"Israel's rich getting richer, poor getting poorer"

Prof. Fran?ois Bourguignon Photo: PR

Global expert Prof. François Bourguignon discusses the problem ahead of his appearance at the Globes Israel Business Conference.

Hillary Clinton's supporters in last week's US presidential elections were concerned about growing inequality, no less than Donald Trump's supporters. Inequality is a phenomenon that is prevalent in Israel and is also causing a rise in populism in Europe, according to Prof. François Bourguignon, Emeritus Chair, Paris School of Economics and one of the world's leading experts on inequality. Prof. Bourguignon will address a session on the subject at next month's Globes Israel Business Conference in Tel Aviv.

According to Prof. Bourguignon the struggle against growing inequality needs to be based on taxation changes even though the effectiveness of such changes has been very much reduced in the era of globalization. He also sees recent developments in computerization as threatening professional service providers such as lawyers and accountants more than blue collar employees on industrial production lines.

Globes: Do you see a link between the phenomenal popularity of US presidential candidate Donald Trump and the problem of inequality that you have pointed to over the years?

Prof. Bourguignon: "Yes I definitely see a very direct relationship between the populism of Donald Trump, and to some extent also the populism of Bernie Saunders in the Democrat primaries and also a link with what is going on in France with the Front National in Austria, in Denmark and all those populist movements, which are very strong and I believe are very much due to the rise in inequality. In some countries like the US, I think it is the rise in inequality, in other countries it might be the rise of the perceived inequality and the way people think about inequality, which may not be what is actually going on."

Barkat: Has the media distorted the issue of inequality?

Prof. Bourguignon said, "Yes of course. Definitely the media are sending messages in some cases, which do not correspond to what is actually going on. For example they put a lot of emphasis on extremely rich people who are perceived as getting richer. They don't say very much about rich people who are getting less rich or businesses that are failing and in this way public opinion has an idea about inequality that is not exactly what we measure with our statistics and in all the data, which are valuable, even when we take into account that some surveys are not completely correct there is a kind of exaggeration by the media of issues."

"As a matter of fact I am not sure that it is only inequality at play. The fact is that in the EU and US at the same time as you have very low rate of growth in the economy, the fact that the people see very little increase in their income, while at the same time some people do extremely well, makes them much more sensitive to this inequality feeling and I believe that this is feeding the very strong move towards populism that there is today in the world."

But still you say the phenomenon exists. So what would be the best way to describe it according to your research? What is the real extent of it?

"No, I mean the real extent, if we look at a country like the US, and I'm sorry to say a country like Israel, We observe you know that inequality has been increasing over the last 25-30 years, maybe it is a bit more recent in Israel but in the US, it is something that started more or less at the end of the 70s and it has been a continuous process. It is surprising that most of the people working on the inequality issues, if they had been asked 15 years ago whether they believe that inequality would keep increasing in a country like the US, they would have said no way. At some stage, the people who saw the public opinion said that this is enough. It is very, very surprising to see that even throughout the 2008-2009 crisis, inequality kept increasing. Now these years, what is going on in the US, it is quite real and measured very well."

Now if we look at countries like Germany, the UK and France, although France is a different case, but Germany and the UK, the big European countries, we observe that the inequality today is higher than it was in the early 80s but the change took place in just a few years. There were a few reforms that were undertaken in the UK by the Thatcher government and undertaken in Germany by the Schroder government, which reformed the labor market, and in a few years the inequality increased but it stayed at the new level, at the higher level, so we don't observe this continual increase that we observe in a country like the US. It's a bit different.

Since you mention Israel, I'm very curious to hear you say a few more words about Israel. Are you conclusions based on the Genie coefficient or other measures?

"Yes if we look at the surveys on which inequality data are based in Israel and if we look at these coefficients and some varieties and the way in which the distribution of the standard of living is evolving all the time, in Israel has seen a big increase over the past 20 years. Now there are different explanations for that, I was in Israel a few months ago and I discussed it with some colleagues. I will not get into details of that but it is also possible that some of the phenomena that were observed in the United States are also present in Israel, in particular it is probably the case that at the top, executives are getting higher salaries relative to the other incomes in the country. It is probably the case that profits and property income increasing and this is contributing to inequality, and there is also another issue that those two groups in Israel the ultra-orthodox and the Arab families who have demographic growth and a low level of income is contributing to making the bottom of the income scale poorer so we have a situation of polarization with rich people probably becoming richer and poorer people probably becoming poorer."

Do salary caps as recently introduced in Israel, help? What is the international experience on salary caps?

"I mean this is not the first time that a government has tried to put a ceiling on salaries. I remember this was the period in France back at the end of the 70s because there was also at some stage some increase in inequality. Now the problem with that is that this is difficult to completely control. It is true that for a while it can be working but in general companies always find a way of bypassing this kind of limitation. So it is very difficult and this is what we call income policy and it is very difficult to govern income policy because those people have a way of paying their highest executives in a different way providing them some facilities in terms of traveling, so this is really that they are subsidizing to some extent the nature of their consumption rather than paying them higher salaries, so it is really working but I'm not completely sure that this is a solution to the problem. The problem is that we need to have a taxation system, which works well, and also even more importantly to regulate the finance industry in such a way so that the rates that do appear in that sector will be lower."

Can you think of a model that is efficient and has proven its success recently?

"Not really. It is the case that in most countries the financial industry is generating and is responsible for a very disproportionate share of high income. This is true in Europe. This is true in Europe, this is true in the US and in Israel. This is true, I would also say in China or in India. It is certainly to a higher degree in the US than in Europe. Several governments tried to impose this kind of ceiling on salaries. They were not able to touch the laws but what is happening simply is that they are trying to make the taxation system much stricter. In particular, they want to tax in a different way stock options, capital gains and this kind of thing. I believe the only way we can bring in something effective is through taxation. I believe it is a way that is working in Germany and in France but you know taxation is also something that is becoming difficult to use because people are mobile, and wealth is mobile, so if you increase the taxation too much in a country, then people will leave to another country."

"In Europe, for example, the top executives in the financial sector are residents in the UK, in London, basically because the taxation system is much more attractive to them than in France or in Germany. This is a link with another argument about inequality, which is the link between inequality and globalization, and in that case it is really globalization, which is generating much more mobility of people and capital, which is making it much more difficult for countries to use the old instrument that the tax system was to control inequality."

In your book "The Globalization of Inequality" you argue that there is a need for implementing better policies. Such policies would be for example a coordinated international efforts like the banks and such moves.

"Yes I mean we need that. There is no coordination and over the last 20 years countries are in as race to the bottom, basically countries are reducing the taxation of capital income and reducing high marginal tax rates basically because labor is doing the same thing and at the end of the race is zero and this cannot be something that is satisfactory."

"Coordination is a necessity. Over recent years, we have started this initiative, I never remember the acronym, you have the system in which all countries have to report the operation on their non-residents banking accounts to the tax authority of the non-resident. So for example, in France, France will have to report to Germany operations on France banking accounts of German citizens and will have to report to the US, operations by US citizens in France."

Do you mean FATCA or something like that?

"FATCA is only between the US and other countries but now from 2018 you have essentially between all European countries and between European countries and many other countries in the world including of course Switzerland and including of course various tax havens.

This is will be some kind of European FATCA arrangement.

"It is a European FATCA exactly. This is something which is new and I'm not saying that this will be preventing tax evasion and the mobility of capital but this will give back to tax authorities some of the power that they have lost. As a matter of fact it is interesting to see that FATCA was launched by the US basically to increase tax revenues so this is very much linked to that. I'm not saying that it is the final solution and there will be more solutions after that."

And the other thing is the decision by the G20 with respect to multinationals there is this BEPS initiative called base erosion and profit shifting. This again is only the beginning because it is not giving back very much power to countries to tackle multinationals but it is introducing transparency because multinationals will have to report their profit country by country rather than to report their profit in a consolidated way and this means that all the countries will be able to see that Apple or Google is making so much profit in the country and they will be able to see that this profit is not taxed. So you increase the perception of the people that there is something wrong in the way that those multinationals operate and something has to be done about it. This is part of the globalization process.

You sound a little optimistic

"No I am not that optimistic. No I believe that you have to make a distinction. One thing is that the problem is increasing and you must try to attack the symptoms of that so this is what taxation will be doing. So we are observing that there is more inequality and we are trying to correct that by intervening at the end of the process on the consequences of certain areas. Now another way is to try and see what is producing this increase in inequality. Is it the globalization process? Is it the technical change that we are going through more or less in all countries? What is it? From that point of view I believe that technological change is playing a big role and will over time play a bigger role basically because this is contributing to increasing the income of capital and profit and it will be going against labor, so that this evolution that we see at the macroeconomic level between the evolution of capital income and labor income will most likely continue and this is the source of inequality."

"There are many things we can do. We can make sure that people receive the right level of education and that nobody is left behind in terms of this. But I'm not sure that we are not getting to a period where the technological change will be so big that it will be very difficult to resist an increase in inequality."

Can we say that we already feel it in the world of corporations looking and the rise of monopolies such as Apple and Facebook of course, taking over market shares?

"Yes. This is part of it and you know we talk in economics very much about zero budget cut sectors this means that for companies like Google and most of the Internet companies, increasing their sales, if you want, can be done at no cost, simply because it is only more people getting into the Internet, and going through their platforms and that's it. So those companies are natural monopolies and because of that they are generating huge incomes which are not generating labor because they don't need labor. They are really machines which are generating a huge amount of income and this is definitely contributing to inequality and this is the reason we have this kind of separation that I mentioned before about multinationals. But there is more than that, the problem is also the computerization of many applications."

"You may know that there is some research in Oxford, which published a paper some years ago if I remember well, where they made a survey on the share of occupational jobs which could be computerized in the next 10-15 years and they came up with 47%. Now this involves not only robots, this involves Artificial Intelligence, the fact that computers can do things much more quickly and effectively than humans. In some occupations, we already observe the consequences of that. It is striking to see that the hiring of young lawyers has been going down. Why simply because those young lawyers when joining a company or law firm were employed to look at the jurisprudence of some cases and were spending hours and days in libraries to check what had been the consequences of this or that thing now today all this has been digitalized and all this is on computer so if you want to know the jurisprudence of a specialty case you simply press a button and you get the answer. This means there are many less lawyers being recruited by law firms and the result has been a change in the salaries of those young lawyers."

"We feel this has started but not at very high speed and this may be accelerating over time and this probably will be the challenge that we will have to face in the coming decades and I think this is why we are about to see a big change in the way we function and this condition will result temporarily, at least I hope it will be temporary, in increasing inequality."

Basically you are saying that inequality is threatening occupations in the service industry?

"Of course. We know that we are already eliminating many of the labor intensive activities in the industrial sector. Employment in industry is going down in the whole world. It is much more so in advanced countries but it is going down in all the world. This process will now effect the services and I am sure that because there will be more income overall new jobs or new activities will appear and it was exactly the same thing at the beginning of the industrial revolution when people moved from agriculture to industry, then we moved from industry to services and now might be moving from services to something else, I don't know exactly what it is but the transition is a process during which, most likely, more inequality will appear because some people will not find jobs for some time and it is not clear what they should be doing and what kind of skill they should have to find jobs. So probably we will be going through such a period and coming back to the beginning of our discussion, this is where a solution will become extremely important and in order to be effective from that point of you it will be necessary to have some international coordination so that there will be a solution."

You mentioned labor reform. Is labor market reform contributing to increasing inequality in Europe?

"We have reduced in the labor market the different components imposed on companies to protect jobs to prevent companies from laying off their workers. Changes, have been put in place. An example is in the early 90s when we started to talk about the Maastricht Treaty in Europe and the euro, some reforms were undertaken in Italy in the labor market on salary policies. This had a definite impact on inequality. Were those policies necessary? Again this is something linked to globalization. They were necessary because in order to be competitive, then countries have to make sure that labor costs would be very much reduced and eventually this would benefit the whole country because the country could produce more and employ more people. This was not really what happened but definitely this had an impact on the level of inequality."

It seems that this is now the dilemma of France and this is threatening the French model?

"You are absolutely right. This is a huge problem in France. We have huge labor costs, which are certainly contributing to less competitiveness. I don't think it is the only cause but it may be one of the causes and we know very well that if we are trying to reform the labor market, and deregulate completely the labor market, there will be a huge increase in inequality and this will be opposed by public opinion and this is a political problem. But what we do today in order to reduce the burden on the companies, we are essentially, the state is paying for the contributions I mean basically the companies are exempted from labor tax for people at the bottom of the wage scale. The problem with that is that this is generating a very high level of spending from the government, which means the government has to find a way of financing that, which means that taxation is increasing in one way or another and we are in a kind of spiral, a vicious circle from which it is very difficult to get out. Barkat: What should France do with this tension between competitiveness and inequality? Bourguignon: Inequality has been increasing somewhat in France, over the last five or ten years but not very much and certainly not very much as has been the case with neighboring countries and certainly not as much as the US. I think that the problem is for the French people to realize that we are now in a new world and we cannot keep all the regulations that we had and have constructed during the very favorable years and decades after the war, the time of reconstruction etc. We cannot keep the system as it was built in those days. We have to re-create and make the system much more flexible but at the same time in order to make sure that we do not generate too much additional inequality, we have to make sure that the people are protected. For example, in Europe you have the example of Denmark, which has a social security system and Denmark has an unregulated labor market so companies can fire workers rather easily but workers are well protected and at the same time they are mentored so that they will be finding a new job rather freely. Denmark is a very small country and maybe things are possible there, which are not possible in a much bigger country. But I think that this is a direction in which we should go if we want to recover some competitiveness and at the same time we don't want inequality to increase too much. Yet I believe that even in that situation, I believe that the technological change will in one way or another play a role, which in terms of inequality will not be a positive role.

What would you say to a middle class worker in the rust belt in the US worried about losing his job?

"First I will tell the worker that if he or she is still working in industry then this is not any more a threat. The loss of jobs in industry is more or less behind us. Now we have an industrial sector, which is highly productive and employing highly skilled people and for most people employed in those companies there is no longer an issue. There is no threat. The threat is much more on services and in the rust belt cities in the US, I would say that the point is more whether is possible for a city like Detroit etc. to find another source of activity or not. It is not trade that plays a role and as a matter of fact, we have just entered a period when most likely trade has stopped increasing faster than GDP in most countries. The last figure that was released by the WTO showed that last year trade has increased by less than global GDP. I would say that those days are behind us. What is in front of us is the story about services and the globalization of services and the computerization of services. So I would tell this guy who likes to vote for Trump that this war is over. Trade is not the war that has to be fought for today and if you fight that war, then you will be in trouble because you will getting back to protectionist views which will be more harmful."

So the lawyer who voted for Clinton should be more worried than the industrial workers?

"Yes exactly. And this is somewhat paradoxical in the sense that I have the feeling that this view that Trump and others have on protectionism and trade and even Hillary Clinton was arguing on - this is not any more the issue."

Published by Globes [online], Israel business news - www.globes-online.com - on November 13, 2016

© Copyright of Globes Publisher Itonut (1983) Ltd. 2016

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Prof. Fran?ois Bourguignon Photo: PR
Prof. Fran?ois Bourguignon Photo: PR
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