Is inequality a hazard or an indicator?
AN INTERESTING IMF analysis finds that growth spells tend to last longer in places with relatively low levels of income inequality:We found that high “growth spells” were much more likely to end in countries with less equal income distributions. The effect is large. For example, we estimate that closing, say, half the inequality gap between Latin America and emerging Asia would more than double the expected duration of a “growth spell”. Inequality seemed to make a big difference almost no matter what other variables were in the model or exactly how we defined a “growth spell”. Inequality is of course not the only thing that matters but, from our analysis, it clearly belongs in the “pantheon” of well-established growth factors such as the quality of political institutions or trade openness.While income distribution within a given country is pretty stable most of the time, it sometimes moves a lot. In addition to the United States in recent decades, we’ve also seen changes in China and many other countries. Brazil reduced inequality significantly from the early 1990s through a focused set of transfer programs that have become a model for many around the world. A reduction of the magnitude achieved by Brazil could—albeit with uncertainty about the precise effect—increase the expected length of a typical “growth spell” by about 50 percent.The upshot? It is a big mistake to separate analyses of growth and income distribution. A rising tide is still critical to lifting all boats. The implication of our analysis is that helping to raise the lowest boats may actually help to keep the tide rising!It's not too hard to think of potential causal channels. In an unequal society, many people may lack the means to invest in themselves and in the economy. A rentier class might become ever better at using the state to protect its interests, thereby choking off growth. Or the oppressed masses could rise up and seize the country's wealth. I suspect the authors are right that there's something to this.At the same time, I wonder if isn't more often an indicator of underlying weaknesses in the growth model, as opposed to the cause of weak growth. The authors do control for a number of other potential causes in their analysis and report that inequality still shows up as one of the factors most associated with slowdowns, but their list of relevant variables isn't exhaustive. They attempt to control for the impact of commodity-driven growth, for instance, by focusing only on growth spells eight years or longer in duration. Is this long enough?This line of thinking is an avenue worth exploring, but cautiously (as the authors acknowledge). If inequality slows growth because financial oligarchs repeatedly generate crises or because the rural poor lack access to schooling, then simple redistribution won't be as effective as targeted reforms. Which isn't necessarily the lesson most readers will draw from a quick read of the paper.