Can Capitalism Bring Inclusive Growth

In January 2015 the charity Oxfam reported that the richest one per cent of the world's people would soon own more than the other ninety nine per cent combined. In the same period the World Bank estimated that the share of the world's population living in extreme poverty had fallen from more than a third in 1990 to about one in eight. Both statistics were true, and both described the work of the same system. Markets, private property and competition had created unprecedented wealth, and had spread it unevenly. The topic puts the question that follows. Can capitalism bring inclusive growth, that is, growth in which all sections share and participate?

Capitalism is an economic system in which most of the means of production are privately owned, and prices, set in markets, direct resources. Inclusive growth means growth that creates opportunities for all, reduces poverty and narrows inequality, and not merely growth in aggregate income. The question is whether the first can deliver the second without being changed.

The case that it can begins with its record. Before the industrial revolution, living standards had barely risen for centuries. Since then, under market economies, income per person in the richest countries has risen many times over, life expectancy has doubled and literacy has become nearly universal. Markets reward effort and ingenuity, spread information through prices, and allow millions to coordinate without central direction. Adam Smith argued in 1776 that the pursuit of self interest in competitive markets could advance the good of all. The reforms that opened China from 1978 and India from 1991 allowed the two countries to grow fast and pull hundreds of millions from poverty. Capitalism's engine of growth has few rivals.

The case that it cannot begins with distribution. In his study of 2013, published in English in 2014, the French economist Thomas Piketty argued that when the return on capital exceeds the rate of growth of the economy, wealth tends to accumulate in a few hands and inequality grows. The data from rich countries show a rise in the share of the top one per cent since the 1980s. The economist Simon Kuznets had suggested in the 1950s that inequality first rises and then falls as economies develop, but the pattern has not been universal. In India, the richest tenth hold a rapidly rising share of wealth, and the benefits of growth have bypassed many.

Markets reward effort and ingenuity, spread information through prices, and allow millions to coordinate without central direction.

There are other flaws. Markets supply only what can be sold, and neglect public goods like clean air, basic research and public health. They ignore harm to those who are not party to a transaction, such as the pollution that falls on a neighbouring village. Those who lack assets or education cannot participate fully, and unequal starting points pass from one generation to the next. Capital can capture the state, as in the crony capitalism that Raghuram Rajan, then Governor of the Reserve Bank of India, has criticised. When the powerful use connections to win licences, land and loans, profit comes from favours and not from competition, and the poor are shut out. The financial crisis of 2008 showed that unregulated markets could impose huge costs on ordinary families.

The record of different countries shows that outcomes depend on the surrounding institutions. The Nordic countries, such as Sweden and Denmark, have market economies with high taxes, strong social protection and good public education, and they have both high incomes and relatively low inequality. East Asian countries like South Korea and Taiwan combined market competition with land reform and mass schooling at early stages, which spread the gains. Latin American countries with highly unequal land and weak schools grew in a more lopsided fashion. In each case, the state was not the enemy of the market but its partner and corrector.

India's own record is mixed. The reforms of 1991 raised the growth rate from about three and a half per cent to around six or seven, and poverty fell. But the jobs created were too few, and employment in services requires skills many lacked. The programmes that spread the benefits, such as the rural employment guarantee, the Right to Education and the Food Security Act, were not products of the market but of democratic politics acting on it. Financial inclusion drives such as the Jan Dhan accounts of 2014 reflect an attempt to widen access to the formal economy. Growth with justice, which the Constitution's Directive Principles require, needed both.

What would make capitalism more inclusive? Competition policy that curbs monopolies and cronyism is the first step, since open markets give outsiders a chance. Investment in health, education and skills, which equips people to take part, is the second. Progressive taxes and well targeted transfers, as well as social insurance against illness and job loss, are the third. Support for small enterprises and access to credit would bring more people into the market. Finally, a civic culture in which firms accept responsibility to workers, customers and the environment can supply what law cannot. India's rule requiring large companies to spend two per cent of profits on social causes, brought in with the Companies Act of 2013, is an experiment in that direction.

The role of democracy deserves emphasis. Where the poor can vote, form unions, publish and litigate, they are able to press for rules that share the gains, as workers did in Europe and America in the nineteenth and twentieth centuries. The weekend, the ban on child labour, public schooling and pensions were won by political struggle, and then accepted by firms. Inclusive growth is thus a political achievement that capitalism has sometimes resisted and later learnt to live with.

So the answer is a qualified yes. Capitalism can be inclusive when it is made so, by law, institutions and norms that capitalism does not itself produce. Left to its own devices, it generates growth quickly and shares it unevenly. A capitalism that includes everyone is a product of political choices made again and again against the interests of those who gain from leaving it alone. The question of whether those choices can keep being made in democracies where the rich have a loud voice, and the excluded a quiet one, is not a question that economics can settle.