Breaking and reframing the equality-efficiency dichotomy

Two weeks ago I chronicled the use of racially charged language in the Republican primary. Much research suggests this language is part of a 45-year old GOP strategy to “racialize” poverty so as to delegitimize the very notion of government activism. This week, I’d like to reframe inequality — both falling middle class incomes and poverty rates that have been exacerbated by the Great Recession — as an urgent manner of untapped labor potential. By understanding poverty in this way, we can eschew the hackneyed battles over “personal responsibility” in favor of the economic logic of investment in underused labor power.

First, an outline of the opposition. As this year’s presidential election heats up, we are already hearing Republican contenders attack the “drain” America’s already fragile social safety net imposes on the economy. According to this line of thinking, public services aimed at reducing inequality create disincentives for hard work, drains funds from the private sector and distorts the market through superfluous taxation. But much recent research provides a different perspective: instead of a tension between inequality reduction measures and market efficiency, there seems rather to be a correlation. According to a study published last fall by the International Monetary Fund, income equality is more correlated with overall growth than commonly cited factors such as the strength of political institutions, health and education levels, the debt-to-GDP ratio and trade openness.

This is for several reasons. First, consider the inefficiencies of poverty. When unable to acquire tools of self-empowerment such as education, job-training and health care, individuals cannot maximize their economic contribution. Princeton economics professor Cecilia E. Rouse has measured the lost income and tax revenues of each year’s high school dropouts at $192 billion. That’s far from chump change. What it indicates is that large swaths of unskilled and unemployed workers in American inner cities represent a profound waste of human capital.

In one of the best documented regional cases, a 2004 study by the think tank Policy Bridge concerning the untapped potential of impoverished African-American males in Northeast Ohio concluded that “pervasive unemployment and underemployment chip away at the stability of cities, reducing tax revenues and economic growth and increasing the need for government support services. By reducing the purchasing power of families in the city, unemployment and underemployment threaten urban businesses.” Tapping into this potential labor growth is not merely a moral imperative in terms of improving millions of lives, but also a policy backed by strong economic logic.

Here is where the Republican language of irresponsibility obscures what can be collectively gained by concerted investment in America’s poor. Leading studies on the impact of such investment interestingly indicate that it offers more gain than Wall Street’s hottest stocks. Take for example a 2004 study by the Federal Reserve Bank of Cleveland, which evaluated the impact of preschool education, thought to be one of the most effective ways to fight long-term poverty. The study revealed that instituting two years of preschool education in Ohioan schools would cost approximately $480 million each year, but yield annual savings of roughly $780 million in everything from higher tax revenues to reduced crime. Leading Republican candidate Mitt Romney, who made millions in private equity at Bain Capital and told CNN this month he is “not concerned about the very poor” ought to try finding a stock that will yield $1.60 for every dollar invested.

Effective investments in human capital need not be limited to those below the poverty line. In fact, as leading scholar of comparative welfare states and Harvard professor Torben Iversen has argued at length, the Western countries whose middle classes have best weathered deindustrialization are those in which government-sponsored investment in human capital has figured most prominently. Take for example Germany, which through both a robust system of vocational skill training and generous unemployment compensation has incentivized heavy investment in skilled labor. Today, Germany alone amongst the former industrial West competes with Chinese manufacturing, pitting its comparative advantage in skilled labor against China’s low wages. The failure of American manufacturing policy is to find its niche between these comparative advantages.

Of course, no matter what the social science says, there are those ideologues that will always see government activism, in whatever form, as the first step down Hayak’s infamous “road to serfdom.” Nonetheless, the true danger is untamed levels of income inequality. Those who doubt this would do well to review the economic trends that preceded the Great Recession. Since 1975, the median income has been roughly stagnant, while the income of the top one percent has increased 11-fold. As wages stagnated, many American families increasingly relied on debt to maintain standards of living: between 1980 and the present, credit card debt has grown five times as fast as median income. This is not even to mention the once thriving second-mortgage market.

Because the wealthy have a higher propensity to save, their increased concentration of wealth incentivized ever riskier speculatory vehicles in capital-flush financial markets. When the unsustainable system of securitzed debt, derivatives and credit default swaps eventually led Wall St. off the track in fall 2008, already insufficient consumer demand was exacerbated by these long-term wage and debt trends. For more than three years, the economy has struggled to recover in the face of lackluster consumer demand and insufficient political will for adequate public stimulus.

In short, the Great Recession has thrown the inefficiency of income inequality into sharp relief. If the US is to speedily recover from the damage wrought by three years of stifled growth and build a sustainable economic future, longstanding resistance to government activism must give way to substantial investment in the skills, health and education of America’s middle and low-income workers.

Sam is a junior. You can reach him at ssussma1@swarthmore.edu.

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