'Is Inequality Good or Bad for Growth?'

From the OECD Insights blog:

Is inequality good or bad for growth?, by Brian Keeley: If you’ve been following the income inequality debate, you’ll know there’s been much discussion of the question in the headline above. Until just a few years ago, it’s probably fair to say that mainstream opinion leaned towards the “good for growth” side of the debate. Yes, inequality might leave a bad taste in the mouth, but it was worth it if it meant a strong economy. ...

But over the past couple of years,.... that inequality is good, or at least not bad, for growth ... has come under increasing fire, including from the IMF, the OECD and even Standard & Poor’s. And now comes new research from the OECD indicating that “income inequality has curbed economic growth significantly”.

Much of the coverage of rising inequality has focused on the incomes of “the 1%”. But the OECD research, which was led by Michael Förster and Federico Cingano, indicates that it’s the situation of people at the other end of the earnings scale that has the biggest impact on growth. These lower-income households are not a small group. They represent some 40% of the population...

Where overall inequality is higher in a society, a clear pattern emerges: People from such backgrounds invest much less in developing their human capital – essentially their education and skills. By contrast, it has almost no impact on the educational investment of middle-income and wealthy families. The implications for social mobility are clear – an ever-widening education and earnings gap between society’s haves and have-nots. ...

Just how bad is clear from the OECD research. It estimates that rising inequality knocked more than 10 percentage points off growth in Mexico and New Zealand in the two decades up to the Great Recession. The impact of rising inequality was also felt – albeit not as strongly – in a number of other OECD countries, including Italy, the UK and the US and even in countries with relatively low levels of inequality like Sweden, Finland and Norway

To be sure, the debate over inequality and growth will certainly continue. Just last week (before publication of the new OECD paper), Nobel laureate Paul Krugman admitted he was a “skeptic” who remained to be convinced of the link. But the fact that the debate is happening at all is surely a good thing. Rising inequality is one of the most significant socioeconomic trends of our time. Understanding its possible impact on our societies and economies has surely never been more important.

In the report, they authors also say:

... Tackling inequality through tax and transfer policies does not harm growth, provided these policies are well designed and implemented. In particular, redistribution efforts should focus on families with children and youth, as this is where key decisions on human capital investment are made and should promote skills development and learning across people’s lives. ...