China and inequality

In many developing countries with a deeply rooted legacy of socialism and egalitarianism, debates about choosing between the policy preferences of economic growth, equality and social justice remain as contentious as ever. Within economics, unanimity is really never meant to be achieved when studying the following questions: What is the optimal tax rate? What is the optimal level of labor regulation? What is the optimal level of inequality? In today’s context, globally and country-wise speaking, does economic growth any longer even necessitate an “optimal level” of inequality?

In 1992, during Deng Xiaoping’s historic trips to southern China (“Nanxun“) – the region where China’s earliest special economic zones were set up – Deng was famously quoted as having said:

“Let some people get rich first” (“让一部分人先富起来”)

In other words, grow the economic pie and only thereafter worry about redistribution and fairness. Going further, a few decades ago many people, and maybe even Deng himself, placed their faith into a theory that rapid economic growth alone would yield the necessary “trickle down” effects on the Chinese economy to naturally also solve the questions of redistribution and fairness.

From reading historical accounts of the ways in which contentious policy debates unfolded during the early reform and opening era (“gaige kaifang“), one can tell that Deng did in no way blindly endorse the idea of transforming the Chinese economy into becoming more market-led without some precaution. The debates were far from monolithic, as value-based and technical questions concerning the systemic risks of widening inequality and the introduction of capitalist price mechanisms into the Chinese economy (and society as a whole) were raised from the earliest years of the reform and opening era (see “Unlikely Partners: Chinese Reformers, Western Economists, and the Making of Global China” by Julian Gewirtz for a more comprehensive history of how Chinese economists disagreed amongst each other quite energetically on such questions). Another famous saying of Deng more or less marked the gradual pace in which the early 1980s-China opened itself to the global economy:

“Cross the river by feeling the stones” (“摸着石头过河”)

Retrospectively, Deng’s early preference for not completely abandoning key socialist objectives while developing the Chinese market economy in the critical period of 1978-1992 perhaps shielded China from experiencing the levels of political, economic and social instabilities observed in many Eastern European countries following the fall of the Soviet Union (USSR). Unlike China, many former USSR countries (including Russia) undertook the “shock therapy” approach to economic reform and liberalization, placing those countries afterwards in significantly different development trajectories compared to China.

Vietnam is another post-socialist country which also embraced gradual reform and opening over the shock therapy. Subsequently, China and Vietnam have been recording enormous gains in poverty reduction, perhaps faster than in any other developing country till date.

Source: World Bank Database

But as of 2019, has the time come for China to consider the impacts of widening inequality on economic growth? Take income inequality. Has it gone up or down in China during rapid economic growth? This question has been stirring my curiosity since May 2019, when a scholar argued that income inequality in China has been going down. Some background research makes me inclined to believe that this conclusion relied on the World Bank’s GINI index, a set of estimates for income inequality at the country level. This index has been showing that income inequality in China has been steadily falling since 2010:

Source: World Bank Database

As can be observed in the graph above, a lack of data has partly been the problem in identifying China’s true position in various inequality measures. And of course, different methods of measurement have made scholars inclined to draw different conclusions. But two recent (and more independent) studies should nonetheless ignite greater attention into China’s alarming standing in terms of inequality: (1) “Capital Accumulation, Private Property, and Rising Inequality in China, 1978–2015” by Piketty, Li and Zucman (2019) and (2) “Social Mobility in the Long Run: A Temporal Analysis of China from 1300 to 1900” by Shiue (2019).

From the Piketty, Li and Zucman (2019) paper, the stark findings for China can be summarized as follows:

“Income inequality has increased substantially since the beginning of the reform process. China used to be more equal than Europe in the late 1970s, about as equal as the most egalitarian Nordic countries, while it is now approaching US inequality levels. Despite this rise, inequality remains lower than in the United States today, which given the size of China and the large gaps between its rural and urban regions is striking.”

Source: Figure 4 in Piketty, Li and Zucman (2019), p. 17
Source: Figure 7 in Piketty, Li and Zucman (2019), p. 21
Source: Figure 8 in Piketty, Li and Zucman (2019), p. 22

Meanwhile, the Shiue (2019) paper brings to light the Great Gatsby Curve in the context of China. Based on existing works by the economists Alan Krueger and Miles Corak, the Great Gatsby Curve builds on the argument that countries with higher income inequality tend to have less economic mobility across generations (more formally known as intergenerational mobility), as a measure for social mobility. Shiue (2019) concludes the following for China:

“(…) The analysis documents a trend towards greater social mobility over time. Times of greater inequality between fathers, especially educational inequality, are times of lower social mobility. Moreover, geographic location strengthens the role of inequality for social mobility.”

“(…) Over time, mobility increased while overall inequality decreased.”

Source: Figure 1 in Corak (2013), page 4.

Although the link between inequality and social mobility remains to be a correlation rather than causality, a rising number of in-depth stories about this issue seem to be supportive of this correlation further. See for instance (1) “Chinese dream readjusted: why uncertainty dims aspirations” by the Financial Times and (2) “No sleep, no sex, no life: tech workers in China’s Silicon Valley face burnout before they reach 30” by the South China Morning Post.

The mechanisms through which inequality is thwarting social mobility can improve our understanding behind why rising inequality in turn is bad for economic growth, especially if we think of the latter as a means to lift people out of poverty. Fundamentally, economic growth depends on technology, human capital and institutions (e.g. schools). If people cannot any longer imagine any prospects of themselves climbing the income ladder, then growth is destined to stagnate. In the case of many developed countries today, there is now a growing evidence suggesting that rising inequality have profound macroeconomic implications, not just for any national economy but also the global economy as a whole (see #1, #2, #3, #4).

In other words, the relationship between growth and inequality is today far from being a chicken-and-egg problem, as often portrayed in the past. The question was always framed as: Growth or equality? Framed in this simple manner, the conventional belief that more equality hurts growth was firmly established in people’s minds.

But echoing the economist Pinelopi Goldberg, it is however about time to treat the tackling of rising inequality on an equal footing to growth as a policy priority, even for China and many other developing countries. Otherwise, it may be too late. And with a socialist past as China, perhaps the implications of today’s developments will be even more regretful in the future.

“When growth becomes very unequal and results in huge disparities, eventually there is going to be a backlash. And that is what we are experiencing now.”

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