The Causes of Wealth Inequality (28): Political Capture and Deregulation

Does income inequality result from “political capture” by the rich? Political capture is the process by which wealth buys policies that are favorable to the wealthy, who in turn become more wealthy. Through campaign contributions, lobbying, the monopolization of discourse etc. the wealthy may be able to convince politicians to approve policies such as deregulation, non-progressive tax rates, tax loopholes, weakened social safety nets, IP etc. Policies aimed at undermining the regulation of the role of money in politics also fit the list, in a meta sort of way. “One dollar one vote” rather than “one person one vote” would obviously be a perversion of democracy, but I’ll now focus on the purely economic effects of political capture, and more specifically on how wealth-backed deregulation affects the distribution of income.

In theory, political capture doesn’t necessarily aggravate income inequality because the economy isn’t always zero sum: policies favorable to the rich, and pushed by the rich, can also have benefits for the rest. Some types of deregulation may be an example. The word “deregulation” summons images of large companies being allowed to pollute, to pay their workers below subsistence wages etc. However, deregulation can also mean getting rid of occupational licensing which often serves no other purpose than to protect incumbents and frustrate enterprising low-income individuals. Deregulation more generally – again in theory – may lead to increased competition and therefore lower prices, something that also benefits the poor.

However, in practice we see that the wave of deregulation during the last decades, especially in the financial and banking sector, has coincided with increasing income inequality, at least in the US.

It’s not just the total level of inequality that is correlated with deregulation; more specifically, wages in the finance sector show the same trend.

Of course, correlation is not causation. Deregulation may not have been the product of political capture, or not entirely, and may not have been an important cause of rising inequality. But the correlations shown in the graphs above do put the burden of proof on those who deny causation.

But also if you accept the possibility of causation, you’ll need a convincing story. It’s true, I think, that deregulation has increased the number of activities that financial companies can engage in, and has therefore led to a rising demand for higher skilled workers and to more performance related compensation. Financial professionals made up almost twice as much of the top 1 percent of the US income distribution in 2005 as they did in 1979. However, deregulation is only part of the explanation of the disproportionate rise in compensation in the finance sector. Stock options and tax policy are also to blame. Of course, tax policy can also result from political capture, but that just goes to show that any explanation of inequality needs to look at a variety of factors. Inequality isn’t just the product of deregulation.

Another post on the same topic is here. More posts in this series are here.

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1 thought on “The Causes of Wealth Inequality (28): Political Capture and Deregulation”

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