Give working people more money because they will spend it

It's not about fairness, it's about the economy, stupid.

To date, the history of our current financial crisis has concentrated minds on the distribution of wealth in a way that we haven’t really seen for a generation. Filled with materialistic expectations, the withdrawal of credit and government subsidies from society has brought home some harsh realities. We can’t afford the lifestyle we have come to think we are entitled to. Wealthy people, once seen as social leaders, are increasingly treated as though they somehow stole what they earned.

Most of the time the redistribution of wealth is put in political terms – it ignores who had the original idea for a company or product or who put the money up in the first place to fund it. Instead, agitators argue that workers, because it is their toil that creates the goods and services, should get an equal participation in profits. Ironically, this is probably the right answer but the wrong reason – people should be given more money so that they can spend it.

The World Bank recently released numbers on the distribution of Corrado Gini’s index of income and wealth distribution. The Gini Index ranges from 1 to 100 and seeks to measure financial inequality in a society; a value of 100 means that a single person has all the money whilst as it declines money is more and more equally distributed.

Some interesting trends are showing up. For instance, in Latin America wealth inequality, although at a high level, is declining as a phenomenon. Crises like that seen in Argentina are working to redistribute wealth whilst in Brazil the new-found economic prosperity is becoming shared by a greater and greater proportion of society.  Africa, notably South Africa, displays disturbingly high levels of wealth concentration in the hands of a few.

Although we have a tendency to pillory ourselves here the UK, we actually come out quite well with a score of just under 26 – you would have to go to parts of Eastern Europe to find other countries with the kinds of equality that we possess. In fact, equality of wealth distribution has improved markedly between 1995 and 2010 when the latest data is available and embraces the financial crisis.

What is most disturbing though is the United States. The Gini index for the US has shown a marked and continuous increase of inequality, an effect that has been occurring since the 1970’s, and a phenomenon that has accelerated as the recovery from the financial crisis has gathered pace.

Economic commentators often talk about "the wealth effect", the confidence-boosting mental state that allows ordinary people to look at their total assets and give themselves the psychological comfort to stop hoarding money and start spending it. To this end the Federal Reserve in the US and western central banks have been complicit in propping up the stock and housing markets through ultra-accommodative monetary policies that placate the electorate through the illusion of financial affluence.  They will go about their day without necessarily calling for higher levels of taxation or the forced redistribution of wealth in the face of obvious inequalities. This has by and large worked to date but we are now entering a phase of prolonged sub-potential growth combined with rising wealth inequality in the US that will have long-range effects economically, socially and politically.

The problem arises from the fact that if you give wealthy people more money they don’t necessarily spend it – it becomes dormant and redundant. Give a poor person an extra £10 and they will spend it on food or new clothes, propelling consumption, but give an ultra-high net worth person another million pounds and more than likely it will lie in the bank largely unnoticed and more importantly unused. So in many respects the inequality of the distribution of wealth is not so much about "fairness" or venality, but more that the concentration of too much money into too few hands leads to economic stagnation adding to an already sub-par economic atmosphere.

Photograph: Getty Images

Head of Fixed Income and Macro, Old Mutual Global Investors

Getty Images.
Show Hide image

How will Theresa May meet her commitment to low-earners?

The Prime Minister will soon need to translate generalities into specifics. 

The curtailed Conservative leadership contest (which would not have finished yet) meant that Theresa May had little chance to define her agenda. But of the statements she has made since becoming prime minister, the most notable remains her commitment to lead a government "driven not by the interests of the privileged few, but by yours." 

When parliament returns on 5 September, and the autumn political season begins, May will need to translate this generality into specifics. The defining opportunity to do so will be the Autumn Statement. Originally intended by George Osborne to be a banal update of economic forecasts, this set-piece more often resembled a second Budget. Following the momentous Brexit vote, it certainly will under Philip Hammond. 

The first priority will be to demonstrate how the government will counter the threat of recession. Osborne's target of a budget surplus by 2020 has wisely been abandoned, granting the new Chancellor the freedom to invest more in infrastructure (though insiders make it clear not to expect a Keynesian splurge).

As well as stimulating growth, Hammond will need to reflect May's commitment to those "just managing" rather than the "privileged few". In her speech upon becoming prime minister, she vowed that "when it comes to taxes, we’ll prioritise not the wealthy, but you". A natural means of doing so would be to reduce VAT, which was increased to a record high of 20 per cent in 2010 and hits low-earners hardest. Others will look for the freeze on benefit increases to be lifted (with inflation forecast to rise to 3 per cent next year). May's team are keenly aware of the regressive effect of loose monetary policy (low interest rates and quantitative easing), which benefits wealthy asset-owners, and vow that those who lose out will be "compensated" elsewhere. 

A notable intervention has come from Andrew Tyrie, the Conservative chair of the Treasury select committee. He has called for the government to revive the publication of distributional analyses following Budgets and Autumn Statements, which was ended by George Osborne last year (having been introduced by the coalition in 2010). 

In a letter to Hammond, Tyrie wrote: "I would be grateful for an assurance that you will reinstate the distributional analysis of the effects of the budget and autumn statement measures on household incomes, recently and mistakenly discontinued by your predecessor." He added: "The new prime minister is committing her government to making Britain a country that works 'not for a privileged few, but for every one of us'. A high level of transparency about the effects of tax and welfare policy on households across the income distribution would seem to be a logical, perhaps essential starting point." 

Whether the government meets this demand will be an early test of how explicit it intends to be in reducing disparities. 

George Eaton is political editor of the New Statesman.