Where’s the IMF on inequality and growth?October 17th, 2012 | by Nick Galasso
Today’s New York Times picked up on an important research paper by two IMF economists. The Fund’s Andrew Berg and Jonathan Ostry argue chronic income inequality is detrimental to economic growth. In contrast, more equal countries are likely to experience durable and sustainable growth spells.
This research couldn’t be more timely, as inequality across the globe continues to grow worse. In the US, the top 1% captured roughly 8% of GDP in the late 1970s. Today, they command more than 23%; a figure not seen since the eve of the Great Depression. Among OECD nations, the U.S. has one of the highest rates of inequality. The only countries with higher rates are Portugal, Turkey, and Mexico. As the US tries to recover from the financial crisis, the link between inequality and growth should be instructive to lawmakers.
Among developing countries, the Fund’s research is especially important. Economic growth has long been hailed as the silver bullet to poverty reduction. Yet, the economic and social benefits of growth accrue to countries that can sustain it over many years (decades, really). Developing countries have demonstrated that igniting growth spells—even robust ones—is not impossible. Unfortunately, they typically run dry after only a couple of years. The difficulty is generating growth that remains strong over a long horizon. As the Fund’s research makes clear, investments that reduce inequality hold the payoff of stronger and longer growth.
This raises an uncomfortable question for the Fund. If strong, empirical evidence suggests inequality diminishes growth, then why doesn’t the Fund more forcefully recommend combating inequality in its Article IV consultations? This is especially puzzling, since the objective of these consultations is to promote “sound economic growth” as a fundamental goal.
The rigor of Berg and Ostry’s research reinforces calls for the Fund to take inequality seriously. Their evidence assesses inequality against other determinants historically understood to correlate with growth. These include strong political institutions; education, health, and infrastructure; financial development; trade liberalization; Foreign Direct Investment (FDI); and resilience to external shocks. Among these variables, inequality proves to be one of the best predictors of how long a growth spell will last. Because of such strong correlations, the authors conclude that economic growth cannot be understood without accounting for inequality. In their own words, “Inequality is thus a more robust predictor of growth duration than many variables widely understood to be central to growth.”
For further reading, see the Oxfam report, Left Behind by the G-20: How inequality and environmental degradation threaten to exclude poor people from the benefits of economic growth