Paul Krugman and Joe Stiglitz have been debating the role inequality has played in contributing to the US's weak recovery. As chance would have it, three new papers suggest that Stiglitz is right to worry about its effects.
First, Roland Benabou and Jean Tirole model how competition for "talent" can damage companies and the economy, by diverting workers' efforts from important but hard-to-measure jobs and over-incentivizing the easily measured aspects of performance:
Highly competitive labor markets make it difficult for employers to strike the proper balance between the bene fits and costs of high-powered incentives. The result is a bonus culture that takes over the workplace, generating distorted decisions and signi cant efficiency losses, particularly in the long run.
It takes no imagination to apply this to banks and CEOs' pay generally.
Secondly, some laboratory experiments with asset markets have found that short-term bonuses can contribute to larger and longer price bubbles. This is consistent with the theory that big bonuses (and hence inequality) contributed to the crash by inflating the bubble in mortgage derivatives.
Thirdly, Eckhard Hein suggests that the high-powered incentives that contributed to rising inequality:
[have] imposed short-termism on management. This meant a decrease in management’s “animal spirits” with respect to real investment in capital stock and long-run growth of the firm, and an increase in the preference for financial investment, generating high profits in the short run.
These three mechanisms are very different from the underconsumptionist theory of which Krugman is, I suspect rightly, sceptical. But inequality doesn't just affect economic performance through macroeconomic channels. It does so through microeconomic firm-specific ones, and through "cultural" mechanisms, such as, in Benabou and Tirole's model, eroding non-monitorable work ethics.
In suggesting this, however, I don't want to suggest that rising inequality matters only for its effects upon economic performance. Even if its effects were benign - which is darned hard to show - leftists would still have social and ethical objections to it.