This article appears in the June 1, 2015 issue of National Review.
Forty years ago, the economist Arthur Okun wrote a seminal book with a self-explanatory title: Equality and Efficiency: The Big Tradeoff. America, Okun noted, has a “system of rewards and penalties that is intended to encourage effort and channel it into socially productive activity…But that pursuit of efficiency necessarily creates inequalities.”
Okun’s tradeoff seems to be forgotten by many on the left, who advocate expanded government spending at every turn and seem to blame austerity for every data hiccup. Behind this charge lurks a tricky scientific problem: how to quantify the tradeoff. We cannot directly observe whether a society would have been richer had it been less devoted to egalitarian policies.
What is needed is some kind of controlled experiment, and the nearby chart suggests a simple one. When the financial crisis began, countries varied tremendously in the extent to which they redistributed income. Some, such as Ireland and Sweden, redistributed a lot; others, such as the U.S. and Switzerland, not so much. Now, seven years later, some countries have recovered smartly. Others have not. If we go back and sort countries by how much they redistributed before the crisis, how does the growth experience compare?
From the World Bank, we compiled data on the growth rate of per capita national income, adjusted to reflect variation in local price levels and exchange rates. We matched these numbers with data on inequality from the Standardized World Income Inequality Database maintained by Professor Frederick Solt of the University of Iowa.
That database uses a standard measure of inequality, the Gini coefficient. A Gini coefficient value of 100 would correspond to one individual earning 100 percent of a country’s income, and a Gini coefficient value of 0 would correspond to a perfectly even distribution of income.
To measure how much a country redistributes, we looked at how much government policy changes that coefficient. The more taxes and transfers from the government reduce the coefficient, the more redistributive that government is.
The chart examines the recent experience of national economies in the wake of the financial crisis for the 47 countries for which there were sufficient Gini-coefficient data. The vertical axis plots how much redistribution there was in each country in 2008. The horizontal axis plots the rate of per capita national-income growth that each country averaged during the four years between 2008 and 2012. In some sense, then, the chart asks the question, “To what extent does variation in the size of the welfare state in 2008 explain variation in how economies recovered from the crisis between 2008 and 2012?”
As one can see in the chart, which contains the raw data and a highly statistically significant regression line through the data points, the data show a clear pattern: the heavy redistributors have done much worse. Indeed, the statistical relationship suggests that moving a nation’s redistributive apparatus from that of the typical country in the sample to that of the U.S. would have increased the expected growth rate of per capita national income over this period by a full percentage point.
Today’s Left, unlike Arthur Okun, seems to live in a world where trade-offs and incentives no longer matter. In the next presidential election Democrats are likely to claim that increasing redistribution in the U.S. is the key to economic growth. This chart should give them pause.
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