The True Enemy Is Cronyism

In the past, Barack Obama said that his priority is to put an end to income inequality. This political rhetoric, used in Latin America for decades, is today promulgated by the U.S. president, whose country’s economic success is due to almost nonexistent equalizing interventionism of income during its beginnings.

It’s evident that the American economy, and in general all economies, would be better off if there were less poverty. Nevertheless, what really appears to inconvenience Obama and many Latin American leaders is not so much poverty, but what they call “offensive wealth.” It’s true that inequality and immobility of income is a problem, but it’s not right to state that wealth is that problem. In effect, no relationship exists between inequality of income and the fact that a small fraction of the population is richer. The only exception to this rule is if the wealth of these “privileged ones” comes from the government.

A recent study at the University of Michigan and Columbia University suggests that an increase in income inequality is detrimental to economies when the wealthy obtain their wealth through government connections; that is to say, when a large part of the national wealth is in the hands of a small number of families with political connections. Although in the beginning this sounds very Latin American, there are many millionaires in the U.S. today that would not be so if government favoritism did not exist.

When the government tries to equalize incomes through subsidies, taxes or tariffs, it complicates the dynamics of the economy. But when the government shamelessly moves money from state holdings into the bank accounts of citizens whose only merit was to make friends with politicians, the gap between rich and poor grows even more, but without making the economy more dynamic. So where does the inequality rhetoric end up then?

The fact that a fraction of the population is richer does not destroy opportunities, nor does it impoverish the rest. What does impoverish the rest is movement of funds known as “cronyism”; that is, government favors that cause ill-gotten wealth and inequality.

If Bill Gates were to distribute all of his well-earned fortune, this would be of little help to raise the rest on the income scale; it would not increase salaries, reduce the amount of incarcerated people or improve mobility of income to push more people into the middle class. The only thing it would achieve would be that Bill Gates would become poor and those who depend on his fortune would become unemployed.

If people can become rich by offering valuable products and services at good prices, the whole economy benefits. If, on the other hand, the source of income for a fraction of the population is the result of using the state to squash competitors, this fraction becomes wealthy at the cost of everyone else. In Indonesia, a government bank gave loans at absurdly generous terms to the currently multimillion-dollar business Prajogo Pangestu. Later, government tariffs were put in place to protect its business from competition. Becoming rich off government favors creates inequality damaging to the economy.

The next time that you hear a speech against inequality of income, remember that this is not detrimental unless it’s the result of perverse “cronyism.”