Empirically, the cause for concern is overwhelming. In the last two or three decades inequality within countries has risen almost everywhere – in rich as well as in developing countries. True, most European countries have been less affected than the US, the UK or China. But this is a matter of degree, not nature. Moreover, there is growing evidence that social mobility is also at stake, which is even more serious. Meritocratic values and a society’s investment in education are under threat when the wealth of the parents becomes an accurate predictor of the childrens’ professional achievements. As Piketty reminds us, there was a time, in 19th century Europe, when inheritance and marriage, not work, were the best conduits to affluence. Few people want this type of society back. Yet we are witnessing its rebirth.
Many blame globalisation for the rise of inequality. Indeed the correlation is unmistakable. The comprehensive data assembled by Piketty and colleagues unambiguously indicate that, in the 20th century, the decline of the super-rich started early in the century with the end of the first globalisation and that in most countries the distribution of income was most egalitarian in the first post-World War II decades, after world trade and financial flow had ebbed. Then, in the 1980s, the reversal started. Openness increased, financial autarky ended, and top incomes rose disproportionately. No wonder people in several rich countries look back at these postwar decades and picture them as a golden age.
This is not entirely a matter of cause and effect: in part, inequality and globalisation have resulted from common factors, such as technical progress. But there is a link. Actually, the controversy over globalisation and inequality is not a new one. It developed in the 1990s and trade economists have been honest enough to recognise that there are losers in the openness process – such as unskilled workers in advanced countries whose jobs and wages are challenged by completion from developing countries. But defenders of globalisation have consistently made two points.
The first is that whereas inequality may rise within countries, it also decreases across countries, so that the net effect globally is likely be inequality-reducing. This has proved correct: as shown by Christoph Lakner and Branco Milanovic in a World Bank paper, there is less inequality across the citizens of the world now than twenty years ago. Of course, China’s development has been, and continues to be, a big part of this global story: in 2013, according to the International Labour Organisation’s Global Wage Report, not less than half of the growth in global real wages originated in China alone. But China is not the only explanation for what has been aptly termed the rise of the global middle class.
The second point has proved less convincing. The pro-globalisation claim was that although there are losers in the openness process, the overall gains for participating countries can be redistributed through taxation and transfers in such a way that nobody loses in the process. By taxing the winners and compensating the losers or spending on public services, governments can ensure that everybody is better off. This claim has proved naive. In some European countries, especially in Scandinavia, the state has basically played the role it was expected to fulfil. But this has not been the case in the US and several other Anglo-Saxon countries, where the redistributive government came under attack at the very moment when it was supposed to tax and transfer. The same has applied, to a lesser extent, to a number of European countries.
The truth is that the trade advocates seriously underestimated the correlation among globalisation, tolerance vis-à-vis inequality, and political aversion to redistribution. They wrongly treated openness and redistribution as complementary choices whereas there has been a political correlation between openness and the acceptance of growing inequality. Although they are economic complements, openness and redistribution have conflicted politically.
One major reason for this state of affairs is that in an open world, well-off individuals benefit from an exit option. They can walk away from their country, where they are liable to taxation, and settle in another one. Or, even easier, they can stay and relocate their wealth. This indeed has happened on a much more massive scale than anybody anticipated. In a recent paper, Gabriel Zucman of the London School of Economics reckons that at least 8 percent of the global financial wealth of households is now located in tax havens. This may look a relatively small number but it is not, as the total includes all bank accounts held by all households worldwide.
For too long, tax avoidance was treated by advocates of globalisation as a second-order phenomenon. Tax havens were allowed to prosper, without being subject to sanctions or even moral pressure. Bank secrecy was considered an unavoidable evil. The result was that both the governments’ ability to redistribute and the moral case for openness were seriously undermined in the process. It is only when receipts dwindled in the aftermath of the Great Recession that the US government started to get impatient and things began to move. The OECD has now become the hub for a global crackdown on tax avoidance.
Europe unfortunately has not been at the forefront of this battle, at least not EU institutions. On the contrary it has for long remained complacent, as EU treaties require unanimity on tax matters and as the bloc includes countries such as Luxembourg that have benefitted massively from corporate and individual tax avoidance. For decades, the EU was dominated by an unholy alliance among three types of governments: those that rejected the very principle of international tax coordination as an infringement on sovereignty; those that benefitted from tax competition; and those that used it as a way to overcome domestic reluctance to the reduction of redistribution. For an institution that is supposed to be based on values and that hails the European social model, this is humbling, and the EU is now paying a political price for its long inertia.
Will current efforts change things fundamentally or only on the surface? Some, starting with Piketty himself, advocate global taxation. But this is not a proposal for this decade or the next one. What is at hand is a set of more modest solutions based on transparency, exchange of information, the adoption of common principles, and pressure on offshore jurisdictions. The hope is that they will make tax avoidance much more difficult and costly.
Things have started to change. Switzerland, long a staunch defender of bank secrecy, has given in. Luxembourg is following suit. Yet many more jurisdictions, including in Asia, are taking part in a global competition to attract wealth. In the battle for a fairer globalisation, it is far too early to claim victory.