Growth, poverty, inequity, and freedom

The Asia Liberty Forum interview with Professor Raul Fabella

(Part 1)

The Atlas Network (https://www.atlasnetwork.org/) partnered with the Foundation for Economic Freedom or FEF (https://www.fef.org.ph/) to organize and host the “Asia Liberty Forum” in Manila on Sept. 29-30. We brought together friends of the freedom movement across Asia to discuss challenges facing the region and to learn from one another how to most effectively advance free-market reforms. One hundred forty-seven Atlas Network partners, academics, economists, journalists, students, and many other proponents of the freedom movement from 22 countries gathered in Manila. Through panel discussions, break-out sessions, the Asia Liberty Awards Dinner, and other events, attendees heard from leaders from across the continent about the challenges and opportunities ahead for liberal democracy.

One of culminating events was an interview with economic freedom champion, our only living National Scientist in Economics, former Dean and UP Economics Professor Emeritus, Raul Fabella. I am proudly his fellow “Introspective” columnist in this space, co-author of Momentum (Momentum: Economic Reform for Sustaining Growth, 2019) and Momen2m (Momen2m: More reforms for Economic Growth, 2021), and, together with Calixto Chikiamco, Philip Medalla, the late Dondon Paderanga, Mahar Mangahas, and others, co-founded the FEF.

It was my honor to interview my friend of long standing — since 1977 when we first met, both economics graduate students, at a bus stop in Washington DC. The interview follows below:

Romeo Bernardo (RB): I will act as a provocateur to help bring out Raul’s thoughts. Apologies if questions seem Philippine centric, though they could just as easily apply to other developing countries, where majority of our participants here come from.

We hope to cover relationship between economic freedom, growth and inequality, rule of law and inclusion/inequality (including where human rights fit in), the retreat from liberal economic regimes towards authoritarian/statist regimes (coming from the right and the left) we are observing globally, the role of civil society organizations like the FEF and how we may strengthen.

In a column you wrote in 2014, “On poverty, inequality, growth,” you expounded on how a developing country like the Philippines should view the then-just-released book (both celebrated and scorned) of Thomas Piketty.

At the risk of oversimplifying, these were my own take-aways from your column:

• sustained growth is paramount, especially for a developing country with substantial poverty like the Philippines.

• right market based policies and institutions essential to sustain growth. Excessive inequality can also be corrosive of sustained growth.

• poverty reduction should be higher priority than reduction of inequality. As illustrated in the case of China started by Premier Deng, inequality may well be a corollary of pursuing market policies and thus the price of graduating hundreds of millions out of poverty.

Have I captured your views correctly? Can growth be sustained with inequality increasing?

Raul Fabella (RF): A. Poverty reduction should be a higher priority than income inequality in low-income countries and in weak governance environments, the state should retreat to its Smithian competitive competence and cede to the market activities where the market has superior competence. The state and the market can cooperate in PPP (public-private partnership) projects. Excessive inequality can shorten the duration of growth (Berg and Oster, 2011): social unrest can be a corollary to excessive inequality.

B. Growth is sine qua non for poverty reduction but some [kinds of] growth are more equal than others. Growth led by Manufacturing and Tradables are more poverty reducing than growth led by the Services sector (Fabella, Daway-Ducanes, Ducanes, shortly to appear).

C. Growth can be sustained with increasing inequality: witness the MDG [Millennium Development Goals] (1990-2015) experience of PRC [the People’s Republic of China]: rapid growth reduced poverty incidence to 5% — 600 million people [were raised] out of poverty — but raised income inequality from 31% to 43%.

This was the message of front end of the Kuznets inverted U hypothesis: inequality as Gini ratio first rises with rising wages, second, reaches a ceiling, and finally, begins to fall with further increases in wages. The rise in equality in the front end is understood to be in aid of economic growth. Sustained increases in wages cannot be realized without sustained economic growth. The US Constitution itself says as much when it asserts that inequality should be foreborn as long as it advances the common good. There is such thing as welfare advancing inequality. What is that point where inequality is most productive of the collective weal is anybody’s guess.

Piketty (2011) however showed that in normal times, the second and third part of the Kuznets curve does not exist for well-governed advanced economies in the West; he gave evidence that income and wealth inequality rises progressively in these economies and it is not due to some garden variety market failure. It is rather a meta-market failure that Marxists and Socialists in the 1930s riled up against as the fatal soft underbelly of market economies. A case in point is the PRC economy over the MDG period from 1990 to 2015: the economy grew at a record pace while income inequality rose from GINI 31 in 1990 to GINI 43. The rise in the rank of Chinese dollar billionaires was in exchange for the 600 million Chinese being graduated from abject poverty. Few would say “no” to such a tradeoff.

RB: How about the effect of income inequality on freedom and what it implies on human welfare broadly defined apart from possible drag on sustained economic growth? Also, should we not worry about concentration of wealth and political power?

RF: A. Economic freedom — That rising income inequality can impair economic freedom is an arguable point: where the concentration of wealth readily translates into political power, economic freedom may be curtailed by wealth-sponsored-legal mandates that favor monopolies and cartels. Contrarily, economic freedom can unleash the power of the market which results, as Piketty showed, in rising income inequality. The causation can work in either direction. There is no evidence that rising income inequality curtails economic freedom. Piketty feared that wealth inequality would rather curtail or blindside political freedom.

In the Robber Baron era (1870-1900), political power was suborned to economic power and but major economic freedom legislations were enacted: e.g., the Sherman Anti-Trust [Act], etc. Enforcement of anti-trust was however spotty at the start but eventually improved with the Fair Trade Commission law.

B. That inequality impairs political freedom is Piketty’s fear but is arguable: it is clear that political power beholden to economic power can legislate anti-union and tariff protection laws. But the decline of unionism in the USA had little to do with anti-union laws and more to do with economic liberalization laws allowing imports to gut the US steel and textile industries. On the other hand, there is a school of thought that says that a rising middle class could provide the agency for greater political liberalization, say, more inclusivity in voting rights and the allocation of fiscal resources.

RB: In the case of the Philippines, the most egregious evidence of concentration of economic and political power is the pervasiveness of political dynasties, which are either themselves directly engaged in business, mostly of the rent seeking monopolistic types in their areas, if not illegal activities like gambling, or are partnered with such commercial operators both local and national. Our 1987 constitution recognized its pernicious impact on genuine democracy and economic welfare, but was never operationalized in law. Instead, there seems to have been an expansion and deepening since then, as studied by Prof. Ron Mendoza. Your thoughts on this?

RF: Political dynasties: here the evidence is also mixed. The relation between political dynasties (granting that we have a fool-proof definition we can all agree on) and income inequality is difficult to establish as causation rather than just association. The rise of political dynasties in democracies is affected by and large by economics, i.e., economies of scale: an election victory gives winner broad name recall, brand and franchise asset and an election network which reduces the cost of campaign for the rest of his/her kin. Contestability of entrenched family machineries can, if infrequently, come from black swan events (Isabela’s polio-stricken Grace Padaca) and more readily by another entrenched family — incumbent newcomer Governor Art Yap’s machinery in Bohol, considered formidable, was swept away by the machinery of the older Aumentado family.

(To be continued.)

Romeo L. Bernardo was finance undersecretary from 1990-1996. He is a trustee/director of the Foundation for Economic Freedom, the Management Association of the Philippines, and the FINEX Foundation. He is the principal Philippine Adviser of Globalsource Partners (globalsourcepartners.com). He also serves as a board director in leading companies in banking and financial services, telecommunication, energy, food and beverage, education, real estate, and others.

romeo.lopez.bernard@gmail.com