Widening of Inequality in Japan: Its Implications

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1 Widening of Inequality in Japan: Its Implications Jun Saito, Senior Research Fellow Japan Center for Economic Research December 11, 2017 Is inequality widening in Japan? Since the publication of Thomas Pikkety s book, the issue of inequality has come into the spotlight. Looking at data such as the income share of the top percentile income earners, he argues that many countries have seen a widening of inequality. The reason according to him was the large amount of compensation that super managers received and the growing wealth that are accumulated through inheritance, and through high return on the financial assets. It is considered to be applicable to USA and the developed European countries. In comparison, Japan was seen as an exception, witnessing only a limited widening of inequality, as can be seen in Figure 1. Figure 1: G5 Countries: Top Percentile Income Share 25% 20% 15% 10% 5% 0% France Germany Japan UK USA (Data Source) World Income and Wealth Database However, observers who focus on other indicators point out the evidences that show a widening of inequality is also taking place in Japan. This month s column examines the data provided by OECD and others to see whether a widening of inequality has actually taken place in Japan, and what is the implication of the situation

2 In the aggregate, widening of the inequality seems to be limited in Japan There are number of indicators about inequality that can be obtained from OECD. They include Gini coefficients and relative poverty rates. The Gini coefficient for Japan can be seen in Figure 2. It shows that the Gini coefficient for the market income, before taxes and transfers, has gradually risen: It implies that inequality has widen in this respect. However, Gini coefficient for the disposable income, after taxes and transfers, is staying relatively stable. Figure 2: Japan: Gini Coefficient Gini (disposable income, post taxes and transfers) Gini (market income, before taxes and transfers) As a result, as Figure 3 shows, the Gini coefficient after redistribution for Japan is only slightly higher than the median, considerably lower than the United States and the United Kingdom

3 0.50 Figure 3: OECD Countries: Gini Coefficient of Disposable Income (For 2014 or latest year) Iceland Norway Denmark Slovenia Finland Czech Republic Belgium Slovak Austria Sweden Luxembourg Netherlands Hungary Germany France Switzerland Poland Korea Ireland Canada Italy Japan New Zealand Australia Portugal Greece Spain Latvia United Estonia Israel Turkey United States Mexico Chile OECD The difference between the Gini coefficients of market income and disposable income comes from the redistribution made by tax and transfers. Compared to other countries, the redistribution power of taxes and transfers are in fact not that big, as Figure 4 shows. Figure 4: OECD Countries: Impacts of Redistributions on Gini Coefficient (Percentage reduction of market income inequality, for 2014 or latest year) 40% 30% 20% 10% 0% Mexico Chile Turkey Korea Japan Switzerland United States Israel Latvia Estonia New Zealand Canada Australia United Italy Sweden Spain Iceland Slovak Poland Germany Hungary Netherlands Norway Portugal Greece Czech France Austria Luxembourg Denmark Belgium Finland Slovenia Ireland OECD Among the income redistribution measures, Japan s feature is that it depends more on transfers rather than taxes. The improvement in Gini coefficient is much more significant - 3 -

4 for transfers than taxes, as Figure 5 shows. Figure 5: Japan: Impact of Redistribution measures on Gini Coefficient Before Redistribution After Transfers, Before Taxes Disposable income Gini A similar observation can be seen in relative poverty rate as well. As Figure 6 shows, while the relative poverty rate before taxes and transfers is rising, that after taxes and transfers is relatively stable. (Percent) 0.35 Figure 6: Japan: Relative Poverty Rate Poverty rate before taxes and transfers, Poverty line 50% Poverty rate after taxes and transfers, Poverty line 50% - 4 -

5 However, the situation looks somewhat more serious if we compare the rate with other countries. As Figure 7 shows, among the OECD member countries, Japan belongs to the group where the relative poverty is high, close to the United States, and much higher than the United Kingdom. Figure 7: OECD Countries: Relative Poverty Rate (Percent) Iceland Denmark Czech Republic Finland Norway France Slovak Luxembourg Netherlands Switzerland Sweden Ireland Austria Germany Slovenia New Zealand Belgium Hungary United Poland OECD Canada Australia Italy Portugal Latvia Korea Greece Spain Japan Estonia Mexico Chile Turkey United States Israel The reasons for the high relative poverty rate in Japan The high relative poverty rate has been examined closely by researchers. The main factors that has been identified are the following. First is the aging of the population. There has been a higher relative poverty rate among the elderlies. Since aging means the share of the elderlies is going to be higher, it should lead to an increase in the relative poverty rate for the society as a whole. This fact can be confirmed by looking at Figure 8. It shows that the age groups of those aged 76 or more has the highest poverty rate, followed by the age groups of those aged between 66 and 75. In passing, it should also be noted that, while the rates are relatively high, they haven t risen in the recent years: It is probably because of the redistribution taking place through transfers, i.e. pension benefit payments

6 (Percent) 0.3 Figure 8: Japan: Relative Poverty Rates for Different Age Groups Age group 0-17 Age group Age group Age group Age group Age group Age group 76+ The elderlies, especially when they become a single member household, tend to face difficulty. It has shown up in the increasing number of elderlies who has become subject to social assistance programs. Figure 9 shows that the number of elderlies under assistance has risen significantly since the 1990s. 1,800,000 1,600,000 1,400,000 1,200,000 1,000, , , , ,000 Figure 9: Japan: Number of Households Under Public Assistance Total number of households under assistance Mother and children households Other households Elderly Households Handicapped households (Data Source) Ministry of Health, Labor and Welfare - 6 -

7 Second is the increase in non-regular workers. They are paid less than the regular workers. Since their share in total employees are rising, reaching almost 40 percent in FY 2016, relative poverty rate should be rising. The rise in the relative poverty rate in the age group of those between 18 and 25 should be, as shown in Figure 8, reflecting this kind of a trend. It could be that the impact of this development may be limited. That is because the population belonging to this age group is falling due to the aging and the shrinking of the population. Third is the increasing poverty in single parent households. Divorce rate has risen in the recent years (the number of divorce has increased by 31 percent during the thirty years to 2016). As a result, it has led to an increasing number of single parent households, particularly single mother households. Since they have to rely more on non-regular work, their relative poverty rate is high. Seeing this from the children side, there is an increasing relative poverty rate of children. As Figure 8 shows, the relative poverty rate of the age group of those who are younger than 18 has gradually been rising. Tradeoff between growth and equality: Japan s choice The discussion above shows that the inequality issues are becoming more and more serious in Japan. Policies to address the problem should be strengthened: safety nets need to be improved to support those who are in need. However, in order to understand the special feature of the inequality taking place in Japan, we also need to take note of the differences in the composition of the inequality with other countries. As we have already seen, the income share of top percentile income earners have not increased much as in other countries, especially the United States and the United Kingdom. Widening of the inequality is not because the rich has become richer. In addition, there is a difference in that, in Japan, the inequality in the prime age workers have not increased. Looking at Figure 8 again, we can see that the age groups of those between 26 and 40, 41 and 50, and 51 and 65, are rising but only modestly compared to other age groups. Widening of inequality is taking place because of increase in poverty in certain groups among the middle and low income earners. Where does this difference come from? It is difficult to understand that if technological changes and globalization have taken place, like other countries such as the United States and United Kingdom, it should have led to a high level of inequality like in those - 7 -

8 countries. There are two possible answers to this question. One is that the Japanese polices have been successful enough to put a cap on the rise in equality. Even if technological changes and globalization have taken place, active labor market polices in the field of providing sufficient education and training opportunities, and improving matching between potential employers and potential workers, might have offset the pressure to widen inequality. However, public expenditure for active labor market policies in Japan is very low compared to other countries. As Figure 10 shows, Japan belongs to the group of countries with lowest spending together with the United States. Successful policies do not seem to be the answer. Figure 10: OECD Countries: Public Expenditures for Active Labor Market Policy (Raitios to GDP, percent) Denmark Sweden France Finland Hungary Netherlands (2014) Austria Belgium Luxembourg Germany Spain Switzerland Ireland Portugal OECD countries Norway Italy Poland Czech Republic Korea New Zealand Lithuania Canada Slovenia Australia United Kingdom (2011) Estonia (2014) Slovak Republic Chile Israel Japan Latvia United States Mexico It leaves us with the other answer: Japan may have not been facing technological changes and globalization as in other countries. The low growth in labor productivity in Japan does seem to confirm the slow progress taking place in Japan in adapting technological changes. The protection against imports in sectors like the agricultural sector, insignificant inward foreign direct investment, and restricted immigration also seem to confirm the limited exposure of Japan to globalization

9 If this is the reason behind the special features of the widening of inequality in Japan, it is quite different from what is usually considered to be behind the widening of inequality in other countries. Overcoming the tradeoff: Can both growth and equality be pursued? Widening of inequality is a serious threat to the society. There is no denial that it should be avoided as much as possible. If the cause is clear, we should eliminate it. However, the solutions become complicated if the cost of eliminating the cause of the widening of inequality is to give up opportunities to grow. This seems to be the kind of tradeoff we are facing in Japan. Technological change and globalization provides opportunities to an economy by expanding the production frontier (by technological change) and improving efficiency so that the possibilities provided by the new frontiers can be fully exploited (by inward globalization). However, it could lead to wider inequality. Facing the tradeoff, we have so far opted to sacrifice technological change and globalization (and thus sacrifice growth) so as to avoid widening of inequality (and to maintain the stability of the society). If the growth prospects are to be improved, we need to transform the orientation of polices towards growth. And if that is the choice we are going to make, the new set of policies should include those that contribute to enhancing technological change and globalization. However, the new policy orientation could lead to wider inequality, as we have argued. Therefor we need to complement the new set of polices for promoting growth by introducing another set of policies that would address the potential threat to the society. Improving education opportunities to acquire new skills, providing training opportunities to improve human capital that has become obsolete, and strengthening matching function of jobs, are of urgent need. The discussion of introducing free education, that is taking place at the moment, should be expanded to include wider policies of this kind in the prospect