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If rising inequality leads to social unrest, we all suffer

The holiday season was an ideal time to pause and ponder the big questions about our personal and family wealth:

  • How much money do we need to live the lifestyle we want?
  • Will we run out of money?
  • Should we tighten our belts, or can we afford to spend a bit more?
  • Will we have enough to leave the next generation or to help out our family before we go?
  • Did our investment returns in 2021 get us closer to our goals?
  • Do we need to change strategy or put away more or less?

These are all great conversations to have with your family and with your adviser. Meanwhile, it is also a good time to think more broadly about wealth, and how it shapes the world around us.

Amid a pandemic, the rich did well, others not

2021 was another year when the rich got richer, without even getting out of bed. The value of our shares and real estate rose magically without us having to do anything at all. Covid stimulus policies accelerated the post-1980 trend toward inequality of wealth and incomes, which are now at extreme levels of inequality not seen since the 1920s.

2021 also saw the creation of record numbers of wealthy people (‘billionaires’, ‘millionaires’, or any other definition) in Australia and in every other country, although 100 million people were sent back into extreme poverty (World Inequality Report 2022). Inequality rose in terms of access to vaccines, not just in wealth and incomes.

The winners of 2021 were the owners of shares, real estate, businesses, especially those with gearing on cheap debt. For the working, the winners were the ‘knowledge workers’ who can work from home or anywhere. The losers were the physical workers who can't ‘work from home’ in the lockdowns, and border closures, and disruptions.

Also among the losers are people relying on bank interest, fixed incomes, bonds (although indexed bonds and pensions did get a rise at last with inflation finally arriving) They are the savers, renters, and ordinary workers of the world, with rising prices of food, petrol, utilities, rents, and falling real wages.

This chart shows the proportion of total national wealth owned by the wealthiest 1% down to the poorest 50%.

A world of growing inequality

Half of the world's population (3 billion adults) between them own less than 2% of the world's wealth (black bars in the chart above), while the richest 10% own 76% of it. The richest 1% (gold bars in the chart) owns 38%, the richest 0.1% owns 19%.

Before we go any further, we need to remind ourselves that we are in the richest 1% that own 38% of the entire world's wealth. The entry-level to get into the world's richest 1% is just US$1.1 million (A$1.5 million) in net assets, including the family home. We have been conditioned to believe that A$1.5 million in net assets (including the family home) is nowhere near enough to fund a ‘comfortable’ lifestyle, but 99% of the world's population has less than this. 50% of the world's population owns assets worth less than US$4,000 each.

Australia among the 'least unequal'

The above chart is sorted from most unequal distribution at the top to least unequal at the bottom. Australia (along with the UK and Western Europe) is one of the least unequal countries near the bottom of the table thanks to our long history of relatively high wages, broad welfare systems and, more recently, compulsory ‘super’.

The next chart shows the trends in inequality since 1900 in terms of the share of national income received by the top 10% (upper section) and by the bottom 50% (lower section) for selected countries.

Here we also see that Australia has been among the least unequal – i.e., relatively low share of total income going to the top 10%, and relatively high share going to the bottom 50% of adults. Inequality peaked in the roaring 1920s, then reduced dramatically in the 1930s depression, WW2 and in the post-war boom, but has been rising steadily in the post-1980 era of tax cuts, deregulation, globalisation of trade, outsourcing of jobs to low-wage countries etc.

Social and political reactions to post-1980s inequality accelerated in the GFC, when government bail-outs of banks and bankers’ bonuses gave rise to movements like ‘Main Street not Wall Street’, ‘Occupy Wall Street’ and the’ 99 percenters’ in the US and across Europe. It was coupled with high unemployment and xenophobia. Rising inequality has fuelled the dramatic rise of populist, nationalist, anti-globalisation movements across the world.

Why rising inequality matters for everyone

Why is rising inequality important for investors? From a personal perspective, it is natural for the rich to say, ‘I've earned it, so I deserve it, and I'm hanging on to it!’ Rising inequality is important because it fuels social divisions and unrest across the world, and social unrest can spark events that disrupt investment markets, sometimes resulting in the widespread destruction of wealth.

There are two main schools of thought on how rising inequality plays out.

On the one hand, we have the optimists like Simon Kuznets and Robert Solow (as well as Adam Smith and Jean-Baptiste Say) who believed that inequality will automatically self-correct so that the benefits of growth are shared around to all (cue the magic fairy dust here!).

On the other hand, we have the pessimists like Thomas Robert Malthus, David Ricardo and Karl Marx, who believed that rising inequality does not magically self-correct but it rises in a self-perpetuating spiral to a point where social unrest flares up in the form of revolution or regime change, to bring about a ‘fairer’ distribution of the spoils.

At a personal level, we can each make plans about how we distribute our wealth, including via charitable foundations or sub-accounts (with financial advice).

From a portfolio perspective, social and political disruptions are medium-term risks that should be tracked to assess possible impacts on financial markets. Our base case is for slow economic growth and rising wage pressures (ageing populations, fewer workers) fuelling further inequality, social and political disruptions, made more volatile by interest rates rising to fight inflation, and budget pressures to raise taxes and cut government spending.

 

Ashley Owen is Chief Investment Officer at advisory firm Stanford Brown and The Lunar Group. He is also a Director of Third Link Investment Managers, a fund that supports Australian charities. This article is for general information purposes only and does not consider the circumstances of any individual.

 

30 Comments
Dudley
February 03, 2022

I'd like to see a proof that low real interest rates do not cause inequality

Low real interest rates take money from capital creators - especially wage earners - and delivers it to asset holders as cheap finance for increasing asset prices. In return, the wage earners receive negative real interest on the capital they accumulate and pay high prices for the assets they must acquire.

Does inequality cause low real interest rates? :
https://www.kbc.com/en/economics/publications/Income-inequality-contributes-to-lower-real-interest-rates.html

Bill Nagle
February 02, 2022

Data in the second graph seems to emphatically confirm Thomas Piketty's hypothesis in his recent tome: Capital in the 21st Century.

ashley owen
February 04, 2022

bill - yes, well spotted. Picketty is the major backer/mentor for the 'World Inequality Report'. Nothing wrong with this - just full disclosure. While we rich get richer, there is a niggling feeling that it must reverse at some time - the great unknown is the trigger for the reversal the mechanism - revolution or war?
Even though the workers haven't had a pay rise in real after-inflation terms for three decades, they have a vote!. And so far the major parties are just perpetuating the inequality (eg it was Democrat Clinton who unwound Glass-Steagall, which created the sub-prime mess, etc. The last big turnaround was the 1930s depression and WW2. This time, who knows! The great Laffer 'trickle down' effect is still tricking down some gains to the poor, but most trickles up to the rich. One day they will revolt - and we will be into the next phase of the story!

AlanB
February 01, 2022

In Australia, wealth depends mostly on choice. We all have access to good education and we choose how hard, how long and what to study, which then determines our jobs and income. Those who live frugally, avoid excessive luxuries, don't gamble, buy carefully and travel through life on a budget will accumulate more wealth than those who don't. It is unfair and unequal for those who have accumulated wealth over a lifetime of careful living to fund those who frittered away their savings through their own choices of extravagance or idleness.

James
February 02, 2022

"It is unfair and unequal for those who have accumulated wealth over a lifetime of careful living to fund those who frittered away their savings through their own choices of extravagance or idleness."

A pleasant, although somewhat idealistic, dream! Sadly, governments don't agree with you!
Despite the somewhat (open to debate, I know) already biased progressive tax system, governments always think the cow has more milk!

AlanB
February 02, 2022

Or governments think the goose has more feathers.
"The art of taxation consists in so plucking the goose as to obtain the largest amount of feathers with the least possible amount of hissing." (Jean-Baptiste Colbert 1619–83)
So we pay accountants to keep our feathers.

Rod in Oz
January 30, 2022

I'm still staying with Henry George!

Rob G
January 30, 2022

Inequality can only increase generationally unless there there is a change in society view of entitlement. No one has managed to take their wealth with them. Is it fair that the third, fourth or fifth generation need to contribute nothing to enjoy a life of luxury.
Income tax has proved ineffective in a fair contribution to the overall needs of the economy.
Surely a consumption tax coupled with a wealth tax is a more equitable basis to share the load.
The overarching requirement is to reduce the levels of government and spending driven by various groups successfully lobbying for financial support for their particular project or pilgrimage.

Peter C
January 30, 2022

Thanks for an interesting article. I think a lot of opinions like this assume that wealth/income inequality is necessarily a bad thing. I believe in equality of opportunity which I think Australia has done reasonably well. In general, we all have access to basic education and health giving us the opportunity to do whatever we like in the future. That includes working as little or as much as we would like, and earning our just rewards. Humans are inherently different with different personalities, strengths, work ethics etc. It is actually unjust to suggest we all should receive about the same. I much prefer a free market over Communism. As it is, taxation to redistribute income through an inefficient government process is probably unequal. I found this YouTube video by Prof. Antony Davies on "inequality" to be really interesting from an economic viewpoint although I understand this article is also looking at social implications and its impact on investing. Thanks!
https://www.youtube.com/watch?v=Jtxuy-GJwCo

Pippa
January 30, 2022

Very interesting visuals and although Australia does relatively well on the inequality scale, look at the widening gap in income trend since the 1980s. So much for the promises of trickle down economics and globalisation. Goes a long way to explaining the rise of populism as the masses wake up to the fact they’ve been hoodwinked.

wally
January 30, 2022

if you gave everyone in australia a million dollars each the money would go to the people that have it now. it's how much money you earn it's how you use it .

Frank
January 28, 2022

Are you saying that the essential health workers that so many people relied on in 2021 and at present are the losers because they cannot work from home? Otherwise a thought provoking article.

ashley owen
February 02, 2022

Frank, the essential workers are 'losers' only in the financial sense. The Covid crisis certainly showed us all who really were essential to society, while the rest of us are 'non-essential' ! Great lessons for all. Unfortunately, those same essential workers will probably still be the lowest paid in society in 10, 20, 30 years time. ashley

TonyD
January 28, 2022

So feed the plebs a few more crumbs to keep them quiet. Neo-liberalism in all its hypocrisy...

ashley owen
January 28, 2022

'Let them eat cake' worked wonders for Marie Antoinette!

GMS
January 29, 2022

Yep, after 1793 she did not need to eat neither cake nor bread. Once the pitch forks and flails disappear from the antique shops then you need to start to be afraid - very afraid.

GMS
January 28, 2022

Very interesting article indeed. It prompted a few questions though.

Regarding the graph showing the shares of national wealth:

it would be interesting to know how in countries where employees and employers contribute to a pension system and one then gets paid a live long pension - like amongst others, Germany, Italy, Austria etc. - how is this entitlement represented in this graph. Surely this would represent a significant value - 20 to 30 years of a good pension every month. After all in Australia the assets of the superfund are included in the overall wealth of an individual.

Regarding the graph showing the share of a country’s total income by top 10% and bottom 50%:

At a first glance it might look that the gap in AUS is not that big - UK and NZ have a smaller gap though - what we can also see is that the share of the bottom 50% has hardly changed since the 1900 and even more worrying is that the trend since the 1980ies shows the gap is widening.

George Santayana once stated “Those who cannot remember the past are condemned to repeat it”. So it might be worthwhile to consult the history books re the events of 1528, 1789, 1793, 1848, 1917 ….

ashley owen
January 28, 2022

GMS - you are correct on a number of fronts.
on the question of the treatment of pension entitlements. When they are 'transfers' - ie funded by tax revenues and not from assets owned by the individual (eg regular government age pension, or even something like the Future Fund here, or corporate DB/DC fund in US, UK, Europe), then the pension income is counted as 'income', but it is not an 'asset' owned by the individual. But where the pension is paid out of an earmarked fund owned by the income earner (eg 'Super' funds in Australia), the income is counted as personal income, and the asset is also counted as a personal asset. This is a large part of the 'assets' of Australian individuals, along side housing as the main asset.
On the issue of the mechanism for radical change in distribution of spoils - there have been many revolutions and civil uprisings as you point out.
In the case of the radical shift from the extreme inequality of the early 1900s in the 'west', to the much less unequal 1930s to 1970s, it was not revolution or revolt - it was the Great Depression and WW2, and the policy changes to deal with those crises - high protection barriers, high taxes, heavily regulation, government controls. (Then the post 1980 trend to greater inequality was driven by the new post-1980 'trickle down' era - tax cuts, deregulation free markets, globalisation, outsourcing of jobs to low wage countries, etc). What will drive the next big shift back to lower inequality (when it does eventually take place)? Who knows. In the 'rich' countries it will probably not be revolutions, but more likely another series of radical policy shifts something little like those to deal with WW2 and the 1930s depression.
cheers
ashley

GMS
January 29, 2022

Ashley - Half my working life I lived, worked, paid the unavoidable taxes and contributed to the pension system in Austria and Germany. This is not comparable to the age pension here. Employees and employers together contribute about 17% of the pre-taxed salary which are being paid into the Fund of the Rentenversicherung or Pensionsversicherung. There one accumulates points depending on how much (depending on your salary) and for how long (years worked) one contributed. Upon retirement these points are then multiplied with the EURO value of the year to determine the monthly payment one gets in retirement. These payments are not asset or income based. So why should this not represent an asset one has - it is easy to calculate the equivalent corresponding value. Just seems to be too hard or not well enough understood - even OECD publications can’t do it - or maybe just don’t want to do it. Despite the well known demographic challenges this system has, at least it is not prone to scams or fraud. Look at Nortel for example - disappeared and all the retirement savings with it.

I guess it was also the post WWII needs that drove the inequality down.

It actually does not take too much to enter the top 10% of income in Australia - about $ 180,000.- and this low entry threshold covers up the gap to the top 1% or 0.1% were CEOs get bonuses one year that outnumber the life time earnings of the median salary earner. Was their contribution to value creation really that big to justify that - maybe , maybe not. Where would Telstra be if it would not have gotten billions of dollars for their copper network from NBN - thanks to mum and dad taxpayers who had been screwed with the T2 float in the first place.

Jack
January 27, 2022

“Since this is an era when many people are concerned about 'fairness' and 'social justice,' what is your 'fair share' of what someone else has worked for?”
Thomas Sowell

Rossini
January 27, 2022

I own my house now valued at over $1,000,000
Aged over 70+
How do I benefit from rising house values?

CC
January 27, 2022

Could sell it and downsize ?

DW
January 27, 2022

Reverse mortgage.

Sally
January 28, 2022

That $1,000,000 house does not count as an asset for the Age Pension or the Seniors Health Care Card. It is also an asset that you can sell to downsize. Sounds like a pretty good benefit to me.
Also an asset that you can leave as an inheritance ....maybe not a direct benefit to you but certainly an indirect benefit (depending on your perspective of course).
....... and of course, all of the above is from my perspective given the information provided.
Cheers,
Sally

JC
January 27, 2022

The problem is no one wants to enunciate what “fair” means in practice. How much do you want to take from someone else’s earnings or asset base? Where will the country end up if success is punished? Will it maintain its competitiveness, resilience, work ethic, fund its services or will it stumble and redistribute people to places where they feel more welcome? If we are equal then we are not free. Where wealth taxes have been introduced they’ve been quickly removed from the books.

David James
January 27, 2022

We often discount how much luck plays into our fortunes: good or bad.

If you were positioned with financial assets and a knowlodge based job, you lucked out during Covid. I hope those lucky individuals give back. We owe the real essential workers a lot.

Alex
February 01, 2022

I agree luck plays a role in our fortune (and investment success) to an extent. However, I disagree with your statement which seems to imply people with asset and/or knowledge-based job were 'positioned' there by luck. Some people might inherit a significant amount of assets by luck, but there are also those who diligently accumulate wealth (both in financial and non-financial terms) along the way from zero - would it be fair to say the latter 'lucked out'?

ashley owen
January 27, 2022

re Smith -v- Marx - yes Adam Smith paints a rosier picture, but his magical method of restoring equilibrium and sharing of benefits - his 'invisible hand' requires perfect competition, no monopolies/oligopolies, no pricing power, and empowered individuals with perfect knowledge, etc . Eliminating monopoly pricing power requires strong government controls, etc. Today we have the opposite - with unprecedented global concentration of pricing power in a small handful of global monopolies (mostly US big-tech), and widespread tax-haven shopping. Big companies are now larger and more powerful than governments - in the 'democracies', but not of course in China, as Xi is illustrating forcefully.
cheers
ashley

Adrian
January 27, 2022

Yes it should matter to everyone, not only from a self-interest perspective of avoiding social unrest and any unpleasant repercussions from that, but first and foremost, for those who have any semblance of an ethical compass! Thanks for the thought-provoking article and I'm pleased at least that Australia is towards the right end of this graph.

Trevor G
January 27, 2022

I prefer Adam Smith over Karl Marx.

 

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