Dr Adam Posen Discusses the Meaning of Inclusive Capitalism

Dr Adam Posen
President
Peterson Institute for International Economics

If you were to go out into the streets in many of the places where you invest and do business, and ask people "what does inclusive capitalism mean?" they would probably not speak about short-termism of institutional investors driven by ratings agencies. And they probably would not speak about environmental sustainability for the next 100 years, either (even if we would want them to). More likely, they will ask: "Why don't people like me get a fair share? Why aren't I getting paid enough?" We have to address that.

The word 'workers' seldom arises in our discussions of inclusive capitalism. As an economist, and as someone who hangs out with business people, I fully understand why that is the case. But if we are talking about inclusive capitalism and the words 'workers' and 'pay' don't come up, this is a problem. If we want to be honest, we must admit that some of the people in this inclusive capitalism movement are concerned more with protecting themselves and their businesses from political attack or over-regulation than they are with long-term returns and sustainability, or with broader morality. But if that is the goal, then there is even more reason to be responsive to issues around the treatment of workers.

We have to be aware of just how big a shift there has been in shares of income from labour to capital. You can break down every economy into the share of national income that goes to ownership (dividends, interest, etc.) versus employees (wages, bonuses, etc.). Over the past 15 years in the US, the share of national income going to capital has continued to increase, by 7% of GDP, cumulatively, over the period. That's equivalent to about $1.7 trillion extra going to capital rather than labour, every year.

This trend has lasted through the global financial crisis and the boom years preceding it. In fact, the labour share in the US has been declining for roughly 40 years (interrupted by a few years in the late 1990s internet boom and Clinton-era policy changes, only for the trend to return with the bursting of the bubble in 1999).

The same trends have been visible in the Eurozone, though the rise has been a little less steep. Since we know that business revenues went down an awful lot during the crisis, and we observed that profits remained largely stable in euro terms, it is clear that most of the adjustment was done by labour. Greece, Spain, Italy, Portugal, Estonia, Latvia - all the countries doing internal devaluations - saw wage cuts of 25-30% at the same time that unemployment doubled on average: when times got hard it was labour that took the hit.

Indeed, the trend has been the same for pretty much every advanced economy. Recent OECD data show that even countries that we normally think of as leaning against major moves in inequality - such as Sweden, Germany and Japan - show similar declines in labour share.

It is important to recognise that most medium to large companies are not on a knife's edge with respect to labour costs. This fact sometimes gets lost in the public debate. Were an employer to incrementally increase wages, it is not as if the company would suddenly fall out of global competition. In recent Peterson Institute work, supported by the ERANDA Foundation, we showed that some of the most successful exporting countries (such as Belgium, Finland, Germany and the Netherlands) pay their lowestskilled and lowest-paid workers the highest wages, relative to other countries. Furthermore, these countries tend to have higher labour force participation; invest in workers more, pay more, and you get an equilibrium with a higher demand for and supply of lower-skilled workers.

Many of us tend to think that wage trends are determined by very large, impersonal forces such as globalization and the impact of automation on low-skilled labour. We end up thinking that lower pay is really nobody's fault, that it is not due to the conscious decisions of employers. The evidence suggests, however, that there is more room for both employer and national policy choices about these pay scales than we might think.

Furthermore, as a political as well as a moral imperative, can we allow these trends to continue? Instead of just accepting their efforts around corporate social responsibility (CSR), we really need to ask companies to adjust their models so that they 'do well by doing good' for workers, in terms of pay, benefits, and training.