Saturday, November 29, 2008

What Mrs Thatcher Did For Us...

Despite a recent OECD report picking out the UK as one of the few countries in which inequality has declined since the year 2000, the most striking thing about the income distribution in the UK is quite how sharply inequality increased after 1980.

In 1979, the Gini coefficient was 0.27, more or less the same as in 1969, and way below the US. By 1986 it had moved up to 0.30 and by 1995 up to 0.34, pretty close to the US (which in the meantime had itself become more unequal). Although there has been a broad upward trend across the advanced economies over the last 2-3 decades, no other western country saw such a sharp transformation.

So, what happened between 1979 and 1995 to make Britain a much more unequal society?

Well, the timing doesn't look good for Mrs Thatcher: she was in the right place (Number 10) and had the motive (a belief in unfettered free markets and individual responsibility) and the tools (monetarist economic policies) to dismantle Britain's post-war welfare settlement. The Conservative governments after 1979 made the tax system more regressive, cut benefit levels for welfare dependents, privatized some public services and passed legislation to weaken trade unions. All these measures could be expected to increase inequality.

So, an open and shut case?

Well, none of this helped of course. But the rapid decline in trade union membership and the resulting decentralization of wage bargaining were caused by something else: the collapse of British manufacturing. Between 1978-83 UK manufacturing output declined by 30%, and 1.5 million manufacturing jobs were lost, a number almost equivalent to the total rise in unemployment in that period. When the economy recovered in the mid-1980s the new jobs created were no longer in manufacturing industry but largely in the service sector, a sector much less unionized, with higher pay disparity and more unstable employment tenure.

This was partly the short-term effect of policy - Thatcher's anti-Keynesian response to a world recession - but partly also a rather abrupt structural adjustment to a changing environment which all western countries were facing. Manufacturing employment declined in the rest of Europe too, and the UK was not the only country to suffer high unemployment in the 1980s.

So does this let Mrs Thatcher off the hook?

Not quite, because other countries in Europe managed this process without an explosive rise in income inequality, usually through various kinds of government intervention. In countries such as France and Italy, subsidized early retirement packages took older industrial workers out of the labour market and into comfortable pensions. In the Nordic countries, the expansion of the public sector into a wider range of social services created new jobs in the service sector with good pay and strong employment rights. And, in countries such as Germany, the 'patient' investment environment and strong trade unions favoured industrial adaptation to changing markets, rather than creative destruction.

All these measures safeguarded equality, but at a cost: government deficits and low employment in France and Italy, punitively high taxes in the Nordics, and a stulted service sector in Germany (leading in part to high unemployment and low growth in the 1990s). So there was no free lunch. In the 1980s, British industry's decline presented us with hard choices. But the choices the Thatcher government made came down particularly hard on unskilled workers and on the industrial regions of the UK.