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Time to Address Income Inequality in China?

by | November 30th, 2012 | 09:19 am

One of the messages coming out of the new Chinese leadership is an emphasis on higher quality economic growth. This means moving past a simple emphasis on the headline GDP growth number and instead focusing on boosting living standards. This is embodied in the renewed emphasis on building a moderately well-off (小康) society and the goal of doubling personal incomes by 2020.

An interesting trend is the reemergence of an income inequality reform plan by the National Development and Reform Commission (NDRC). Supposedly in the works since 2004, this plan is scheduled to be released sometime in the next several months.

The plan is notable not only for putting the politically sensitive topic of income inequality back on the agenda, but also the specific aspects of inequality it chooses to address.

As you might expect, the Chinese government has been fairly reluctant to talk about the rapid growth in income inequality over the past several decades. The last official Gini coefficient, a common measure of inequality, was published more than a decade ago and came in at .412. Since then, despite the populism of the Hu-Wen administration, inequality has continued to grow.  The Beijing-based think tank International Institute for Urban Development estimated the 2010 Gini coefficient to be .438, while the CIA calculates the real number to be even higher at .480. This would means that inequality in China is worse than in Russia and the United States, and roughly on par with Zimbabwe.  The National Bureau of Statistics admitted that the official Gini coefficient for China was slightly higher in 2010 than in 2001, but would not release a number.

Like many Chinese statistics, there are some caveats we should add regarding accuracy. Calculation of the income distribution may be distorted on both the low and the high-ends. On the low-end there may be undercounting  of migrant wages and remittances. On the high-end there are long standing problems with accurately measuring the income of wealthy households. Despite these issues, most of the data points to a clear trend in increasing income inequality in China.

Income inequality is a sensitive issue in any country, but especially so in socialist countries. Deng Xiaoping’s famous proclamation that “some will get rich first” in the process of reform has begun to wear thin as the trends toward increasing inequality show no sign of abating. It is in this context that the income inequality reform plan is being debated. The income inequality debate in the United States tends to revolve around issues of income tax progressivity and welfare benefits, but in China the tone is markedly different. While the report is still being finalized, here are some of the major elements being discussed:

GDP and Government Revenue Growing Faster than Incomes

A common criticism that has emerged in the debate around income inequality is that both government revenue and GDP have grown faster than per capita income (rural and urban). This is implicitly a critique of the unbalanced growth model of the past decade that has seen a declining wage share of GDP. Unfortunately, incomes (and consumption) are unlikely to rise faster unless there is further progress on economic rebalancing.

Breaking Up the Monopolies of State-Owned Enterprises and Addressing Wage Discrepancies

State-owned enterprises (SOEs) have come under attack in the debate over income inequality. SOEs are seen as benefiting from monopoly protections and paying far too little in the form of taxes and dividends. A particular sore spot is the gap between the average wage in state-owned enterprises and private companies. However, given the patchy data on private wages, we have serious doubts about whether this is a true apples-to-apples comparison.

Boosting Incomes for Low-Income Groups

Increasing incomes for low-income groups has also been mentioned as a necessary component of the new plan. This is a more traditional solution to income inequality and is carried out in many countries through after-tax transfers (such as the Earned Income Tax Credit in the United States). In China this could come in the form of a continued build out of the social safety net, particularly an expansion of the rural medical insurance and pension programs. Also under consideration are significant reforms to the land acquisition procedures that have left so many farmers dissatisfied.

One item that there has not been much discussion of in this context is Hukou (residence permit) reform. Perhaps more than any single one policy, this has institutionalized the income gap between urban and rural areas. Any income inequality reform that does not address this issue is unlikely to make much progress.

Keep an eye out for the income inequality plan when it is finally released. The true test will be how vigorously it is implemented by the new Xi-Li administration.