We must support policies which tame poverty and unemployment even if they increase inequality.

Many people maintain that inequality can always be reduced by making taxes more progressive. But raising taxes for high income earners can result in fewer jobs and more poverty. 

Reducing poverty while broadly improving living standards requires increasing productivity. Placing an ever greater share of the tax burden on those who are most productive discourages the investments which increase productivity and this, ultimately, blocks growth.

Aggressively taxing the sky-high incomes of top athletes and celebrities won’t provide a significant boost in government revenues nor, however, will it damage the economy. Excessively taxing those who manage companies, or invest in them, will initially increase tax revenues at the expense of lowering long-term growth.

High-growth countries tend to invest between 25% to 35% of their GDP each year in fixed investments to replace and expand their capital stock. If this is done well, there will be more jobs and living standards should steadily improve. South African capital spending last year was just over 14% and our investments in people are similarly insufficient.

Just as maintaining public health requires a large number of highly trained medical professionals with diverse skills, investing in and managing the productive resources of a modern economy requires many business professionals and policy makers with diverse abilities that are not easily acquired. Whereas the Hippocratic oath instructs medical professionals ‘to do no harm’, a society’s economic well-being relies on investors pursuing adequate returns on investment.

Society’s best interests

As the pace of change increases more rapidly, it becomes all the more important that a society’s best interests are advanced by business professionals and investors being motivated to seek attractive returns on the assets they manage. Otherwise, productivity and living standards will suffer. The best system yet devised to accomplish this is to respect property rights and have managers share in the value they create.

That rising inequality will often accompany rising living standards diverts attention from the broader picture. Today’s middle class Europeans have higher living standards than their pre-industrial nobles. In many important ways this is even true of today’s low-income earners. Just consider the advantages of modern dentistry or the volume of free online content.

Our ruling elites want lower-income voters to believe that it is only fair that those better off pay almost all the taxes and that nearly a majority of South Africans receive government subsidies. This reflects the combining of rampant patronage with policy makers dismissive of economic basics, such as the importance of improving productivity. The net effect is that durable upliftment paths become increasingly rare.

Prior to industrial-led economic progress helping to support democratic structures, inequality was entrenched through land ownership. As wars and famines were common, survival pressures favoured societies adept at specialisation of labour, particularly managing the main productive asset, farm land. Seasonal weather variations could provoke crop failures and some people were much better than most at managing farms. 

Across farms and beyond

Survival pressures then eased as 20th century scientific advances doubled life expectancy in many countries alongside scientific advances and industrialisation surging productivity across farms and beyond. Political economics splintered between Marxist charges of oppression versus capitalistic democracies advocating for values such as individualism, freedom and property rights. 

The last century demonstrated on a grand scale that states are vastly inferior at managing productive resources compared to the private sector. Some societies have been hugely successful at plunging poverty, unemployment or both. Only once both have been pummelled can trying to minimise inequality be justified. South Africa is not Denmark.

Equality of legal rights is highly desirable whereas pursuing equality of incomes should be a much lower priority as it involves abundant tradeoffs such as lower growth. Both the US and SA have highly elevated inequality but the structure of the US economy leads to very low unemployment despite that country exporting many millions of jobs − via its running trade deficits in the vicinity of $800 billion per year − and its taking in millions of immigrants annually.

Exceedingly productive

About twenty percent of US workers are exceedingly productive and very well paid. This includes people who are very good at managing productive resources. While nobles tended to be better than peasants at preventing failed harvests leading to famines, feudalism was unjust in ways which greatly limited upliftment prospects for those least well off. Industrialisation presented new challenges but it greatly benefited workers and consumers through steadily increasing worker productivity. This required investing in both equipment and workers. 

Today’s top resource managers run cutting-edge companies whose biggest risk is their failing to rapidly innovate effectively. Many such people migrate to the US, from places as diverse as South Africa and India, as its financial ecosystem errs on the side of supporting commercially robust innovation. That ecosystem expands productivity through rewarding innovation often using shares which, unlike land or mineral deposits, have no inherent value as they don’t even exist in a physical way. 

This ecosystem is quite democratic in that shares may prove worthless or extremely valuable depending on interactive decisions taken by managers and large numbers of consumers. Such economic dynamism also supports high growth and therefore much capacity to assist those least well off. 

Fundamentally different

While this approach to economic development does lead to high inequality, it is fundamentally different from the type of oppressive inequality which inspired Marxism. Exploitation through monopolising limited quantities of land, hydrocarbons and minerals continues to decline. Opportunities to become highly productive continue to expand.

Much of our political discourse is mischievously framed to exploit inequality. This distracts from the core problem which is that our economy is not structured to advance productivity consistent with the opportunities and challenges which today’s highly globalised economy creates.

We need policies which reduce unemployment and poverty and this requires investors supporting managers who increase competitiveness and productivity. Blaming business people and punishing them through excessive taxation is counterproductive.

[Image: Arek Socha from Pixabay]

The views of the writer are not necessarily the views of the Daily Friend or the IRR.

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For 20 years, Shawn Hagedorn has been regularly writing articles in leading SA publications, focusing primarily on economic development. For over two years, he wrote a biweekly column titled “Myths and Misunderstandings” without ever lacking subject material. Visit shawn-hagedorn.com/, and follow him on Twitter @shawnhagedorn