Government payouts don’t fix income inequality, says BOI chief
In her first public address, Karnit Flug says cutting subsidies to the poor has helped increase labor market flexibility
Capitalism – or at least reducing the impact of government payouts on the economy – works, according to Karnit Flug, the new governor of the Bank of Israel. In her first public appearance in her official capacity, Flug said that Israel was still very much a society of haves and have-nots, but that the gap between them was less pronounced than it had been been a decade ago.
Flug was speaking Wednesday at an event discussing income inequality in Israel, sponsored by the Taub Center for Social Policy Studies. In recent decades, Israel has slipped considerably, to the bottom of the rankings for income equality among OECD countries.
Israel’s Gini Coefficient, a measure that indicates how much of an income gap there is between the wealthiest and poorest members of a society, shows that income inequality has grown considerably since the 1990s. In last year’s OECD Factbook of economic statistics, Israel was rated one of the most inequitable of the 34 OECD countries: 30th on the list, just ahead of the US, Turkey, Mexico, and Chile, the worst OECD “performer.” Flug cited these statistics as evidence of the problem, and the need for greater income equality.
The question, of course, is how to accomplish that. Most politicians believe that direct intervention by the government to increase incomes, via transfer payments, is the way to go. But judging from statistics, said Flug, incomes were more equitable when the government reduced transfer payments to the poor, a counterintuitive, but evidently effective, policy.
Income inequality grew not just in Israel since 1985, Flug said, but in the entire Western world, but it grew faster in Israel than it did elsewhere. That growth has slowed somewhat in the early years of the 21st century. Since 2004 or so, there has been a slow but clear trend for a gap reduction in pre-tax wages for the highest-paid and lowest-paid workers in Israel. The best earners in Israel still make more than ten times the amount of those that earn the least, before taxes, but the gap has been closing.
Meanwhile, Flug said, 50% of Israelis don’t pay income tax at all, “due to Israel’s very progressive tax code,” and the fact that low-earners kept nearly all of what they earned (except for National Insurance payments) has contributed to lessening the gap, she said. With that, the gap between the wealthiest and the poorest in disposable income has stabilized and remained constant since 2008, after it, too, shrank somewhat in the preceding years. Higher basic living costs, especially for housing, could be responsible for this.
All these trends have progressed at a time when the government has been cutting transfer payments, Flug said.
Recent cuts in child allowance payments, according to pundits, should have significantly increased the income gap, but based on statistics, she said, the opposite has happened. For those who held jobs, the income gap has lessened considerably, while it has remained constant for those who do not work, such as career yeshiva students.
It appears, Flug said, that the fact that Israeli workers were being forced to depend more on themselves has had an impact on the job market.
“The labor market has become more flexible since the 1990s, and as a result, the level of wages and the unemployment rate have become very sensitive to the business cycle. For instance, during the recession that began at the turn of the century, wages fell by 10% and unemployment rose sharply, and then, the trends were reversed with the recovery in macroeconomic activity several years later,” Flug said. At the time, the government had significantly reduced the level of transfer payments, and that correlation showed itself again in the years following the world economic crisis of 2008, from which Israel (and Israel’s employment market) recovered more quickly than any other OECD country.
As a result, Flug said that she could safely declare “there is a clear trade-off between labor market flexibility and inequality in disposable income. The recent process of reducing transfer payments on the one hand, and the reduction of direct taxes on the other, contributed to increased flexibility in the labor market, but also to an increase in disposable income inequality.”
Flug indicated that she planned to stick to the course forged by her predecessor and long-time boss, Stanley Fischer. As such, it’s likely that the debate between economic liberals and fiscal conservatives about the appropriate level of government intervention in the economy will continue.
Speaking at the event, Labor MK Isaac Herzog said that the fact that 20% of Israelis were living below the poverty line was “shocking. It’s not just haredim and Arabs. What’s most worrying is that a good number of the working poor are below the poverty line.” The government, he said, must do much more to increase the level of employment among Israelis, and the amount they are paid.
