In her final speech in the House of Commons on 22 November 1990, the former Prime Minister Margaret Thatcher engaged in one of her more memorable exchanges with the Member from
Southwark and Bermondsey, to explain that policies aimed at reducing the gap between rich and poor will result in everyone becoming poorer:
Mr. Simon Hughes (Southwark and Bermondsey):
There is no doubt that the Prime Minister, in many ways, has achieved substantial success. There is one statistic, however, that I understand is not challenged, and that is that, during her 11 years as Prime Minister, the gap between the richest 10 per cent and the poorest 10 per cent in this country has widened substantially… Surely she accepts that that is not a record that she or any Prime Minister can be proud of.
The Prime Minister:
People on all levels of income are better off than they were in 1979. The hon. Gentleman is saying that he would rather that the poor were poorer, provided that the rich were less rich. That way one will never create the wealth for better social services, as we have. What a policy. Yes, he would rather have the poor poorer, provided that the rich were less rich. That is the Liberal policy.
With those words (you can view the video clip HERE), the late Baroness Margaret Thatcher could have been addressing the New Zealand Labour Party. Labour has long held the belief that the gap between rich and poor can be closed by taxing the rich more. They have never understood that in the long term, policies aimed at making the rich poorer will also make the poor poorer. Steep progressive tax and income redistribution policies are based on the notion that there is only a finite amount of wealth to go around. Proponents believe that governments know best how to carve up that wealth in order to give a greater proportion to lower income earners and make society a “fairer” place.
While most people accept taxation is the necessary means by which their government funds social services and runs the country, there remains no doubt that lower, flatter taxes are the fairest. With lower, flatter taxes, those who earn more pay more – but at rates designed to incentivise the hard work, investment and risk taking that underpin wealth creation. In a free society, where individuals are able to pursue their own hopes and aspirations, a growing economic pie gives everyone at every level of society the opportunity to eventually become better off.
In his iconic book Free to Choose, Nobel Prize winning economist Milton Friedman explained it in this way, “A free society releases the energies and abilities of people to pursue their own objectives. Freedom means diversity but also mobility. It preserves the opportunity for today’s disadvantaged to become tomorrow’s privileged and, in the process, enables everyone, from top to bottom, to enjoy a fuller and richer life”.
New Zealand has always enjoyed high levels of income mobility. A recent Treasury report on income mobility in New Zealand confirmed that over time the income of families can change substantially, with mobility amongst the lower income groups the greatest.1 They found that 74 percent of the families found in the bottom 10 percent of family incomes were no longer there seven years later. Similarly, only 46 percent of those in the top decile were still there seven years later.
The study found that the link between low incomes and deprivation was not as strong as might be expected, with only a third of the people who had been on a low income for the whole of the seven year period experiencing any form of deprivation. Deprivation was however, highly prevalent amongst sole parents. In this context, deprivation is officially defined as experiencing three or more of the following: being on welfare, being unemployed for more than a month, feeling cold to save on heating costs, receiving charity, wearing worn-out shoes, buying cheap food or going without fresh fruit and veggies to save money for other things.2 However, whether those “other things” means living expenses such as power and rent, or consumables such as alcohol and cigarettes, is not clear.
The Treasury report concluded with a number of recommendations including the key point that government policy should be designed with mobility in mind. In other words, given an opportunity to improve their circumstances, most families will do so. What that means is that implementing policies that encourage wealth creation to grow the economic pie is the very best way that governments can improve society and help families to get ahead. Conversely, the worst thing that governments can do is to introduce policies that will stifle growth by crushing freedom, wealth creation and entrepreneurial aspiration.
In a recent speech “A country that works for you” David Shearer signalled that the Labour Party intends to make the gap between rich and poor an election issue: “A small number prosper, the vast majority don’t. I don’t want New Zealand to keep heading in this direction. I want us to become prosperous together and give everyone a fair share.”3
In his speech he promoted a Living Wage: “it’s the amount a person needs to earn to provide for themselves and a family”.
According to Living Wage Aotearoa New Zealand (a coalition of trade unions, community organisations and poverty action groups) the living wage rate for New Zealand is $18.40 per hour. This rate is 33 percent higher than the present minimum wage of $13.75 an hour and higher than Labour’s election pledge of a $15 an hour minimum wage. Does this mean that Labour plans to push the minimum wage up to $18.40 an hour if they become the next government? One would hope they are not so economically ignorant that they could possibly overlook the crippling impact such a move would have on small businesses and economic growth.
In the lead up to the 2011 election, Labour promised a ‘fairer’ tax system: “Labour will rebalance the tax system so that everyone pays their fair share, and build a country where everyone can prosper – not a country divided by the growing gap between rich and poor.” To rebalance the tax system they planned to establish a $5,000 tax-free zone, to introduce a 15 percent Capital Gains Tax, and to increase the top tax rate to 39 percent.4
In addition, they wanted to extend Working for Families – an income transfer scheme Helen Clark introduced in 2004 to incentivise families with children to enter the workforce – to include beneficiary families. They also want to spend $150 million to extend Paid Parental Leave for families with a new baby from 14 weeks to 26 weeks (a Labour Party private member’s bill to deliver this policy is presently in front of Parliament).
These sorts of expensive income transfer schemes are usually justified on the basis that they will help to reduce child poverty. However, there are fundamental problems with how poverty is measured, not only in New Zealand, but in many other developed countries as well.
Poverty was originally measured on the basis of the struggle that people had to acquire the basic necessities of life including food and shelter. This remains the reality of life in many third world countries where the World Bank’s measure of abject poverty, which is based on the number of people living on US$1.25 or less a day, makes sense. However, the situation in most developed countries is quite different – while there may be pockets of such poverty amongst groups like the homeless, it is no longer a major societal problem.
Over the years, in line with the rise in a country’s living standards and the establishment of a universal welfare safety net, real poverty essentially disappears. However, the term ‘poverty’ is such a powerful emotive tool that advocates of income redistribution and progressive taxation were never willingly going to let it fade away. As a result ‘poverty’ has been re-born as a relative measure.
Relative poverty is a political construct based on a country’s income distribution – people are considered poor if they earn less than a benchmark based on the median wage. In New Zealand, families are considered to live in relative poverty if they receive less than 60 percent of median disposable household income after adjusting for housing costs. With the median disposable household income for a New Zealand family of four – after paying the rent or mortgage – being around $1,000 a week, anyone living in a family of four with a weekly household income of $600 or less – after paying their housing costs – is classified as living in poverty.
But there is a problem. Due to the way that poverty is defined, poverty – that is relative poverty – can only be eliminated if everyone has the same or approximately the same level of income. This, of course, ensures that no matter how many anti-poverty programmes a government puts in place, poverty is set to stay.
Kristian Niemietz, a Poverty Research Fellow at the London-based Institute for Economic Affairs has been investigating better options for measuring poverty to avoid this pitfall:
“We should approach poverty measurement from an altogether different angle. Surveys in the UK show that people may wildly disagree on what constitutes poverty when asked in abstract terms, but when asked more specifically which goods constitute ‘necessities’ in our day and age, there is a surprisingly robust consensus. So why not build a poverty indicator around that consensus? One could assemble a consumption basket containing all the goods and services that the majority consider necessities, gather the market prices of these items, add them up, and use the total cost of the basket as a poverty line.”
This approach is similar to the well accepted ‘basket of goods’ approach that is used to calculate the Consumer Price Index. Kristian explains, “This would not just provide a more realistic account of how much poverty there is in developed countries. It would also encourage more sensible policy responses. The policy focus would be less on income redistribution, and more on creating the conditions for competitive product markets. A market structure which makes the basics of life easily affordable, right across the income distribution, can be seen as a safety net of sorts. And it is a safety net which does not trap people in dependency and inactivity.”
In his article, Kristian makes the point that since housing represents a significant cost for families, then releasing land and encouraging the building of houses in areas where shortages have driven up prices, is an important anti-poverty measure. In other words, getting the free market to work more effectively to provide consumers with a greater choice of essential goods and services at more competitive prices does everyone in society a service. This is a more responsible approach to public policy than the present focus on income redistribution, which not only undermines wealth creation and economic growth, but also increases welfare dependency and deepens the welfare trap.
If we are to advance as a country there needs to be greater honesty in the poverty debate. There needs to be an acknowledgement that, firstly, the measure commonly used in this country is a relative measure of income distribution not poverty, and secondly, that policies that make wealth creators less wealthy will not make the poor less poor.
- Treasury, A descriptive analysis of income and deprivation in New Zealand ↩
- Charles Waldegrave et al, A New Zealand Index of Socio-economic Deprivation for Individuals ↩
- David Shearer, A country that works for you ↩
- Labour Party, Election Manifesto 2011 ↩