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Economics

Is their a better dream than the American Dream?

On the NYTimes, David Carr provides Wall Street a lesson on failure. Speaking of “The Company Men,” he asks if we live in an age where the “game is rigged?” But that is a question that applies not just to Wall Street but to America in general. And it is one that holds much relevance for Asia, and India in particular as it seeks to balance an embrace of competitive capitalism with welfare.

Measuring the American Dream

Policy debate on economics has usually focused on economic inequality – which has been growing in America, together with many Asian countries, including India. The financial crisis has brought home this point in very simple ways, as reported in a Pew study:

Between 1979 and 2004, the real after-tax income of the poorest one-fifth of Americans rose by 9 percent, that of the richest one-fifth by 69 percent, and that of the top 1 percent by 176 percent.

That may not, in and of itself, be unfair. But it does become so if only a few people ever have a chance to be in that top one-fifth or top 1 percent. That is where socio-economic mobility becomes important. Americans believe they live in a particularly meritocratic society that allows its people to move up the ladder – the quintissential American dream. Ben Bernanke called it thus:

Although we Americans strive to provide equality of economic opportunity, we do not guarantee equality of economic outcomes, nor should we. Indeed, without the possibility of unequal outcomes tied to differences in effort and skill, the economic incentive for productive behavior would be eliminated, and our market-based economy — which encourages productive activity primarily through the promise of financial reward — would function far less effectively.

Yet, it is increasingly clear that the twin assumptions therein – that a) there is equality of economic opportunity, and b) effort and skill are the only or even the most important variables to success – are wrong. It turns out that economic mobility depends much more on our birth and our upbringing than our own effort and skill. One measure – the extent to which individual and parental earnings are correlated – suggests that:

…about half of the advantages of having a parent with a high income are passed on to the next generation. This means that one of the biggest predictors of an American child’s future economic success — the identity and characteristics of his or her parents — is predetermined and outside that child’s control.

Malcolm Gladwell called this “accumulative advantage” in his book Outliers – the phenomenon of the rich getting rich and the poor getting poorer. Such accumulative advantage should not be a surprise – even if the extent of its influence is. Yet, if we are to strive for a meritocratic society that offers everyone a chance at success a critical question must be to what extent does a state manage to shield its population from the ravages of destiny?

On this point there is much evidence within the OECD showing that America falls far behind European and particularly Nordic countries. On the previous measure (earnings elasticity) the USA is just below Italy and the UK, with the least correlation in Denmark, Australia, Norway, Finland, and Canada.

Overcoming “accumulative advantage”

There are, then, two ways to measure a society – to what extent is it equal (more economic equality), and to what extent is it just (providing economic mobility). America hopes to be just, providing equal economic opportunity while accepting higher levels of economic inequality. Europe, meanwhile, believes that economic opportunity will never be truly equal and thus seeks to overcome or protect from hereditary disadvantages. Ironically, Europe’s model proves not only to be more just, but also more equal (with sufficient correlation between equality and mobility).

Ironically, though, as Europe’s model proves to be better, its very existence is threatened for being financially unsustainable. European governments, faced with massive debt, must choose which social programs to cut.

India is thus offered two models – one that fails to sustain itself, while the other that fails to deliver on the goal of an equal and just society. What do the policy choices of Indian politicians reveal about their preferred model?

India has since liberalization in 1991 been trying to seek high growth. Such growth ensures some form of economic mobility – incomes of successive generations increase along with overall growth. Put another way as the pie gets bigger everyone gets a bigger absolute part of the pie.

Yet, policy emphasis on growth itself resulted also in a more unequal society as those with a privileged birth – with at least well-educated parents – benefit disproportionately from the opportunities provided by liberalization. They do better than their parents. Meanwhile, the farmer in the hinterland – without the means to send his children to an English speaking school – must see his children continue to toil the land or seek opportunity in low-paid manual labor. Both equality and relative economic mobility thus go down.

In recent years, however, India has recalibrated its policies to be more welfare focused. In particular, a realization that the country cannot survive united nor compete unless everyone benefits, has brought forth some interesting compromises.

For one, government is starting to accept its welfare role in some areas – as illustrated by the rural employment guarantee scheme. Second, there has been some political pressure on competitive capitalism – this explains the edict of Andhra Pradesh’s politicians to the population not to pay back microfinance loans. And finally, companies and their wealthy seem to be taking some responsibility for good governance into their own hands – evident in the massive philanthropic efforts of individuals such as Azim Premji who focuses disproportionately on strengthening public schools, rather than creating a more efficient, but perhaps more expensive, private system.

Thus, India returns ever so often to the left, while seeking to convince the world it is the future of capitalism, with Ambani’s multi-million dollar mansion a clear reminder to those that may forget.

There is, therefore, hope that the disadvantaged in India will still see the benefits of growth. But a sustainable middle path requires combining two hard to reconcile social preferences – people must be highly motivated for the spoils of success (as in America and Asia), but hold a healthy regard for the welfare of others to allow for the redistribution of those spoils (as in Europe). To date no society has managed to do so, though the voluntary redistribution of wealth by the newly wealthy may provide some temporary relief.

India’s growth over the past several years has certainly raised wealth. But it has also led to a more unequal and a more unjust society. Of course, no society can be expected to completely shed its bias towards aristocratism. That would be against human nature. But the purpose of a state is not necessarily to change human nature, but rather to help those disadvantaged by some elements of it. In that, the American Dream has failed to become reality for too many people. India, looking for a dream of its own, can certainly promise – and ask – better to its citizens.

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