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In a world in which 1% of the population possesses approximately 50% of the world’s total wealth this is a serious dispute, Like all inequality, Economic inequality also has the energy to be a reason for social disorder, a good example is The Arab Spring of December 2010 and the Occupy Wall Street movement in 2011 are a few of the events generated by upward economic inequality. No one can get the benefit of highly social unrest, or it’s in no one’s interest to have a social disorder and therefore it’s important to understand the effects of economic inequality in our economy.
Economic inequality is formed of two factors: wealth inequality and income inequality. Wealth of a person can be defined as the total market value of all the assets owned. Assets can, for example, be composed of houses, cars, businesses, savings and investments, Wealth and income inequality do overlap somewhat, but by examining them separately allows for a perspective into the actual causes of the disparity. Examining wealth is especially important for its relevance in inheritance, and the role it plays in accumulating wealth each generation. We will first examine income inequality.
Income Inequality
Piketty (2014 p. 242-244) Income inequality is defined by Thomas Piketty in his book “Capital in the Twenty-First Century” ‘the result of adding up these two components: inequality of income from labor and inequality of income from capital or Wages and Profit ‘ in a society the income inequality can cause from several alterations: High equality wages and low equality profit, low equality wages and high equality profit or even low equality wages and low equality profit but on the other hand, Capital income is much less equal. Investments come from savings and borrowing, people with huge savings or other property can more easily borrow more without suffering payment of interest but Poor and even average income households must carefully plan their investments and cannot borrow as big amounts as high income households so, The rich can invest more often a bigger amounts, creating the leverage effect on profit.
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Income inequality can also be influenced by the size of the investments. Higher sum investments make it easier to leverage the profit and thus create a higher return on investment. Wealthy people also do not need to have the same level of expertise and time to manage their investments as they can hire professionals to do it for them. (Piketty 2014 p.243).
To compare income inequality Piketty studied the financial records of the world and identified certain countries during certain time periods to serve as comparison points for low, medium and high labor and capital income inequality. This was not meant for direct comparison, but to provide perspective for the values. Rather than put idealistic values to what values a highly equal society should have for income division, he used historical values from real countries to give a more realistic measure of how a high equal society divided income. For low inequality measure he used the Scandinavian countries during the 1970-1980’s, for middle inequality he used France and Germany in 2010, and for high inequality he used the US in 2010. First let’s look at the labor income division from these countries.
Piketty’s research shows that the wages for the top 10 % earners in low wage income inequality countries account for 20 % of total wages, in the moderate wage inequality countries for 25 %, and in high wage inequality countries for 35 %. The wage income shares for the lower 50 % of population are 35 %, 30 %, and 25 % respectively. (Piketty 2014 p. 247)
Inequality in regards to labour income is generally smaller than in capital income, but this does not mean it is not significant since wages greatly affect consumption, a large part of the GDP. The rich do not consume much more as their income increases as their basic needs are already met, they either save it or invest it themselves. New investments are good for the economy, but consumption is often even more important. Cutting the wages of poor and middle income to bolster high income would mean cutting consump-tion in favour of investments, but investments often need a steady consumption to be profitable.
Forcing the poor to borrow more and more to meet their basic needs, such as housing, is not sustainable and can lead to a financial crisis like what happened in sub-prime crisis in the US. Only in the US the lower 50 % earn less than the top 10 %, but for the richest people, total income is based more on capital income than labour. It is notable that the shares of high income top 10 % and low income 50 % are almost re-versed between high and low inequality countries. National policy clearly has a role in the development, but to get total income we also need to consider capital income. (Piketty 2014 p. 255-256)
Capital income is much less equal, but this is hardly surprising. Investments come from savings and borrowing, those with a lot of savings or other property can more easily borrow more without suffering crippling interest payments. Poor and even average in-come households must carefully plan their investments and cannot borrow as big amounts as high income households. The rich can therefore invest more often and in bigger amounts, creating the leverage effect on profit mentioned previously. (Piketty 2014 p. 257)
Piketty’s observations regarding capital income division for the richest 10 % in the same countries during the same time periods as in the wage income observation for low, me-dium and high inequality are 50 %, 60 % and 70 % respectively. The lower 50 % capital income have shares of 10 %, 5 % and 5 % respectively (Piketty 2014 p. 248)
The contrast to the labour income division is clear. The poorer population generally have very little, if any at all, capital income. The importance of capital income in wealth inequality is obvious, as capital is often much more protected from the effects of inflation and recession. Stock prices may fall in recession, but alternative investments are readily available to the attentive investor. Gold and currencies can also serve as alternative investments options to help mitigate the effects of inflation and recession.
Low in-come households on other hand often cannot move their minimal savings to these options as easily, since they need them to fund their daily needs. Housing is the favourite investment of the middle-class and the well-to-do, but in the very top financial and business assets dominate. In the top 9 % for capital income, real estate accounts for nearly 50 % of total capital income, but in the top 1 % real estate has been nearly totally replaced by financial and business assets. Shares of stocks and partnerships make up almost of all the very largest fortunes. (Piketty 2014 p. 260)
Total income shares added up to are thus 25 %, 35 % and 50 % for the highest 10 % and 30 %, 25 % and 20 % for the lower 50 %. (Piketty 2014 p. 249) Thus in the comparison only in the Scandinavian countries the higher 10 % earned less than the lower 50 % in total, and even this number represents the Scandinavian countries in 1970-1980’s. Since then inequality has increased.
Conclusion
Let’s change perspective and examine the issue from a purely wealth inequality perspective. The Credit Suisse has released their Global Wealth Report of 2014 in October, which focused on wealth inequality in its special topic. Their researched covered the development of wealth inequality from 2000 to 2014. This time period is interesting as it allows for an insight on the effect that the Financial Crisis had. (Davies et al 2014 p. 28)
