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Mind the gap?

By Andrew Leigh - posted Tuesday, 9 March 2010

Australian economic policymakers have a zippy self-confidence these days. Having dodged the 1997 Asian financial crisis, avoided the 2001 US tech-wreck, and emerged largely unscathed from the global financial crisis, our economic growth seems remarkably robust. Adjusting for buying power, Australian incomes per person are 70 per cent higher than they were in 1980.

Averages are handy, but can sometimes conceal more than they reveal (every time James Packer enters a bar, the average drinker becomes a millionaire). Since 1980, the top 10 per cent of Australians have seen their incomes more than double, while the bottom 10 per cent have experienced a 55 per cent increase. Over the past 30 years, Australia has had a two-speed economy: with the gains from growth going disproportionately to the rich.

Most workers have enjoyed a pay rise, but at the top, earnings are shooting up spectacularly. Due to technological change, internationally mobile labour markets, and the decline of unions, Australian inequality is considerably higher than a generation ago.


Should we care about the earnings gap between city professionals and the men and women who clean their offices? Or is it enough to know that both groups are steadily getting richer?

The straightforward answer to this question is that policymakers ought to worry about inequality if it offends the typical person’s sense of justice. We all have different feelings about how much inequality is tolerable, but most people have a visceral sense that at a certain point, the income gap can grow too wide.

But over recent years, some scholars have argued that there are other arguments in favour of equality too. Among the contentions sometimes made are that inequality is bad for your health, increases crime, and slows the national growth rate.

The first wave of studies that looked at these issues compared results across countries, at a single point in time. In the case of health, it turns out that the worst health outcomes are found in the US (the most unequal country in the developed world), while some of the best health outcomes are found in the famously equal nations of Scandinavia.

But over time, researchers began to point out that these results might be biased by other factors. Perhaps the reason that Americans die younger than Norwegians is something to do with the two countries’ racial mix, political systems, or natural resources. So in a second wave of studies, researchers took a different tack. Instead of taking a snapshot in time, they examined how changes in inequality affected changes in health. Do big rises in inequality make you sick?

Answering the question this way, the case against inequality is considerably weaker. For the most part, studies that have looked at changes in inequality find no evidence that they are associated with increases in mortality. In a review chapter (PDF 218KB) that I wrote with Christopher Jencks and Tim Smeeding, we concluded that “the relationship between inequality and health is either small or inconsistent”.


In the case of crime, the evidence against inequality is a smidgin stronger. But even here, high-quality studies point in differing directions. It is possible that widening the income gap may increase violent crime a little, but the evidence is fragile.

Perhaps inequality is bad for growth? If anything, the evidence seems to point in the opposite direction. In the post-war era, Dan Andrews, Christopher Jencks and I find (PDF 418KB) that rises in inequality have been associated with small increases in the growth rate. Yet the magnitude is small - definitely a case of trickle-down rather than flow-through.

Those who believe in the ideal of a more equal Australia may be disappointed to learn that the “instrumental” case against inequality is so weak. But these were always the flimsiest arguments in favour of egalitarianism. A person who believes that the free market outcome is the morally just result is unlikely to have ever been swayed by the effect of inequality on health, crime or growth.

Dropping the instrumental arguments brings the debate about inequality back to one about justice. The strongest case in favour of more progressive school spending or reinstating inheritance taxes is a moral one: that such reforms accord with Australians’ fundamental beliefs about fairness. Politicians who want less inequality will be on firmer ground if they discard the instrumental arguments, and start talking ethics.

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First published in the Australian Financial Review on March 2, 2010.

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About the Author

Andrew Leigh is the member for Fraser (ACT). Prior to his election in 2010, he was a professor in the Research School of Economics at the Australian National University, and has previously worked as associate to Justice Michael Kirby of the High Court of Australia, a lawyer for Clifford Chance (London), and a researcher for the Progressive Policy Institute (Washington DC). He holds a PhD from Harvard University and has published three books and over 50 journal articles. His books include Disconnected (2010), Battlers and Billionaires (2013) and The Economics of Just About Everything (2014).

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