“A bit of inequality is good; lots of inequality is bad”

The Occupy Wall Street movement, the uproar around Thomas Piketty’s book “Capital in the Twenty-First century” and other initiatives have brought up questions that turn around one single topic: Inequality. In an exclusive interview with Allianz.com, Michael Heise, Allianz Chief Economist and Mohamed A. El-Erian, Chief Economic Advisor of Allianz, try to find answers to these questions.

 

Do we really have a worldwide inequality problem?

 

Michael Heise: No, on a global scale we fortunately do see a reduction of inequality. What we call the middle wealth class grew by 500 million people over the past 13 years, mainly in the Asian markets. According to the United Nations these are people with gross financial assets from 5,800 to 33,000 US dollars. This rise in prosperity has to be taken into consideration when we discuss inequality.

 

Mohamed El-Erian: We have an interesting contrast here. Millions and millions of people have moved up the ladder and out of poverty in many developing countries, and most notably in China. So, on a global scale, there has been a reduction in inequality due mainly to cross-country convergence from the lower end of the world income ladder. That is a good thing. But if you look at inequality within countries, you get a different picture. Whether in the US, Brazil or China: there has been a significant increase in both income and wealth inequality, and so much so that it is now affecting access to equal opportunities. The minute you start talking about opportunities you start making it a much deeper problem and harder to solve. Globally, inequality has come down, but nationally it has gone up to worrisome levels.

 

Why does society have to face the problem?

 

Heise: It has to address the problem because if we don’t, social cohesion is at risk. That is a danger for industrialized and developing countries alike. In recent times we have seen social upheavals and conflicts where poverty played a major role.

 

El-Erian: The topic has evolved from being a moral and ethical issue to becoming also political and a threat to economic wellbeing. Meanwhile, the drivers of inequality have expanded to include cyclical as well as structural and secular contributors. And the outcome has been attention-grapping. According to recent data from the Federal Reserve Bank, all of the incremental income gains in the United States over the last few years have gone to the top three percent of the population.

“"rg". This is no law of nature. I would object to Piketty’s theory.” Michael Heise, Allianz Chief Economist
“"r>g". This is no law of nature. I would object to Piketty’s theory.” Michael Heise, Allianz Chief Economist

How does the topic of inequality affect an organization such as Allianz?

 

El-Erian: It does because of what we do in the Group to serve our clients. We help people manage their insurance needs, enhance their savings and safeguard their retirement. We also provide them with information about the world they live in and how it impacts their future prospects and that of their families. As an illustration, the Allianz Global Wealth Report contributes to a better understanding of what is happening to this aspect of inequality. The bottom line is simple: In serving clients well, we need to understand their evolving circumstances and provide them with dynamic responses, relevant information, and timely thought-leadership. This is particularly important in what still is a very fluid global economy.

 

Heise: Well, it certainly affects us. Inequality is one of the reasons for what we call the “savings glut” which curbs economic growth. Aside from growth inequality also directly affects our business. We don’t just want to cater for the happy few, those with high incomes. We have products for the mass. This is why we propose to lower taxes or to support savings for the lower incomes in societies like Germany. They should become able to save parts of their incomes and preserve them for later consumption, which is often not possible today.

 

Occupy Wall Street, Thomas Piketty’s “Capital in the Twenty-First century”…. There are many discussions going on about what the current situation is like on a global level. In your opinion, which model do we have to consider?

 

Heise: I don’t think there is one world formula that leads to a redistribution of income from labor to capital. The situation is very different in different countries. Piketty puts up the formula of r>g, which means the rate of interest (r) is larger than economic growth (g). This isn’t a law of nature and I would object to Piketty's theory. At present the situation is quite different. Interest rates are very low, much lower than economic growth. Nonetheless, Piketty brings up a lot of good questions.

 

El-Erian: Would we have ever predicted that such a big tome written by a relatively little-known French economist at the time would become a huge bestseller in the US? There is a very important message in this: Inequality has become an issue of broad interest to society. Let me give you another example if I may. I was at the annual meeting of the IMF (International Monetary Fund) and the World Bank in Washington back in October. Some of the seminars there are organized by the official sector and some by private institutions such as the Institute of International Finance (IIF) that brings together bankers. At many of these seminars, inequality was on the agenda, both formally and informally. People were interested in discussing and understanding this important topic. A bit of inequality is good as it creates incentives for hard work and rewards entrepreneurship. Lots of inequality is bad, disenfranchises segments of society and erodes the social fabric. And when it comes to solutions, there is a very wide range of approaches but no silver bullet that fits all. At some point, the society may start to self-correct but you also need appropriate redistribution measures. With a complicated and critical topic like this, the first element is recognition, the second is understanding and the third would be the design and implementation of solutions. Concerning inequality, most countries are somewhere between one and two.

 

Part two of the interview will be published on January 20 at 10 a.m. CET.

“A bit of inequality is good as it creates incentives for hard work and rewards entrepreneurship. Lots of inequality is bad, disenfranchises segments of society and erodes the social fabric.” Mohamed A. El-Erian, Chief Economic Advisor of Allianz
“A bit of inequality is good as it creates incentives for hard work and rewards entrepreneurship. Lots of inequality is bad, disenfranchises segments of society and erodes the social fabric.” Mohamed A. El-Erian, Chief Economic Advisor of Allianz
  • The concentration of wealth and associated inequality increased considerably in the 20th century

  • His conclusion: the return on invested capital is growing at a faster rate than economic output as a whole (“R>G” formula). This means that highly concentrated wealth hinders the economy as a whole, posing a risk to the basic democratic order.

  • This is why Piketty is calling for higher tax on wealth and high incomes, i.e. a global redistribution policy

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