is certainly true that some advocates of equality do believe that it is only possible to create equality if the state takes absolute control of the economy. Opposing them are advocates of extreme economic liberty who argue that any economic control is bad, taxes are theft and that the inevitable inequality that arises from free economic activity is utterly justified. In fact both sides share the same false view that there is no way to reconcile equality and freedom; instead they both believe we are forced to choose: so the Left choose equality, while the Right choose freedom.

But this is crazy. We need both freedom and equality. Even in economic terms we need a significant degree of freedom and of equality simply in order to make our economic system work:

  • Without freedom economies don’t develop: investment, risk, failure, success, learning and innovation all depend on our freedom to spend our time and money on things we value, even when others don’t.
  • Without equality economies don’t grow: fewer and fewer people have the resources necessary to purchase, consume or invest. An economy with only one consumer or only one producer is dead.

Even more importantly freedom and equality are not just economic variables. In life we need to be free, free to define a life of meaning for ourselves; and we also need to be an equal, valued as an equal member of the community. We reconcile freedom and equality by creating decent communities where we work together to create a better world for everyone.

One aspect of any decent community is that its members work hard to create the necessary conditions to achieve both freedom and equality. And, there are many ways to do this, ways that can combine a significant degree of economic freedom with a reasonable level of economic equality:

  • Create shared goods that are not distributed by the market, for example ensure everyone has access to high quality healthcare rather than making people pay for it.
  • Redistribute income, increase benefits to increase the incomes of the poorest, and increase taxes to reduce the incomes of the richest. Currently the net cost of benefits (benefits after tax) is very low indeed, hence the UK’s high level of inequality.
  • Exercise self-discipline when rewarding people for their work; keep the ratio between the best paid and the worst paid as low as possible. For example, Plato recommended a ratio of 1:5, but in the UK welfare state the best paid civil servants earn 50 times the average income of the poorest 6 million people.
  • Disdain greed and excessive wealth and encourage values that focus on other dimensions of human life. For example, Pericles, the great Athenian leader, suggested their society was best because it did not value people for their wealth, it measured people by their contribution to community life.

However interest in these disciplines is very low in the UK today. Redistribution is now treated with suspicion and excessive rewards for the rich are treated as the inevitable price to be paid for economic progress. There are many arguments of detail here and much evidence that can be provided to challenge the arguments for injustice and inequality. However I want to add just one argument, an argument from economics itself. I’m sure it’s an argument that someone else has made before, but I cannot remember seeing it, so I thought I’d try and outline it here.

Before I begin I’d like to distinguish my argument from two other important and valid arguments:

  1. Inequality is harmful – This argument has been made most effectively by Wilkinson and Pickett, and in great detail. In essence they have correlated economic equality with many other things that we find valuable and discovered that there is strong link between equality and many aspects of a decent society (better health, lower stress, less crime etc.). They show that inequality is bad for everyone – even the rich.
  2. Inequality is sub-optimal – This argument is often made by utilitarians and it rests on an observable truth. When you get something you want you feel some benefit; but the more you get the less you feel any increase in the benefit you get. Our desires are increasingly sated. Given this truth then the best distribution of any limited set of resources will be the most equal one. Inequality reduces the total level of happiness.

But the argument I want to offer is slightly different to these. I want to argue that inequality is also very inefficient.

At its simplest my argument is as follows. If I have a limited amount of money and I want to get the maximum amount of work done then paying people equally will maximise the amount of work that gets done. However, if I choose to pay some people much more than others then I will have to reduce the total amount of work I pay for.

This may seem obvious, but it’s perhaps worth underlining the point. Currently the false belief is that inequality is economically necessary – here I want to propose that inequality is inherently inefficient – in economic terms.

Imagine the distribution of salaries as a polygon. An equal distribution would be a rectangle, with salaries on the y axis and the volume of time purchased on the x axis. If some people have a higher salary then the polygon will be equivalent to a rectangle, with a right-handed triangle on top. Total spend is therefore equal to the volume of the shape.

Now if you assume that you have a fixed amount of money to pay for people’s time then the most efficient shape will be the rectangle. The more unequal the distribution then the higher the peak of the triangle and the shorter the width – in other words the less time you can buy.

In fact, if we make certain simplifying assumptions we can even calculate the level of inefficiency of increased inequality. If we describe the relationship between the base salary and the top salary as a ratio we find that efficiency is measured by the following formula:

e = 2 ÷ (R + 1) where R is ratio of base salary to highest salary

  • 1:1 means absolute equality and this has an efficiency of 100%
  • the 1:5 ratio was recommended by Plato this has an efficiency of 33%
  • public sector salaries are at a 1:15 ratio and have an efficiency of 12.5%
  • the ratio between the poorest 6 million citizens and the top civil servants is 1:50, which means that the welfare state has an efficiency of 4%

Now this exaggerates the size of the inefficiency. In practice the upward slope will be a long convex curves. Lots of people are on low salaries, fewer are on high salaries. However the basic truth remains, the higher the ratio the greater the level of waste.

Of course critics of equality will argue that we need inequality to buy the best. But this is a double fallacy. Of course, once you’ve allowed inequality to run amok, then you surely will have to spend more on some people to get them to work for you. But this is simply a side-effect of broken self-discipline: the Premier league may spend more to buy more of the better players – but it is not creating better football – it is merely skewing the distribution of better football away from one country and towards another. In other words inequality in incomes merely leads to inequality in skill distribution. This is not a good thing.

The second fallacy is that it assumes you have to pay people more to get them to do more complex or challenging work. This is clearly nonsense. Primarily people choose to do such work because it is intrinsically interesting, suits their talents and brings with it many other rewards. The things you should really have to pay people extra money to do are those things that are dirty, smelly and tiring (the things that in the real world people are paid less to do). If inequality has any real purpose it should be to compensate people for doing intrinsically unrewarding work.

The reality is that inequality suits those with the power to dictate the distribution. It is not the poor who set the salaries of the rich. Power – economic and political – is at the root of inequality. And power will be necessary to challenge and reverse it. The reason why inequality was low after World War II was that the poor had a lot of power and the rich knew it. Today the rich know the poor are weak and they exploit that fact.

Rebalancing things will take more than vapid debates about the state versus the market. It is not the market which is the real threat to equality, it is our low opinion of ourselves. If we choose to measure ourselves in terms of money then the state will not protect us, it will just adapt itself to our own low standards. We should instead choose to see ourselves as citizens who are worthy of equality – not because we are all worth the same money, but because money measures nothing of value. We should seek economic equality, not to pull anyone down, but to pull everyone up, to a higher level, to the status of an equal citizen.

Gangster Economics

Economics emerged as a moral science, an attempt to understand how to advance justice and the wellbeing of all. The word comes from the combination of two important Greek words:

  • Oikos – which means family, family property or the family house
  • Nomos – which means law, order or justice

Today economics is treated as merely a social science, and as with all social sciences, the assumption that there is a moral order and that justice is a fundamental reality has faded. This is very much to the disadvantage of the science. Without moral imagination economics becomes lost in its own self-made world of artificial principles and models. It tries to predict rather than to guide us towards what is right. It becomes a servant of the powerful and of economic power in particular, rather than an advocate for economic justice.

It is striking that one of the founders of economics, Adam Smith, was a moral philosopher and that, his original vision was certainly very moral. For instance, Smith wrote:

“This disposition to admire, and to worship, the rich and the powerful, and to despise, or, at least, to neglect persons of poor and mean conditions… is the great and most universal cause of the corruption of our moral sentiments.”

Smith is responsible for helping to found the most powerful and well known of economic theories, economic liberalism; and while there have been some other important innovations in thinking and practice over the years, this approach – which stresses the importance of individual free choice in promoting good outcomes – has been resilient. Most economic theory is merely a footnote to liberalism.

It is a sad irony that the ideas of a man who often stressed the rights and freedoms of the poorest is now often cited to support the policies that harm them. In the UK, Government’s of both Left and Right, have turned justice on its head and acted as if we exist to serve the market, not the other way around. Advocates of justice often use the term liberalism, or its variant, neoliberalism to define the nature of their moral error.

This marks a decline in the meaning of the world liberalism that is also bitterly ironic. Originally being liberal meant to be free or to be lavishly generous. There is nothing liberal about the meritocratic, mean-spirited elites who rule our country today.

In fact I think that when we criticise the current Conservative Government, or the previous Coalition or New Labour Governments, as ‘liberal’ or ‘neoliberal’ we are in danger of flattering them. There is nothing liberal in their policies – in either sense. They do not enable more people to be free and independent, they do not encourage generous giving or secure welfare. They are illiberal, reducing freedom and increasing inequality and poverty.

How then should we characterise their economic policies if they should not be called liberal? I’ve been thinking about this for a while and I think I’ve come up with the right name. We are living through an era of Gangster Economics, where the purpose of economic policy is to reinforce the power and wealth of a small group by exploiting the poorest and bribing the powerful.

Think how gangsterism works. First you must exploit the poorest, using fear and violence, while ensuring that no powerful forces of resistance can arise from within the exploited communities. Compare this to a range of current Government policies:

  • Benefit cuts, sanctions and workfare brutalise the poorest
  • Regressive tax increases (poorest 10% now pay 50% of their income in taxes) milk them
  • Legal aid, trade union rights and the right of charities to protest have all been weakened
  • Asylum seekers, immigrants, disabled people and the poorest are stigmatised and insulted

The second phase of gangsterism is to protect the gangster’s field of operation, to ensure that nobody will come to the aid of the poorest. In 1920s America this was achieved by bribing the police, the mayor and by threatening jurors. In the UK today such bribery and pandering takes a somewhat subtler forms.

  • Tax and benefit policy is designed to benefit swing voters, to keep the elite in power
  • Honours and contracts are distributed to political donors, charities and commercial interests
  • The commercial media is courted, the independent media is undermined

For instance, during the Coalition Government taxes and benefits were both changed so that the poorest 10% were hit more harshly than any other decile. Their income, which was already only £40 per week after tax, was reduced by a staggering by 9%. At the same time the incomes of some middle income groups were even increased. If the Government’s objective had really been to reduce the deficit then logically it should have targeted the well-off and middle income groups. If you’re looking for money, don’t go to the poor. This policy reveal that current economic policy is an exercise in power – not in accounting.

The third stage of gangsterism is to get the whole economy dependent upon some substance over which you have monopolistic control and from which you can then cream enormous profit. Twentieth century gangsters used alcohol and then, when that was legalised, drugs. In Gangster Economics the drug on which we’ve all been hooked is debt.

  • Government has allowed banks to create more money, by creating debt.
  • Banks then profit from this new power by taking a slice of their Government granted monopoly
  • Politicians then discover the joy of the housing boom, as interest rates drop house prices grow, along with all the associated debt.
  • Home owners are happy (a ‘popular’ policy in the UK and US with high levels of home ownership) because their house is ‘worth more’ and they vote for the Government.
  • Banks are happy because they can cream off yet more money from higher levels of debt.
  • Banks then discover that they can manufacture new forms of debt, junk bonds, CDOs, synthetics from which they can cream further profits.

I would like to say that, eventually this all came crashing down; but it hasn’t. After a small wobble, the world economy is still doing its crazy debt-ridden dance. The Government keeps it going with Quantitive Easing and, now, 0.25% interest rates. Banks are the drug pushers, government is their backer and protector.

Historically debt has always been the means necessary to create slavery. Debt keeps us obedient and makes us run for protection to the government. Government reassures us and tells us that they will solve the problem, a problem they say that was the fault of the poor, the disabled and the immigrants. It beggars belief that we believe them, but believe them we do.

It is encouraging to see organisations like Positive Money emerge to challenge this nonsense, for social justice will require more than a restored welfare state, it will require new forms of economic policy. I think this will happen, eventually; the current system is just too crazy to survive and, as Adam Smith also said:

“Avarice and injustice are always short-sighted”

The Liberal Fallacy or Yet Another Argument for Basic Income

Liberalism, or neoliberalism, has many flaws but we don’t always focus on its biggest flaw.

You can see this flaw most obviously once you accept one of the most important axiom’s of liberal economics: if prices are flexible then the market will clear.

But what does that mean?

Well let’s begin with a simple example:

Farmers come to the market in order to sell their harvest. Shoppers go to the market in order to buy their food. The price is whatever money is exchanged for the goods. Now, if prices are flexible, then we can expect all the goods to be sold – the market will be ‘cleared’. When shoppers compete to buy some rarer item then its price will rise. When sellers compete to offload a less popular item then its price will drop. Eventually everything, even the most unattractive item should be sold as the price approaches zero.

Now the most obvious flaw in this account is that real markets don’t work like this:

The day finishes, and some goods are left over, even when there has been heavy discounting at the end of the day. This might be for all sorts of practical reasons – perhaps fewer people came to the market that day etc. But also the seller does not always accept the logic of liberal economics. He might insist on holding to his notion of a fair price – whatever the market conditions. Like the grandfather in Halldór Laxness’ The Fish Can Sing, who always sells his fish at the same price: On a day when there is high demand for fish he does not increase his price – he simply sells his ‘bargain’ fish quickly. On a day when demand is low he may not even sell his fish at all.

So, real markets are not like the pure markets of economics, not just because of the complexities of reality, but also because some people simply refuse to bend to the idea that the market should set the price. For the liberal this is a kind of irrationality: how can the fish have a value outside of the market mechanism? If nobody will pay your ‘fair price’ how can you imagine that this is its true value?

The liberal is competing with an older view (certainly the medieval view) that things really do have a fair price. And this is probably linked to Aristotle’s way of looking at things. Within the Aristotelian tradition all things have their true essence – their meaning or their value – which the wise can discern. But too often we see only the accidental properties of a thing – their semblance or their price. Within this tradition the market can no more measure value than the fool can find truth.

It seems to me that this debate about value has been at the heart of politics and society for some centuries. Liberals are modernists. The notion of an essential value is, for them, a fiction. Only the social mechanism of the market gives things a price. This may be sad and unromantic, they argue, but, for example ‘Your house is only really worth what someone is willing to pay.’ And unattractive as this is in some respects, as an argument it does have a certain power.

Today we can see these two competing perspectives playing out in the debate between those want to see greater market flexibility in wages, versus those who want to see greater rigidity, for example by the application of minimum wages, living wages or stronger employment rights. The liberal argues that, whatever the apparent disadvantages of zero-hours contracts, self-employment or reduced employment rights, any increased flexibility will improve market efficiency and so does benefit society in the long-run.

Liberalism may be rational but it is certainly unrealistic. Real markets don’t clear and real people certainly don’t behave ‘rationally’. In fact we all turn out to be a strange mixture of the modern and the medieval. When house prices went up by 360% in 11 years we became liberals, enjoying (if we owned a house!) the ‘rising housing market.’ [Interestingly this kind of jargon reveals exactly our confusion, for markets don’t rise or fall – they are just spaces.] But now that bubble seems ready to burst we have all turned medieval. We want the Government to bail us out and defend the ‘value’ of our house and to ensure that we don’t lose out from our own bad investments. Our sense of the fair price for our own home seems wonderfully flexible as long as its direction is upwards.

We are liberals when it suits us. Bubbles make fools of us all.

But this debate between fair-value and market-value is a sideshow; it does not reveal the essential flaw in liberalism. It cannot lead to any helpful answers to the fundamental questions of social justice.

The essential flaw in liberalism is much simpler – there is nothing in the market that will ensure the seller will get enough – enough to live on, enough to thrive, enough to support their citizenship. Market’s don’t care, they are not moral, they are not fair and they don’t need to ensure the survival of those who ‘come to the market.’

A flexible labour market certainly benefits employers, especially if they need to compete on price with organisations in countries who have much lower labour costs. Investors certainly prefer the cost of labour to be controlled or reduced employment securities. This reduces their liabilities.

But whatever benefits a flexible labour market offers to employers or investors, it still does not ensure that people will have enough to live on. Like the canny shopper, waiting until the end of market day, to see what price the unsold bananas might fall to, the employer knows that, when the seller is desperate enough, they will be able to buy the labour they need, at almost any price.

The essential flaw in liberalism is that, by its very logic, it will never provide a decent and secure income for citizens. To do so would be to undermine the market itself.

Of course, those who campaign for increased minimum wages or a living wage know all this. But they are forced to deploy the medieval argument – which while is attractive in many ways – is also fraught with many problems. They have been drawn onto the enemy’s territory. Their motivation is good, but perhaps their strategy is wrong. They seek to mitigate the market’s inevitable injustices, but they thereby accept that the regulation of the price of labour is the proper means of reducing social injustice. This brings with it a host of problems.

By arguing about prices we are arguing on the liberal’s territory. Instead, we must, as the Chinese say, lure the tiger from the mountains. We must start with need and justice.

This is how we can strike at the heart of the liberal fallacy. For, if the market cannot deliver fair and secure incomes for all, then perhaps so we must abandon the market for that purpose. Instead we must secure our basic income or our citizen’s income socially and politically. We must agree together what is fair, and distribute to each other the necessary resources for our basic or citizen’s income.

This is not to abandon the market for all purposes. It is to put the market in its place (in a more humble place – a secondary place). The market cannot ensure that we each have enough. So let us stop trying to make it. Instead we must create real income security together – we set a basic income and ensure that each citizen gets it. We must fix what is fair together and then we can let the labour market help us distribute our gifts and our talents between each other – at prices we are free to set ourselves.

This strategy has two further advantages over the mitigation of the market strategy which is currently being deployed by our allies.

First, it just lets the market do what is does do well – connect people’s needs to other people’s gifts. Price flexibility (once our basic income is secured) is a boon, not just to employers, but to employees, not just to customers but also to producers. If I love to write poetry, but the going rate for poetry is low, then I can sell myself cheaply, while knowing that I am doing what I really value. If I choose to do something that few others seem to value, like cleaning toilets, I can demand a higher price for my labour. We are free to decide what is important to us – in both buying labour and selling labour. We are no longer at the mercy of the market.

Second, we start to breakdown the illusion that the market can value us. Today we are constantly being told that all sorts of people are worth more than the rest of us and so are deservedly entitled to whatever salaries they award themselves – be they bankers, politicians, footballers or whoever. The price we pay for this exploitation of markets by the powerful is not only economic, it is spiritual. We are only too likely to believe the nonsensical idea that some banker is ‘worth more’ than some other person – perhaps the toilet cleaner. Constantly we forget what a proper understanding of economics can always teach us – there is no real relationship between value and price: water is cheap; diamonds are expensive; but it is water that we need to live.

Perhaps it is time to put the market in perspective. It is not a demon, it is not a saviour. It is just a useful tool for any society that understands that we are each worth infinitely more than our price in the labour market and that markets don’t take care of us – they never will. Only we can take care of us.

How to Make a Life

You are a citizen when you are defined by your contribution, by what you create in the company of others, not by what you consume…

We need to find ways for all of us to act together as citizens on the truth in Winston Churchill’s statement: “We make a living by what we get, we make a life by what we give.”

Mike Green from Citizenship and Person-Centred Work

Modern economic and social theory has failed to capture this important dimension of citizenship. Philosophical theories like utilitarianism and liberalism and the accounts of rationality used by modern economics are badly distorted by their inability to understand the need to give, the need to contribute and the reality of obligations.

The Fictional Economy

One of the most frightening things we do as human beings is to hurt ourselves with fictional entities. One of these fictional entities is ‘the economy’.

We tell ourselves that we must not lose the economic race (although its not clear who we are racing against or why); we must make the economy grow (even if bigger doesn’t actually mean better); we must respond to the latest demands of the economy (even though there is no such thing). The economy demands – so we must respond.

But what is this entity, the economy?

We certainly each have needs and we have capabilities. And if the idea of an economy merely describes the interactions between these two human conditions then of course there are legitimate economic questions: What stops needs being met? What increases the chance of people’s capability being advanced?

But this isn’t what advocates of ‘the economy’ mean. They are not concerned with meeting human needs or supporting human beings to flourish – these things just get in the way. The economy has become a goal in itself, with its own strange needs, to which real human beings must be sacrificed. It is as if the economy is an instrument of war and we are all seeking the biggest weapon.

The Citizenship Imperative

If one of your countrymen becomes poor and is unable to support himself among you, help him as you would help an alien or temporary resident, so that he can continue to live among you. Do not take interest of any kind from him, but fear your God, so that your countryman may continue to live among you. You must not lend him money at interest or sell him food at a profit. I am the Lord your God, who brought you out of Egypt to give you the land of Canaan and to be your God.

 Leviticus, 25:35-38

This is a powerful moral test. Notice that the imperative to help a fellow citizen is put on the same terms as help for the alien. This may seem strange to us – because we have forgotten the ancient imperative to take particular care of the alien. To the Greeks Zeus was the champion of strangers. To the Jews – who really understood slavery and isolation – the duty to the stranger was absolute. So here the imperative to treat a fellow country man as if a stranger is to lift him on to the same, honoured footing. This means not taking advantage, demeaning or exploiting him.

We believe we are so advanced. But we treat the stranger as if he shouldn’t be here and we treat the needy as if they deserve their fate and anything we do for them is not from duty but from our own patronising kindness. We have fallen down from these ancient Greek and Jewish standards, but we close our eyes and pretend that we are rising. But we are simply rising on the back of the success of industrial production – there has been no moral advance.

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