The rich are getting richer due to market forces—and to very human choices.
By Daniel Gross
NEWSWEEK
Updated: 1:48 PM ET Nov 3, 2007
Tsang Wing-On is perhaps the least threatening criminal to disturb the public peace in Hong Kong. In January, the 78-year-old entered a convenience store brandishing a fruit knife and told the clerk to call the police. When officers arrived, Tsang promptly surrendered and confessed. The welfare recipient, whose $460 monthly payments had been cut off, committed the "crime" because he believed a guilty plea and the ensuing jail sentence would allow him to obtain things he could no longer afford: regular meals and a warm place to sleep.
Tsang isn't alone. One in three elderly Hong Kongers lives in poverty. In the 10 years since Hong Kong's return to Chinese sovereignty, official statistics show that the number of "working poor"—defined as those who earn less than half the median income—has nearly doubled. This, in a city that boasts a $27,000 per capita GDP, a booming stock market, a covey of billionaires and an economy that has grown by about 8 percent annually over the past three years. "Look at all the old people collecting cardboard from garbage dumps for recycling," says John Sayer, head of Oxfam Hong Kong. "It's scandalous."
Tsang's plight underscores an increasingly worrisome global paradox. In the sixth year of synchronous growth, the global economic pie has expanded at an unprecedented rate. But the rich are eating most of the new slices. What's more, they're using their power to ensure the baker keeps delivering the pies to their gilt-edged doors before venturing into poorer neighborhoods. The stunning growth of China and India, as well as the still-steady growth of the G7 nations, isn't lifting all boats equally. Around the globe, from the most developed economies (like the United States' and Hong Kong's) to those rapidly catching up, income inequality is on the rise. "People are still transitioning out of poverty," says Thomas Piketty, a professor at the Paris School of Economics and coeditor of a new book on income inequality. The proportion of the world's population living on less than $2 a day fell from 67 percent in 1981 to 47 percent in 2004, according to the World Bank (though there is a record number of total poor in Asia—some 1.9 billion, or 60 percent of the population). There are also more wealthy people than ever before: the number of high-net-worth individuals worldwide (those with more than $1 million in assets, excluding their primary residence) rose 8.3 percent globally in 2006 to 9.5 million, according to Capgemini's World Wealth Report. Yet the middle class within nations is shrinking. "In spite of the massive reduction of inequality between countries, there has been a significant rise of within-country inequality," says Piketty.
The rich-poor divide is most striking in the places that have embraced turbocapitalism most wholeheartedly—namely, the United States and China. China's rich-poor divide now resembles Latin America's, according to an Asian Development Bank study released in August. The country's Gini coefficient—a ratio income for the poorest and richest sectors of society that ranges from zero to 1, with 1 representing the highest degree of inequality—soared from 0.41 in 1993 to 0.47 in 2004 and is now thought to be above 0.5 (in the United States, the coefficient is 0.46). But the growing wealth gap is not solely a function of the uncontrollable forces of globalization and technological change, which are most often blamed for it. Inequity, it turns out, is at least in part controllable, and policy decisions made by increasingly right-leaning, market-friendly governments have exacerbated it in recent years. The list of global billionaires is now filled with resource magnates who were effectively anointed by the state. Less progressive tax regimes, privatization policies that have funneled public resources into private hands and a lack of basic protections for labor have all helped tilt the balance in favor of the wealthy in emerging markets like China and Russia. It is no accident that while income gaps are growing all over the world, they are far less wide in India (due to lingering trade protections) and Germany (due to welfare benefits) than in the United States and China.
Orthodox economics holds that rising income inequality is an unavoidable and not entirely unwelcome byproduct of globalization and trade. But led by Japan, Asia's miracle economies took flight after World War II while narrowing their respective rich-poor divides. Meanwhile, the United States saw a compression of incomes amid relatively consistent growth —dubbed the Great Moderation—thanks to an entente between corporate America and labor, and government policies that provided safety nets for the working class.
Yet over the past decade, a variety of forces have changed the growth dynamic. The integration of China and India into the global trading system effectively added 2 billion workers to the world's labor force, thus placing downward pressure on the real wages paid workers. Intensifying competition, rapid adoption of new technologies and freer capital flows are "diminishing their bargaining power," says the Asian Development Bank's chief economist, Ifzal Ali. In this increasingly interconnected system, the returns accruing to those with skills and education have risen. "If you are well educated and well connected, the global economy gives you an ever-greater market for your insight," says Robert Reich, the former U.S. Labor secretary and author of "Supercapitalism." "The top 10 or 20 percent is pulling away from the rest because of education, job skills and connections."
Those who succeed on this new global stage are rewarded today like never before. Zhang Yin, who founded Nine Dragons Paper in 1995, has turned a small scrap-paper operation into a multibillion-dollar fortune, becoming the richest woman in China in less than a dozen years. Reliance Industries, the Indian petrochemical giant controlled by Mukesh Ambani, has a cash hoard of $28 billion. "I do think that the ability to operate at scale, whether it's an individual star or companies that have a global reach, is part of the inequality story," says Jeffrey Sachs, director of Columbia University's Earth Institute. The piling up of immense fortunes in still-poor countries shows that what Cornell economist Robert Frank has dubbed the "winner-take-all society" has gone global. "The kinds of forces that create winner-take-all markets have just gotten stronger very quickly in the last 30 years" due to globalization, he says.
But globalization isn't the only factor at work. The rising tide may be lifting the yachts disproportionately, and the wind may be filling their sails. But the big ships are also being propelled by powerful motors in the form of policymakers. When it comes to issues like free trade, the taxation of wealth, the protection of workers and the necessity of redistribution and social welfare, the center has moved to the right —in the United States and globally. "The contours of the debate have changed significantly, and they all revolve around working with markets rather than against the markets," said Dani Rodrik, professor of international political economy at Harvard and author of "One Economics, Many Recipes: Globalization, Institutions, and Economic Growth."
Rodrik and several other scholars suggest that changing laws, norms and institutions have played an important role in spurring inequality. "It's clear that institutions governing CEO pay and stock options matter a great deal," says Piketty. Consider that in the United States in 2005, the average compensation of the chief executive officer of an S&P 500 company was 411 times that of the average worker, up from 107 times in 1990.
Historically, progressive-tax and social-welfare policies have helped to mitigate such inequality, acting as shock absorbers. But in this decade, such policies have acted as an accelerant. "Rather than using the tools that we have to counteract the forces, moneyed interests really grabbed U.S. politics in the last 20 years and exacerbated these trends," says Sachs. "And so the tax structure became less fair, and the public-expenditure side became even less fair." In the past several years, the Bush administration and the Republican Congress slashed marginal income-tax rates sharply and cut taxes on capital gains, dividends and estates—all of which have massively benefited the already wealthy. Observers were surprised—but hardly shocked—to learn that a loophole allows hedge-fund and private-equity managers to pay a 15 percent capital-gains tax rate on the so-called carried interest, the fees they earn for managing other people's money.
Elsewhere, tax regimes are similarly friendly to concentrations of wealth. India has a progressive-tax system: 30 percent on incomes between about $6,250 to $25,000, with a 10 percent surcharge on amounts above $25,000. But only a small portion of the population files annual returns, and the country has few strong measures to punish tax evaders. On paper, China's income-tax rates are fairly high by Asian standards, and progressive. But the Chinese pay a staggering number of fees—charges tacked on to the price of goods and services—that are regressive. In addition, income-tax evasion in China occurs on a massive scale, while China's 20 percent capital-gains tax and dividends tax are only selectively enforced.
Wealth begets wealth, which underscores the role that the loosening of restrictions on international capital flows has played in increasing inequity. As the IMF recently noted, free trade (the most frequently cited cause of inequality) has, without question, decreased the rich-poor divide at a global level. Unrestricted global capital flows, on the other hand, have increased it, both by boosting the fortunes of individuals invested in global markets and by increasing the pace at which globalization and technological change (which often displaces lower-paid workers) can happen. "The rise in asset prices and asset returns is an economic force that pushes the world of increasing inequality," says Piketty. Bruce Holley, a partner in the New York office of the Boston Consulting Group, notes that the concentration of wealth is heightened in part because wealthy people are earning more from their jobs and more from their investments. "The higher you go up the asset scale, the faster the rate at which it grows," he said. "Wealthy people today have access to asset classes like hedge funds and private-equity funds that can generate higher returns."
At the national level, state-sanctioned privatizations have repeatedly pushed valuable state assets into the hands of well-connected individuals, allowing them to create huge fortunes overnight. "Because of the massively corrupt way that the natural-resource sector was privatized in Russia, some early huge gains were reaped by very small, politically powerful groups within the society," says Sachs. Russian oligarchs like Roman Abramovich have parlayed investments in formerly public resource companies into other assets, like the British football team Chelsea FC. In China, transfers of state land and other assets beginning in the 1980s and accelerating in the 1990s has resulted in a slew of politically connected insiders with large ownership stakes in key enterprises. One of the wealthiest men in the world is now Mexico's Carlos Slim, who accumulated his fortune thanks in large part to government protection of the monopoly status of Telmex, his telecommunications conglomerate. In South Africa, the post-apartheid Black Economic Empowerment efforts have funneled assets into the hands of a privileged few. Cyril Ramaphosa, the former African National Congress activist and committed socialist, has been reborn as a private-equity magnate.
As friendly as public policy has have been to the wealthy, public policy in many economies has been distinctly unfriendly to the poor. Aneel Karnani, an economist at the University of Michigan, notes the widespread "self-applause" in India over the booming private sector, with the increased penetration of consumer items like cell phones, but is critical of the nation's failure to provide basic health and a social infrastructure to the masses of citizens. "The representative image of contemporary India is not a cell phone, but rather defecating in public," he says. "In Mumbai, the business capital of India, about 50 percent of the people defecate in the open."
According to the World Wealth Report, the number of people with assets of at least $1 million in India rose by 20.5 percent last year, to 100,015. And the wealthy have every service at their disposal—from world-class hospitals to luxury retailing. But for the majority of the country's 1.1 billion people, most of them in the countryside, the new prosperity remains a mirage, and basic services are a dream.
A recent study conducted at New Delhi's state-run All India Institute of Medical Sciences found that 76 percent of women from mainly well-off backgrounds suffer from obesity. Meanwhile, a World Bank survey says that about 45 percent of Indian children under 5 are malnourished, and the government hasn't devoted sufficient public resources to begin making a dent. Mani Shankar Aiyar, India's minister of Youth Affairs & Sports, noted earlier this year at a meeting of industrialists, "India's system of governance is such that an allocation of 6.5 billion rupees [about $165 million] for village development is considered wasteful, but 70 billion rupees [$1.75 billion] for the Commonwealth Games is considered vital."
Around the world, capital is strong and labor is weak. Increasingly, developing economies—many of them formerly socialist countries allegedly run by workers' parties—resemble the America of the 1890s, with no powerful unions, few worker-safety laws, and little or no enforcement of minimum-wage laws. India's National Commission for Enterprises in the Unorganised Sector notes that 394.9 million workers, or 86 percent of India's working population, are not unionized. Nearly 80 percent of these workers live on less than 20 rupees (about 50 cents) a day. In China, the wage share of GDP fell from 53 to 41 percent from 1998 to 2005, according to a study by economists Louis Kuijs and He Jianwu. Officially, the typical worker earned $240 per month in 2006. Yet Standard Chartered bank concluded that official surveys overstate income by centering on a privileged minority that includes state enterprise workers, civil servants and professionals—segments that employ just a third of China's 330 million-strong urban work force, many of whom are migrants from the countryside who receive low pay and no benefits, and who enjoy little job security. Factoring in low-end workers, the bank estimates the average urban salary is $160 a month, and is rising at 9 to 10 percent a year, or about the annual economic growth rate. Meanwhile, the rich are making exponential gains on their vast fortunes. "The share of the gains of China's growth taken home by workers is falling; those who get rich by putting their own (or borrowed) capital to work are winning a bigger share of the pie," writes Stephen Green, a Shanghaibased economist with Standard Chartered.
Even in nations that have celebrated egalitarianism and social benefits, the safety nets are fraying.The number of Japanese applying for welfare payments has reached record highs. Today fully one third of Japan's workers are part-timers, most of them young, who usually work on temporary contracts that offer little in the way of health care or pension benefits. In western Germany, in the wake of the Hartz IV labor reforms, which slashed payments to the long-term unemployed, soup kitchens are reappearing.
Of course, the idea behind labor reform in historically inflexible economies like Japan or Germany or France is to bolster growth and create more and better jobs over the longer term. But in the short term, pinched benefits and poor wages, coupled with exhibitionist displays of wealth, inevitably bring back memories of earlier, less equitable periods in economic history. "We are in fact in the second Gilded Age," says economist and New York Timescolumnist Paul Krugman. "Pretax and pre-transfer income inequality in 2005 was exactly the same as it was in the 1920s. And a lot of behavior is the same: the giant private philanthropies, which is one of the giant mitigating factors, the exhibitionist display of wealth and, of course, the malefactors of great wealth all insisting that they're doing great things for us all."
The often grotesque proportions of income inequality are giving pause to even some of the most ardent believers in the international trading system. "The issue of the presumed justice of the rewards of capitalism has created an angst in all people involved in market economies," former Federal Reserve chairman Alan Greenspan told NEWSWEEK earlier this fall. "It's the reason why, despite this extraordinary set of gains, capitalism has not yet gotten closure." He expressed concern that people would turn against free markets if they find the markets can't meet their material needs.
At least some of them already are. In Latin America, voters in Venezuela, Ecuador, Bolivia, Chile, Brazil and Argentina have all elected populist ideologues in recent years. In the United States, opposition to free trade is growing—even among Republican voters. China experiences thousands of large demonstrations a year, the bulk of them over economic issues ranging from questionable land seizures and nonpayment of wages to egregious industrial pollution. In Nepal, which has the highest Gini coefficient in Asia, inequality has fueled a bloody Maoist insurrection that has raged since the mid-1990s. In India, radical, violent groups (broadly known as Naxalites) who adhere to the Maoist ideology of class struggle, routinely now blow up road links, mine the pathways that security forces take, attack police patrols and extort money from villagers. Last year Prime Minister Manmohan Singh declared the Naxalites "the biggest internal security threat to India since independence."
In Hong Kong, the glistening financial capital of a rising Asia, there have been (as of yet) no bloody coups, or even visible protests. Yet there is a rising unease, and a sense that things can't continue on as they are. Millions who once had upward mobility are stuck in neutral, struggling not just to do as well as their parents, but to make a decent living at all. Tsang Wing-on, and many like him, are still searching for succor. Even though he pleaded guilty in the hopes of becoming a ward of the state, the judge refused to send him to jail.
