Home > The Economy > Krugman, inequality, and growth

Krugman, inequality, and growth

from Dean Baker

Paul Krugman questions whether there is an existence of positive relationship between equality and growth. He rightly cautions those on the left against being too quick to accept the existence of such a relationship.

He uses a simple graph showing the relationship between inequality and growth per working age person in the years 1985 to 2007. His takeaway is that there is not much a positive relationship, but there clearly is no negative relationship between equality in growth. In other words, the people who are that we need to have more inequality to support stronger growth have a hard case to make using this simple comparison.

I would suggest taking the analysis one step further. One big difference between countries over this period is the extent to which they opted to take the benefits from growth in more leisure time. There are large differences in the decline in the length of the average work year across countries. 

Using the OECD data (which is not perfect for international comparisons) we find that relatively equal France saw a decline in average work hours of 10.2 percent over this period. Denmark had a decline of 5.3 percent, and West Germany had a drop of 15.9 percent. These would translate into annual increases in GDP per potential work hour of 0.5, 0.2, and 0.8 percentage points, respectively.

By contrast, in the relatively unequal U.K. the drop in average hours was 4.7 percent, in Canada 3.1 percent, and in the U.S. 2.2 percent. These translates in gains in annual GDP per potential hour worked of 0.2, 0.1, and 0.1 percentage points, respectively.

Would looking at GDP per potential hour worked strengthen the positive correlation between equality and growth? I don’t have time to check that one just now, but a quick eyeballing of the data suggests that it is possible. This still would not be conclusive evidence that equality is good for growth, but it would be interesting. And, it is an important reminder that there is nothing wrong with taking the benefits of higher productivity in the form of leisure rather than income. The planet will thank you for it.

  1. originalsandwichman
    June 8, 2015 at 9:10 pm

    Inequality, Growth and Leisure

    http://econospeak.blogspot.ca/2015/06/inequality-growth-and-leisure.html

    In response to musings by Paul Krugman on inequality and growth, Dean Baker asks whether taking more of the benefits in leisure time might skew the appearance of the data. That is to say if the value of leisure wasn’t excluded from GDP, those countries that took more leisure — and, incidentally, are relatively more equal — would have higher growth rates.

    Ironically, Dean doesn’t have the time just now to check that one out. Sandwichman has time but not Dean’s virtuosity with data.

    As Krugman argues, “there just isn’t a striking, simple relationship between inequality and growth; all the results depend on doing fairly elaborate data massaging…” There isn’t a striking result to be had from the data for a good reason. There isn’t a single relationship in the underlying reality. The results are also constrained by what questions are being asked.

    The presumptive question seems to be whether inequality is good or bad for growth. Is that the only question worth asking? Is it the best question? Dean framed his question about leisure as a supplement. He remarks, mock apologetically, “there is nothing wrong with taking the benefits of higher productivity in the form of leisure rather than income.”

    Wanna bet?

    There must indeed be “something wrong” with taking the benefits of higher productivity as leisure. Otherwise, why would economists echo, decade after decade, the lump-of-labor refrain against the “fallacy” of reducing working time? If there really was nothing wrong with taking the benefits of productivity as leisure, then, hey presto, that boilerplate injunction would be superfluous — inappropriate, even.

    Are economists ignoring the obvious?

    Sixty years ago, Simon Kuznets — who won the Sveriges Bank (“Nobel”) Prize for his pioneering work in national income accounting — was puzzled by his finding that for a limited sample of industrially-advanced countries, inequality didn’t increase with growth. He was puzzled, in part, because ceteris paribus, “the cumulative effect of such inequality in savings would be the concentration of an increasing proportion of income-yielding assets in the hands of the upper groups.” This was the famous inverted “U”-shaped Kuznets curve. Subsequent research by Thomas Piketty has shown the curve to be an anomalous statistical artifact of the periodization and country selection.

    There are a multitude of factors that could explain the Kuznets curve anomaly and it is doubtful that knot could ever be untangled. But let me suggest a factor candidate. The period in which the Kuznets curve prevailed was the period in which the eight-hour day became standardized in the industrially-advanced countries. Instead of looking exclusively at the relationship between growth and inequality, might there not be greater insight gained from investigating the triad of growth, inequality and leisure?

    • Jeff L
      June 9, 2015 at 4:16 am

      I might be misunderstanding, but you seem to be touching on a key fallacy in Krugman’s article when you mention that growth should be causing income inequality. Indeed, a side effect of economic growth is increase of the delta in first unit cost vs marginal cost as an average across the economy, which is the primary ingredient in natural monopolies. One could say that part and parcel of economics growth is replacement of non-monopolizeable industries with monopolize-able industries and those countries that are successful at achieving this growth are precisely the ones that find a way to balance this natural tendency with effective re-balancing to counter this.

      From this perspective, a model in which growth creates inequality and then inequality slows growth is hard to distinguish from a “model” (it is actually not a real model unless it answers “how” questions) which states that inequality and growth are uncorrelated based on cross-sectional correlation studies.

      Occams razor would tend to point to the first actual model before it would point to throwing up your hands and saying, “I don’t know -let’s just guess that whatever the numbers are somehow defines the behavior”.

      • originalsandwichman
        June 9, 2015 at 6:21 pm

        “From this perspective, a model in which growth creates inequality and then inequality slows growth is hard to distinguish from a “model” (it is actually not a real model unless it answers “how” questions) which states that inequality and growth are uncorrelated based on cross-sectional correlation studies.”

        Good point. There is no reason to assume that causality can only go in one direction.

  2. June 9, 2015 at 2:09 am

    I realize I’m a stuck record who no longer reads one word from Krugman’s writing company;

    but,

    Growth leads directly to extinction and mass die off. Why do Krugman’s writers obsess about what effects different or more efficient extinction paths?

    • Jeff L
      June 9, 2015 at 4:03 am

      I think you are confusing economic growth and physical growth. If last year the average person could afford a 12 ounce smart phone and this year the average person can afford an 8 ounce smart phone that runs faster, then this is economic growth, but also physical shrinkage. Similarly if a huge industry forms for ecologically sound solar power, this is economic growth combined with ecological footprint shrinkage.

      To solve a problem effectively you must first start by defining it properly.

      In any case, rather than just calling the game foul, a better approach is to insure that those that would shrink our footprint and improve living conditions are working under a constructive incentives structure.

      • June 9, 2015 at 4:50 pm

        So you believe the growth system that is destroying the planet can be redirected in time to save it?

        Conversations on this topic invariably tend toward low watt bulbs and shrinking the environmental footprint of citizens brainwashed into consumption mode via stimulation of artificial wants for smart phones track them for spies and require corporate wars for resources and semi-slaves to produce them.

        The actual situation is, as just one example, the US government is the number one polluter on Earth and the US military is the number one US polluter. All this in service of economic growth for immortal corporate monsters destroying democracy and all life on Earth.

        You are hinting at the smaller footprint idea through economic growth using less resources and thus leading to a decrease of physical resource extraction and resulting destruction of life on Earth. The problem with the economists substitution game is that reality shows accelerating planetary destruction.

  3. Jeff L
    June 9, 2015 at 3:51 am

    Unfortunately the times has a 1500 character limit. Here is what I would have said there if it had fit.

    This post is exactly the sort of thing I am talking about when I say that Paul Krugman is a liberal person trapped in a conservative economists body. It is also an excellent illustration of the difference between “looking for correlation numbers” and “testing a model”.

    Short version:
    A flat correlation is consistent with inequality not being connected to growth. It is also consistent with growth causing large amounts of inequality and inequality causing a massive slowdown in growth to counterbalance the original causes of growth. Occam’s razor is only useful for deciding between descriptive models and as Sherlock would tell you is useless for making sense of unknown events occurring under improbable circumstances with atypical motivations. There are two types of data that are far better for studying this sort of economics than comparisons of world average performances to try to test performance: 1) Interventional studies – You take the same environment and use it as its own control by looking at growth under two different sets of political evironments, and 2) Exceptional case studies – If you want to know how fast humans can run and what the best ways of accomplishing this are, you study professional sprinters and use this to figure out what they are doing rather than comparing different groups of couch potatoes for weak correlations.

    Longer version.
    Before going into this, I want to bring an example in from the field of nutrition.

    http://nutritionfacts.org/video/the-saturated-fat-studies-set-up-to-fail/

    Long story short, there is a huge variation in people’s susceptibility to cholesterol combined with a homogeneity of the standard american diet (SAD). This means that even with a strong relationship between diet and cholesterol in an individual, variability across this population will overwhelm this.

    Enter the Meat and Milk associations, who take advantage of this variability to design misleading saturated fat studies, and you get a strong “data-backed” push for unhealthy, but very profitable recommendations.

    So, how does this relate to economics? The economic difference between economies at a given point arguably are even larger than the genetic difference between Americans with respect to cholesterol retention. If you are an economist trying to compare “home of Intel, Microsoft, Google, and Amazon” to “home of Ikea” and to compare both to “home of a large surplus of bars, restaurants, and motels”, then you had better have a pretty good economic model in place for making the comparison. Just as you can start with a cholesterol “story” and then design your tests specifically to test the story, rather than just looking at a simplistic hypothesis in a cross sectional study, you can create an economic growth story and find clever ways to test that. Just as you should be less interested in the fact that the difference in heart attack rates between cholesterol levels of 150 and 170 is small than in the fact that heart attack rates in third world countries with healthy diets and miniscule cholesterol rates is zero, you should be less interested in comparisons between dozens of different “couch potato” countries with high freedom indexes than in the 10% growth rates you saw in the US, 1933-1945 and the similar growth rates you saw in Japan and South Korea after WWII when companies like Toyota, Honda, Sony, Samsung, and Kia were being born during a strong period of state industrial policy.

    Comparing the way that thousands of couch potatoes run and then extrapolating to conclude that Usain Bolt is doing it wrong is shear lunacy. Can we say anything different about comparing dozens of 0-2% growth companies in an effort to discredit the policies of the New Deal, or the industrial policies of America in the 1800s when we became world powers?

  1. No trackbacks yet.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s