Ryan Bourne said this morning on Twitter:
Inequality puff pieces and junk papers just can't answer a simple question: how does a larger gap of outturn income reduce productivity growth?
Here are some possible mechanisms.
1. Inequality might demotivate poorer-paid employees because they look to star employees and bosses to help the firm rather than take the initiative themselves. One study of Italian football teams has found that "high pay dispersion has a detrimental impact on team performance." This is consistent with Jeffrey Nielsen's argument that leader-based organizations cause an under-utilization of employees' abilities.
3. Inequality reduces trust. As Eric Uslaner and Mitchell Brown have written (pdf):
Economic inequality leads to less trust in two ways. First, high levels of inequality lead to less optimism for the future. Greater pessimism means less trust. Second, where there is a lot of inequality, people in different economic strata will be less likely to have a sense of shared fate.
There's strong evidence that low trust leads to lower growth. One reason for this is that trust helps to overcome "markets for lemons"-type problems of asymmetric information. As Deirdre McCloskey wrote: "business normally depends on a state of trust not on explicit contracts."
4. Where inequality is high, the rich will invest (pdf) a lot in simply protecting their privilege - for example in intellectual property protection, police, security guards, lawyers and so on. This diverts resources away from productive use. Stephen Magee shows (pdf) that there's a hump-shaped relationship between the number of lawyers in a country and economic growth - and the unequal US has too many lawyers.
5. At high levels of inequality, the rich might fear that property rights are insecure - because they might fear revolution, a harshly redistibutive backlash or simply theft. This deters investment. As Ronald Beanbou wrote (pdf): "inequality exacerbates social conflict, which in turn makes property rights less secure and reduces growth."
6. Inequality can prevent a shift to more productive organizational forms. There's reasonable evidence to suggest that worker coops can be at least as productive as their hierarchical counterparts. Which poses the question: why aren't there more of them? One reason lies in inequality. Poor workers lack the access to credit that would allow them to buy their firms. And even if they had such credit, they might not want to own the firm simply because doing so is risky; it entails putting all one's eggs into one basket. In a more egalitarian economy, these problems could be smaller.
Now, these mechanisms - many of which are discussed more expertly in Sam Bowles' The New Economics of Inequality and Redistribution - will vary in strength from time to time and place to place. And no doubt, Ryan can think of potentially offsetting ones.
But there's one big fact which hints that they might be significant. Productivity growth has been much lower recently than it was in the 80s. This should be puzzling to people like Ryan, because for years they've told us that Thatcherite reforms in the 80s should have boosted productivity growth. So why has it fallen? Might it be that the benefits of those reforms have been offset by the fact that the increased proportion of income going to the 1% depressed productivity through the above mechanisms?
I can't prove this to Ryan's satisfaction. But shouldn't we at least take the possibility seriously?