Now a ‘wave theory’ of inequality


Adam Smith, Karl Marx, John Maynard Keynes, please make way. The current debate in the 21st century among economists is not about growth, capital accumulation or business cycles. Current economic theory emphasizes increasing inequality in the world.

French economist Thomas Piketty burst into the world of economic theory in 2014 with his magnum opus, Capital in the 21st century. By analyzing data from 20 countries over the past three centuries, Piketty has shown that we have not altered the deep structures of capital and inequality as much as we thought in the optimistic decades following World War II. .

Fundamental principle

Returns on capital tend to exceed the rate of economic growth. It threatens to generate extreme inequalities that arouse discontent and undermine democratic values.

Analyzing the forces of convergence and divergence, he showed the rise in income inequality in the United States between 1910 and 2010. He attempted to show that the rate of return on capital remains significantly higher than the rate of growth for an extended period. leading to a risk of divergence in the distribution of wealth.

He wrote the fundamental principle of inequality as r> g, where r represents the average rate of return on capital including profits, dividends, interest, rents and other income from capital, expressed as a percentage of its total value , and g represents the rate of growth of the economy, that is, the annual increase in income or production.

The Kuznets curve

The president of the American Economic Association, Simon Kuznets, proposed a theory in 1955 trying to show that inequality can be expected to follow a “bell curve”. It is expected to increase first and then decrease during industrialization and economic development.

Inequalities automatically decrease as more of the population enjoys the fruits of economic growth.

Thomas Piketty’s model showed that these assumptions were historically wrong. According to him, the more perfect the capital market, the more likely to be> g.

Piketty has shown that inequality, which was declining between 1930 and 1970, rose sharply to the high levels of the industrial revolution. And now comes Branco Milanovic from the City University of New York.

Between Branco Milanovic

In his latest book, Global Inequalities – A New Approach in the Age of Globalization, economist Branco Milanovic took over both Piketty and Kuznets. Kuznets had argued that inequalities are low at low levels of development, increase during industrialization, and decrease when countries reach economic maturity.

According to Kuznets, high inequality is the temporary side effect of the development process.

Piketty has suggested that high levels of inequality are the natural state of modern economies. Milanovic explains that both are wrong.

According to him, inequalities tend to circulate in cycles, which he describes as “Kuznets waves”. With industrialization, the wave of Kuznets changed: towards technology, openness and politics (TOP as he abbreviated it).

As workers have been reallocated from farms to factories, from rural to urban areas, average income and inequality have increased. Technological progress and trade have worked together to squeeze workers. The declining economic power of workers is compounded by the loss of political power as the very rich use their fortunes to influence candidates and elections (crony capitalism?).

The prognosis is that global inequalities will continue to increase. Rich economies are stagnating today as they struggle to find places to earn good returns on their wealth piles.

He predicts that emerging economies will likely continue on their way. Rising inequalities trigger compensatory social dislocations. Can governments avoid a crisis of high inequalities?

The Indian context

We all know that the number of millionaires and billionaires is increasing year by year. Has fiscal policy failed to reduce levels of inequality? If yes, why?

1. Piketty estimates that the GDP tax ratio of about 10 to 15 percent of national income is the main reason. India has had great difficulty breaking out of a balance based on a low level of taxation.

2. Farm income is not taxed. There have been 2,746 cases showing farming income of ₹ 1 crore and above in the past seven years.

Of this number, 1,080 cases were from the 2011-2012 to 2013-2014 assessment years. (see Activity area of March 15, 2016.)

3. The tax on the super rich is a smart bite. Only an additional 15% is taken on income above ₹ 1 crore.

Why not a separate higher tax for the super rich instead of a surtax?

4. The 10 percent tax on dividends over 10 lakh is a mirage. It should have been at least 25%. Alternatively, the profits earmarked for the dividend should be deducted from corporate income before tax is collected.

This will ensure parity between share capital in the form of equity and interest bearing borrowed capital.

5. The voluntary income declaration system aims to help the super rich.

6. The mobilization of additional resources is concentrated on indirect taxes with a series of reliefs in the area of ​​direct taxes.

7. The tax on services is high. At a time when Western countries like Canada are considering reducing VAT, we in India are looking for ways to increase indirect tax rates while reducing direct tax rates.

Are we ever going to move towards an egalitarian society that will reduce income and wealth inequalities?

Woh subah kabhi tho aayegi… (that day will surely dawn).

The writer was Chief Income Tax Commissioner and a former member of the Income Tax Appeal Tribunal

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