The Price of Inequality
Allen Lane, 448pp, £25
Joseph Stiglitz is a much-lauded economist whose practical advice is honoured mostly in the breach. In the current crisis, Stiglitz has been a notable crusader against austerity economics and in favour of tighter controls on financial capital. His counsel is eagerly sought by much of the third world’s leadership and among progressives in Europe, but both his views and his candour have left him an outsider in Barack Obama’s Washington. That is a huge loss for sensible policy.
Stiglitz is a rare combination of virtuoso technical economist, witty polemicist and public intellectual. As a voice in the wilderness who occasionally breaks through, he resembles the economist John Maynard Keynes. Like Keynes, Stiglitz combines insights on the periodic insufficiency of aggregate demand, the systematic failures of financial markets and the interplay between the two. But he usefully builds on Keynes.
His early academic work, which won him a belated Nobel Prize in 2001, challenged the standard neoclassical economic model on several grounds, the most original of which was what Stiglitz termed “information asymmetries”. The interplay of supply and demand does not yield efficient prices because one party to the transaction often possesses privileged information or lacks sufficient knowledge. Information failures characterise not only product markets but labour markets, the market’s valuation of public goods and financial markets. That research, begun in the late 1960s when Stiglitz was a graduate student at MIT, anticipated the financial collapse of the 2000s, which was nothing if not a case of insiders abusing privileged information.
Stiglitz’s odyssey in government began in the Clinton administration. As a self-described “New Democrat”, Clinton startled the economics establishment in 1993 by appointing to his council of economic advisers two relative radicals: Stiglitz and Laura Tyson of Berkeley. Tyson was part of a small group of mainstream economists who challenged orthodox views on the workings of free trade, while Stiglitz’s entire scholarly career had questioned the assumptions of the standard economic model.
But the critics needn’t have worried. The real power on economic issues in Clinton’s White House lay with a Wall Street man, Robert
Rubin. While Tyson became an ally of Rubin, Stiglitz continued his role as internal dissenter, crossing swords with Rubin and his deputy, Larry Summers, on a range of issues from financial deregulation to third-world debt and climate change.
When Stiglitz moved to the World Bank as senior vice-president and chief economist in 1997, he persuaded the Japanese to underwrite a study of the Asian model of development that demolished the IMF line on the virtues of state disengagement from the economy. His public disputes with Summers intensified. Since the presidency of the World Bank is an American fiefdom, Stiglitz was eventually forced out. He later told some lovely tales out of school in his memoir, The Roaring Nineties.
Stiglitz has surely been vindicated if not heeded. Climate change is even worse than presumed; liberated market forces have produced rising inequality everywhere; China has proved that state-led capitalism could provide very high growth rates; and financial deregulation produced the worst financial catastrophe in a century. But Stiglitz’s refusal to pull his punches has made him unwelcome in the American corridors of power. Today’s Democratic Party remains substantially wedded to the suite of economic policies that Stiglitz’s work calls into question.
The Price of Inequality demonstrates Stiglitz’s gift for translating complex economic topics into writing accessible to a broad lay audience. The toxic social effects of rising inequality are well known. Stiglitz’s original contribution is to parse the negative economic effects. Extreme inequality, he shows, produces a macroeconomic drag because the very rich, despite conspicuous consumption habits, are incapable of consuming all that they earn. Conversely, the attempts of the working and middle classes to maintain living standards in the face of real wage declines led to excessive consumer borrowing (enabled by the banks), which was heavily implicated in the housing bubble. A more egalitarian society, with broadly distributed purchasing power, is better equipped to maintain macroeconomic balance.
Stiglitz has a superb and original chapter on the negative consequences of “rent-seeking”, the pursuit of monopoly profits. In recent years, conservatives have appropriated the term for their assault on government. A standard part of the right-wing story is that the state depresses efficiency and hence growth because interest groups use government to pursue narrow self-interests – they are rent-seekers. But Stiglitz reclaims and expands the idea for the left.
As inequality becomes more extreme, he writes, the economy becomes more like a set of cartels. Corporations increasingly pursue easy monopoly profits rather than actively championing the competition whose virtues they ostensibly espouse. Gross inequality also facilitates political capture of states by financial elites, which then prevents governments from pursuing the more efficient and egalitarian brand of managed capitalism that characterised the postwar boom.
A highly unequal society is also less likely to find adequate sums for the social investments in public infrastructure that the economy needs. “The more divided a society becomes, in terms of wealth,” Stiglitz writes, “the more reluctant the wealthy are to spend money on common needs.” An extreme economy also wastes human talent. Contrary to the myth of equality of opportunity, Stiglitz shows that class lines are hardening as public equalising institutions are weakened and well-to-do parents pass along private advantage to their offspring.
Unlike most economists, who enter the realm of politics to counsel the state to leave the market alone, Stiglitz intervenes on the side of managed capitalism and strengthened democracy. His remedies include curbing the financial sector and “making markets work like markets”, as well as using active labour-market policies to restore full employment. He is especially good on what he terms “tempering globalisation” – not reverting to protectionism but altering it so that increased trade ceases to be a mechanism for destroying the mixed economy at the level of nation states.
Most of this book addresses the situation in the US, though Stiglitz has plenty to say on the continuing recession and the Americanisation of inequality trends nearly everywhere. One of the oldest chestnuts in neoliberal economics is the claim that equality is bad for efficiency. Supposedly, high taxes and redistribution deter initiative and regulation blunts entrepreneurialism. Stiglitz upends such claims. But the staying power of perverse ideas is testament to the other important part of Stiglitz’s argument: that grotesque economic inequality is accompanied by highly uneven influence on the setting of economic rules. This puts at risk not just decent capitalism but democracy, too.
Robert Kuttner is co-editor of the American Prospect and a senior fellow at Demos. He is completing a book on the politics of austerity.