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Pope Francis, Income Inequality, Poverty, and Capitalism

December 11, 2013
Guest Post:  Pope Francis, Income Equality, Poverty, and Capitalism   By Nicolás Cachanosky The criticisms of free markets in Pope Francis’s Apostolic Exhortation Evangelii Gaudium ("The Joy of the Gospel") have generated strong reactions around the world. One example is a recent post by Gregory Mankiw on his blog with brief but interesting reflections. Special attention was paid to the passage where the document criticizes the "trickle-down theories, which assume that economic growth, encouraged by a free market, will inevitably succeed in bringing about greater justice and inclusiveness in the world. This opinion, which has never been confirmed by the facts, expresses a crude and naïve trust in the goodness of those wielding economic power and in the sacralized workings of the prevailing economic system.” (p. 46). First we must recognize that there may be possible semantic nuances that can lead to inaccurate interpretations because Evangelii Gaudiium is not an economic document and, certainly, the “prevailing economic system” is not exactly a blueprint for free market economies. However, the criticism of free markets is clear and presents a difficult challenge to suggest that the document does not refer, indeed, to free markets after arguing for “semantic nuances.” Secondly, I agree with Mankiw that "trickle-down" is not a technical term, much less a theory, and is a derogatory word used by the left and other groups critical of free markets. By using this phrase, the Pope inserts a negative bias against the free market; a neutral term would been a better choice of words. The terminological slip on economic issues in the document (an example of many) suggests the need for caution regarding the strong claims that the document puts forward on economic issues. Categorical statements in a document of this importance should be better supported and articulated. Imagine an economic document critical of the Church with a clear superficial use of the language of the discipline being criticized accompanied by adjectives such as "crude and naive." Using imprecise definitions can make us see non-existent problems. Third, the effect produced by the Evangelii Gaudium on public opinion invites us to review some general indicators of social and economic welfare in countries that are more and less inclined to free markets. Is it true that the free market leaves the homeless and marginalized the less wealthy? How much truth and how much myth is in the so-widespread criticism of "evil capitalism"? What Pope Francis expresses is ultimately a reflection of a widespread belief across a number of sectors in most countries around the world. It is easy to get an overview of the economic and social situation of more and less free market countries if we group them into four categories according to their economic freedom. This allows a gradient of results and to observe differences between more and less free countries. It is important to note that the data of all countries must be observed, and not chosen, for example, from only a few (more details here). This would allow both an advocate and a critic of free market to choose a couple of countries at their convenience. Is the entire sample, not ad hoc selection, what should be used as reference. Let us consider, then, some economic and social data from countries around the world according to their economic freedom. The following graphs show the GDP per capita (PPP) [i.e. adjusted for cost of living] and the average 10-year growth rate for four groups of countries according to their economic freedom. As the graphs show, on average, the freest countries are not only richer, but also grow faster in the long run. cach1 cach2 The main objection to these results is that the GDP per capita (PPP) is an average figure that says nothing about the distribution of income. It is implied that richer countries have a more unequal distribution of income. The growth of the free market is undeniable in such cases, but it would be an immoral growth. It should be noted, however, that income distribution can have different drivers. A system in which unequal income distribution occurs because the political party in power benefits a few given sectors (“crony capitalism”) at the expense of the consumers, is different from a system in which differences in income distribution occur because some entrepreneurs and individuals are more successful than others. The former is a “bad” income distribution, but the latter is a “good” one because it promotes growth. This conceptual difference, and the fact that to guarantee equal income requires us to forego equality under the law, seems to be a problem unnoticed by those who use income distribution as their main argument against free markets. Where is, for instance, a Steve Jobs, a Bill Gates or a Jeff Bezos in a country like Cuba or North Korea? One way to see if income distribution is as bad as implied by the critics is by observing the the income received, for example, by the poorest 10 percent of the population. The following graphs show the income per capita of the poorest 10 percent. The graph shows that the poorest 10 percent receive, on average, the same percentage of total income in more and less free market countries. Where there is a major difference, however, is in the amount of income. If you are part of the poorest 10 percent, it does not matter if you live in one of the least free countries or in one of the freest countries, your group will receive about 2.6 % of total income. However, if you live in one of the less free countries you will have to live with 932USD per year, while doing so in a free country you will have an annual income of 10,556USD. This is not a minor detail. cach3 cach4 It may be objected that these data only observe the lowest income quintile and that is more appropriate to pay attention to indicators such as the Gini Coefficients, which measures the distribution of income of the entire population. A perfectly equal distribution results in a Gini Coefficient of 0, and a perfectly unequal distribution results in a value of 100. The following chart shows the Gini Coefficient for the country's 25 most free (red) and least free (blue) free economies. As can be seen, on average, the freest economies have a better distribution of income according to this indicator. The argument that free economies suffer greater income inequality is a myth built on the mistake of watching a few countries and not the entire sample. By selecting only a few countries we can unconsciously choose countries that confirm our previous ideas or ideologies. This does not happen if we observe the entire sample. The question is, if you know you will belong to the “poor” section of the population, in what kind of country would you prefer to live? In one of the most-free countries or in one of the least-free ones? The "poor" sector in the United States, for example, has an income above 60 % of the world’s population. cach5 It may, in turn, be objected that this data is a photo, not a movie. That, in fact, the rich are getting richer and the poor poorer. The graph below shows the change in the average income of each quintile of the population by income level. As you can see, it is true that the rich are getting richer (except the top quintile), but the fact remains that the lower income quintiles are, on average, increasing their income at a higher pace than the higher quintiles. The graph shows the income gap between parents and children belonging to the same quintile. cach6 Not only is it a myth that free market economies are more prone to having a worse distribution of income. It is also the case that poverty has decreased, rather than increased, in recent decades. The following graph shows the decline in the population living on less than 1USD a day between 1970 and 2000. During these 30 years the population earning less than 1USD a day fell to almost a third. Being that the freest economies are growing faster, and that non-free countries grow slower, it is clear which group of countries drive the reduction in poverty and which countries slow the process down. cach7 Let us see now some social and environmental indicators of interest. The following graphs show (1) child labor, (2) environmental pollution and (3) the rate of deforestation. Again, you can see the persistence of myths about supposed evils of free markets. The freest countries on average have less child labor and lower levels of pollution. The third graph shows that the least free countries, on average, produce deforestation while freer, on average, are reforesting their lands. cach8 cach9 cach10 Some brief concluding remarks. First, advocates of free market do not hold that such an economic system is perfect. But it does not help wealth creation and poverty reduction to promote market interventions with worse results than free markets because free markets are not perfect. It is unwise to make the lack of perfection the excuse to promote less efficient institutional arrangements. Second, these results hold if we look, for example, at differences in the countries that are most and least free constraining the sample only to small countries. That is, this data is not the result of an effect of "large countries" where, just for being a large country, indicators show better results. Third, the same results are also observed if we separate between more and less free countries within the 25% least free countries. This means that the theory of international exploitation does not hold. Within the least free countries, more free economies have better economic and social indicators than the least free economies in the worldwide group of the least free. Last but not least, my comments here are intended to debunk common criticisms of free markets that are widely believed beyond the Papal document in question. My comments do not address or challenge the spiritual and religious authority of the highest authorities of the Church, but it is wise to avoid confusing spiritual or religious authority with economic authority. Notes Sources: (1) Economic Freedom of the World 2013 Annual Report (Fraser Institute), (2) Free Our Economies presentation by Anthony Davies (Duquesne University) available at website and (3) 2007 Index of Economic Freedom (Heritage Foundation). This is translation (and slightly revised) version of the original article published in Infobae.

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