Time to act on growing inequality

Concerns are growing about the gap between rich and poor. Demographics, robotics and the sharing economy will widen the rift.

The result has been a backlash against the so-called ‘ruling class’ and the economic orthodoxy that have dominated many countries for the past three decades. “In the past year, election upsets seem to have become the norm,” notes a report by Bert Colijn of the ING Economics Department. “In the US presidential election, the EU-referendum in the UK, the Ukraine referendum, in the Netherlands and the constitution referendum in Italy, a vote against the establishment prevailed.”

The Global Risks Report 2017, published by the World Economic Forum, which organises the Davos meetings of political and business leaders, explains that long-term trends – such as persistent inequality and deepening polarisation – can build to a point where they become triggers for change. The report adds that these long-term trends “exacerbate risks associated with, for example, the weakness of the economic recovery and the speed of technological change.”

The populist revolt against what the World Economic Forum describes as the “economic status quo” could have even greater consequences. “Over the past decade real earnings have grown at the slowest rate since the mid-19th century,” says Mark Carney, governor of the Bank of England. “Weak income growth has focused growing attention on its distribution. Inequalities which might have been tolerated during generalised prosperity are felt more acutely when economies stagnate.”

As a result, many citizens in advanced economies are facing heightened uncertainty, lamenting a loss of control and losing trust in the system, according to Carney. “To them, measures of aggregate progress bear little relation to their own experience,” he adds. “Rather than a new golden era, globalisation is associated with low wages, insecure employment, stateless corporations and striking inequalities.”

How real is inequality?

In the decades after the Second World War, fast-growing economies, near full employment and broadly progressive tax systems in most of the developed world resulted in a narrowing gap between rich and poor.

There is fierce debate about when things started going into reverse. “Since the late 1970s, wages for the bottom 70% of earners have been essentially stagnant,” notes Lawrence Mishel, president of the Economic Policy Institute think tank. Certainly, many problems predate the financial crisis. “Most Americans today are worse off – with lower real (inflation-adjusted) incomes – than they were in 1997, a decade and a half ago,” says Nobel Prize-winning economist Joseph Stiglitz.

The problem seems to have accelerated in the post-crisis period, as asset prices (such as shares) have risen in value in response to central bank efforts to reflate the global economy while wages have stagnated and unemployment has edged up. During “the recovery of 2009-2010, the top 1% of US income earners captured 93% of the income growth,” says Stiglitz. “All of the benefits of growth have gone to the top.”

The European experience

Much of the academic literature on inequality focuses on the US where income disparities have always been perceived to be among the most extreme. How different is Europe?

“Inequality is not as bad in Europe as it is in the US, but developments in the Gini coefficient, an often-used indicator of inequality, show that Italy has seen inequality increase in recent years,” says ING’s Colijn. “In the UK, this has not been the case but inequality is still at a higher level than in the large continental European countries. In France, inequality has been decreasing since the peak of the crisis in 2011 and inequality is now lower than in Germany.”

Lower levels of inequality in Europe than the US don’t mean that Europe is a haven of egalitarianism. Figures cited by Oxfam show that the richest 1% of Europeans (including non-EU countries) hold almost a third of the region’s wealth, while the bottom 40% of the population share less than 1%. The charity notes that the financial and economic crisis has led to a growing belief that ‘the system’ is rigged in favour of an elite.

Indeed, it is the growing difference between the middle class and the elite that some observers believe has contributed most to discontentment. While the growing participation of women in the workplace has expanded the middle class in many countries, the changing structure of jobs and occupations and higher unemployment has resulted in a growing number of middle-income households having below median income levels. In short, middle class no longer means middle income, according to a recent report by the International Labour Office, a UN agency.

“Involuntary part-time work in almost all professions and in both the public and the private sectors has increased significantly since the crisis,” notes the report. “A sort of vicious circle has developed: the crisis has weakened the middle class, which in turn has reduced aggregate demand” which serves to undermine the employment stability they enjoyed in the past. Consequently, the gap between the middle class and the rich is widening.

New pressures

The growth of the sharing economy, the potential replacement of human workers by robotics and artificial intelligence, and the world’s ageing population are three of today’s hottest topics. Many experts believe all three will exacerbate inequality. Click below to find out why.

The sharing economy drives down wages

Everyone loves the convenience of the sharing economy but it could worsen equality.

There are many projects that reflect the utopian goals of the sharing economy, such as Paris’s Vélib cycle-hire service and numerous neighbourhood-based schemes to share power tools, for example. And while most people’s motivation to participate in the sharing economy is to save money, according to an ING study called What’s mine is yours – for a price, respondents also appreciate the environment benefits and potential to strengthen communities.

However, the reality of the sharing economy – and its impact on people’s lives and existing businesses is that commercial ventures now dominate. In 2015 alone, five key sectors of the European sharing economy generated platform revenues of nearly €4 billion and facilitated €28 billion of transactions; by 2025, these figures could reach €570 billion of transactions and €80 billion of revenues, revaling traditional companies. The vast majority of this growth will come from for-profit enterprises.

As Tom Slee notes in his book What's Yours Is Mine, the bulk of the sharing economy has rapidly become simply a new type of commercial business model. “While the sharing economy is often presented as a diverse set of commercial and non-commercial initiatives around the world (from tool-exchange co-ops to pet-sitting and so on), this presentation is a bit misleading,” he says. “The sharing economy is almost entirely a small number of technology firms backed by large amounts of venture capital.”

The impact on society

One of the best known commercial sharing economy brands is Airbnb, which pitches itself as a disruptor of the overpriced, inefficient traditional model of holiday lets and an easy way for people to make money from their property. It currently offers 3 million listings in 65,000 cities across 191 countries: some analysts believe that by 2020, Airbnb hosts will be taking 500 million bookings a night, rising to a staggering one billion by 2025.

Airbnb’s growth is believed by some to have significant negative consequences. In November 2016, the city of Barcelona said it will fine Airbnb and its rival HomeAway €600,000 each for listing unlicensed tourist apartments for short-term let. The moves were just the latest stage in the battles by city governments around the world against Airbnb. A law in Berlin banning short-term rentals came into effect in May 2016 and New York has taken similar action.

The charges against Airbnb and other similar companies is that they create housing shortages and gentrify neighbourhoods to the detriment of locals – effectively worsening inequality. “It drives up real estate prices that are already soaring in Amsterdam,” says Sito Veracruz, an urban planner in Amsterdam and founder of alternative platform Fairbnb. “Neighbourhood business[es] that create ties between residents are replaced by businesses that only focus on tourists. Bike rental companies replace local grocery shops. And apartments that are continuously rented out to tourists are lost to people who want to actually live here.”

In response to criticism, Airbnb says that it is creating new demand for lets and benefiting cities: 74% of its properties are outside the main hotel districts and its guests spend 2.1 times more than typical visitors.

Driving down wages

While the sharing economy has helped plenty of people to find work, some observers accuse it of driving down wages, reducing worker protection and decreasing worker security by pushing people to take on unsustainable risk.

“The so-called gig economy represents a dangerous trend… whereby big profit-making companies have been able to get away with depriving their workers of the most basic rights,” says Jason Moyer-Lee, general secretary of the Independent Workers Union of Great Britain, a recently formed union for gig economy workers. “If we are not careful, tomorrow we will wake up and none of us will have the minimum wage, sick pay or paid holidays.”

Uber, the other principal exponent of the shared economy, has taken an aggressive approach to existing laws in order to grow rapidly. It competes with taxi companies around the world, which have clearly defined standards, workplace conditions and pay scales but operates a de-regulated model in which drivers are inevitably paid less.

A working paper called Drivers of Disruption? Estimating the Uber Effect from the Oxford Martin School at the University of Oxford looks at the effect of Uber on conventional taxi-driving services in US cities. As is well known, Uber causes major disruption to established services: the study cites earlier evidence that the average number of rides per taxi in San Francisco – Uber’s home town – declined by 65% between 2012 and 2014.

Less well understood is that Uber has incentivised non-taxi drivers to become self-employed Uber drivers: labour supply increased by almost 50% after the introduction of Uber. Perhaps surprisingly, this has not reduced the employment opportunities for traditional taxi drivers. However, it has had an impact on wages: hourly earnings among wage-employed drivers on average declined by up to 10% in cities where Uber became available relative to the ones where it remained absent (although those people who became Uber drivers enjoyed increases in their income).

Uber’s business model, however, is constantly changing. In 2012, Uber Black – the company’s flagship offering – cost riders $4.90 per mile and $1.25 per minute in San Francisco; now Uber charges $3.75 per mile and $0.65 per minute. While 70%-80% of a fare goes to the driver, some drivers complain that the drop in price has come from the drivers’ cut rather than Uber’s. This problem received prominence in February when an Uber driver in Boston challenged the company’s CEO over falling rates: Travis Kalanick essentially blamed the market.

Robots will skew income distribution

The use of robotics and AI is expected to rise steadily in the coming years, potentially replacing many jobs done by humans. It seems inevitably that some of those who lose their jobs – especially people with limited skills – will not find alternative employment. As a result, their incomes will fall and inequality could increase.

A more economically sophisticated explanation of the likely impact of robots on inequality is provided by a report by Andrew Berg, Edward Buffie and Luis-Felipe ZannaIf of the International Monetary Fund. It says that if we assume that robots are almost perfect substitutes for human labour, the good news is that they cause output per person to rise. “The bad news is that inequality worsens,” they write.

First, robots increase the supply of total effective (workers plus robots) labour, which drives down wages in a market-driven economy. Second, because it is now profitable to invest in robots, there is a shift away from investment in traditional capital, such as buildings and conventional machinery. This further lowers the demand for those who work with that traditional capital. It should be noted that the report assumes that robots and other technology replace rather than augment works, which may not turn out to be the case.

As the report notes, both the good and bad news intensify over time. As the stock of robots increases, so does the return on traditional capital (warehouses are more useful with robot shelf stockers). Eventually, therefore, traditional investment picks up too. This in turn keeps robots productive, even as the stock of robots continues to grow. Over time, the two types of capital grow together until they increasingly dominate the entire economy.

All this traditional and robot capital, with diminishing help from labour, produces more output to be shared among people. Or it would do, if the robots weren’t owned by a tiny minority of people. “Capital is already much more unevenly distributed than income in all countries,” says the report. “The introduction of robots would drive up the capital share indefinitely, so the income distribution would tend to grow ever more uneven.”

How ageing will make us less equal

Retirees tend to have less money than working people as employment contributes the vast majority of income. The income of pensioner households is almost 20% below average in Germany, for example, according to a discussion paper by economic research organisation GWS. Consequently, “as demographic change progresses, income inequality accelerates from 2025 on,” the paper notes. “Ageing causes labour market shortages that translate in high wage rises. Increases in pensions [lag] wage rises, resulting in growing income deviations.”

However, an ageing population will also increase inequality within the older generation. Less-skilled workers with manual jobs are more likely to retire at around the traditional retirement age because their jobs are physically demanding and become more difficult to do: these workers limited skills make it tough for them to find other employment opportunities should they wish.

In contrast, more highly skilled retirees have jobs that primarily use their brains rather than their bodies: if they want, many can carry on working well past the traditional age of retirement. The further up the skills ladder one goes, the easier this process becomes: think of the former CEO who may choose to sit on a handful of company boards, earning significant sums for a limited amount of work. Compounding this difference, higher skilled people are likely to have saved for their retirement (because they have the means) and be less reliant on government support.

This trend could even be played out at a global level. Ageing populations are not just a Western phenomenon: China, for example, faces huge demographic challenges. But nearly half of China’s workers aged between 50 and 64 did not complete primary school. When this group of unskilled people reaches retirement age, fewer of them are likely to remain in work compared to more highly skilled workers in Europe, for example. Consequently, global inequality – which has steadily narrowed as a result of globalisation in recent decades – could widen.

How to defeat new drivers of inequality

If the world wants to avoid widening equality, it may have to make some radical decisions. In many countries, it appears that inequality is already increasing: trends such as the increasing growth of the sharing economy, automation and an ageing population could accelerate this process.

As these trends are only now receiving prominence, responses to remedy the inequality they will potentially create are only just emerging. For example, in relation to the risks created by so-called sharing economy companies there have been a series of court cases seeking to establish whether companies such as Uber are information providers or employers (in which case they would have to comply with labour and licensing requirements). The European Court of Justice is due to give its verdict by the end of the year.

A group of experts led by Koen Frenken, professor of Innovation Studies at the Copernicus Institute of Sustainable Development at Utrecht University, says that there has been regulatory progress in some areas. “An illustration is the regulatory process that Amsterdam has initiated with Airbnb,” they write. “The municipality wants to ensure that people only occasionally rent out their house whilst away, rather than run a permanent, unregulated hotel. It has chosen to allow its residents to rent out their homes for up to 60 days per year.” In countries where a regulatory settlement is not possible, companies may simply leave: at the end of March, Uber announced it will pull out of Denmark.

A more generalised solution to growing inequality is the universal basic income (UBI), which has gained increasing prominence in recent years (it is discussed more fully in a separate article in this edition, The future of jobs).

Some have called for a UBI to be funded by a robot tax. A draft report to the European Parliament prepared by MEP Mady Delvaux from the Committee on Legal Affairs says that “a general basic income should be seriously considered” given the “possible effects on the labour market of robotics and AI” and suggests a “possible need to introduce corporate reporting requirements on the extent and proportion of the contribution of robotics and AI to the economic results of a company for the purpose of taxation and social security contributions.”

Delvaux’s idea of a robot tax has since been supported by 2013 Nobel economics laureate Robert Shiller. He does not link such a tax to a UBI but says that it could “provide revenues to finance adjustment, like retraining programmes for displaced workers” and be “part of a broader plan to manage the consequences of the robotics revolution”. Perhaps surprisingly, Bill Gates has also endorsed the concept of a robot tax.

More generally, advances in technology and the emergence of new business models should prompt more innovative thinking among those concerned about rising inequality. History indicates that inequality rarely corrects itself over time without a major event (such as war) or significant political change – instead it just becomes more entrenched. With such a wide range of significant headwinds to greater equality, those seeking to reduce it will need to work hard to establish a consensus on the need for action.



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