China’s Racing to the Top in Income Inequality

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During China’s greatest period of economic growth, fed by widespread industrialization that lifted millions out of poverty, inequality has also increased — at the fastest pace and to the highest level in the world. It may get worse.

China’s Gini coefficient, a widely used measure of income dispersion across a population, has risen more steeply over the last decade than in any other country, according to an International Monetary Fund working paper. Some inequality is to be expected with industrialization, but in China it’s happened at a staggering pace. One of the main drivers, the research found, is growing differences in education levels and skill premiums.

In education, China is among the most unequal societies. Demand for highly skilled workers soared with rapid technological change. Access to secondary and higher-level education has blossomed since 1980. Last year, around 8 million students graduated from Chinese universities, 10 times more than two decades ago and double the number at U.S. universities. But the gap in tertiary education completion rose even more, comparing rural to urban areas and richer to poorer people. In the relatively deprived southern autonomous region of Guangxi, for example, around 19 percent of the college-age population is enrolled in tertiary education. In Shanghai, the comparable figure is 70 percent.

The Rich Get Smarter

The percentage of people enrolled in a tertiary institution out of the whole college-age population varies widely across provinces depending on income levels

China’s capital-accumulation boom has been backed by state subsidies that encourage technological advances. Many R&D handouts are based, in turn, on employees’ educational qualifications.

Take the Ministry of Science and Technology’s Innovation Company program. Access to its incentives include stipulations that research and development spending amount to 6 percent of sales for companies with less than 50 million yuan ($7.3 million) revenue; that at least 30 percent of employees have a college degree; and that 10 percent of the staff be involved in R&D. Plenty of big names have taken advantage of such policies, including the likes of Hangzhou Hikvision Digital Technology Co., the surveillance giant that we wrote about here.

Other measures to bring home so-called sea turtles — qualified Chinese people living overseas — have deepened the divide. Under Beijing’s Thousand Talents program, launched a decade ago, returnees can get a 2 million-yuan research grant and a personal reward of more than 500,000 yuan, along with benefits. That program had attracted more than 7,000 Chinese scientists and engineers as of November 2017. Local governments, including Shenzhen, also have housing policies aimed at luring talent.

On top of the influx of expertise, it’s harder for people to find good jobs as the population generally becomes better-educated. To be sure, inequality does diminish as workers change industries, for example from agriculture to sectors that add more value. But that hasn’t happened as fast, in part because of pro-farmer policies and the dibao system that guarantees rural incomes.

Beijing is now trying to reduce the income-tax burden, adding a potentially powerful tool to address inequality. The working paper’s authors say this is especially the case in China, given the “limited role” fiscal policy has played in “moderating income inequality in China to date.”

Under tax reforms announced last month by the finance ministry, for example, the greatest benefit accrues to about 20 million people who earn more than 100,000 yuan a year — just 3 percent of the total workforce — according to a Bernstein analysis. With a higher percentage of salary earners in Tier 1 and 2 cities, the gains there will be disproportionate.

Deepening Divide

The number of wage earners in Tier 1 and 2 cities is higher than in other parts of China, exacerbating the income divide.

The government also plans to introduce a household allowance for children’s and higher education next year. Spending on education, culture and recreation accounts for 11 percent of household consumption in China.

Urbanization and an aging population no doubt have added to inequality. By 2008, China had slowed the growth of inequality from previous decades. Since then, however, the government has started running out of measures and now faces the challenge of deleveraging its financial system as the economy slows. As a trade war worsens and Beijing pushes its technological edge, the balancing act will get tougher. Alongside the recent income-tax breaks, the government also announced more stringent social-security collection from companies to fund pensions.

In an ideal world, Beijing would balance the books sufficiently to slash taxes for the poorest people. Yet for funding, it’s having to turn to the very companies that are supposed to drive the “Made in China 2025” program, reducing their effectiveness. The latest change in social-security collection could cut machinery, industrial and telecom companies’ net profits by 11 percent to 15 percent, according to CLSA.

Social Hit

For China’s high-priority industries, the estimated impact on net profit from domestic social insurance will be substantial.

The IMF paper suggests the most effective policies to reduce inequality are those “with the largest effect coming from social-protection spending and redistribution” of income. But as Beijing’s push-and-pull gets tougher, the policy avenue will narrow. As Thomas Piketty’s work has found, wealth accumulated in the past grows faster than output and wages. In doing so, “The past devours the future.”

By Anjani Trivedi
Bloomberg

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