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Wednesday 03rd August 2022
Relationship between high Inequality and Corruption

The world economic forum held this year reported that one of the top global trends that will affect global markets was the rising income and wealth inequality, along with other issues like climate change, terrorism, infectious diseases, cyberattacks, immigration, ageing population and loss of global cooperation under the weight of nationalism.

How serious is the problem of inequality in Lebanon?

As per the Carnegie Endowment scholar Lydia Assad, the richest 10% and 1% of adults accounted for 56% and 23% of the total national income, respectively, and only 3,000 nationals, the Top 0.1%, accounted for a full 10% of the national income!

Under the system of laissez-faire capitalism that we adopted, it is generally believed that what matters most is the growth rate and not who gets how much. As long as there is growth, everyone will get a part of that pie And that this “invisible hand” in economics would make the markets just and efficient. But that is only true when there is no corruption, which has certainly not been the case in Lebanon. The prosperity and wealth accumulation because of these policies have been concentrated in select top income categories.

The biggest challenge for any statesman is how to design the political and economic systems such that even the most corrupt person finds it in their self-interest to act in an honest way. Could we have averted the economic disaster if we had less inequality? Is there a connection between corruption and high inequality? I decided to find out. Below are my notes from the research.

Effect of Inequality on Corruption

The field of research in this area is rather young. Hence there are very few papers on the topic. The following observations are based on the papers I read.

The most agreed-upon conclusion is - Inequality fosters corruption, but it is not the other way around.
According to most researchers, high inequality promotes corruption, but not the other way around. There is less evidence that corruption contributes to income inequality. (ref)

The contrarian conclusions on the relationship between Inequality and Corruption are the following:

1. Inequality does foster Corruption, and it is vice-versa also.
In a paper based on a study and research among OECD countries, the authors conclude that it is too naive to conclude that only income inequality can affect corruption because the reverse might be true as well.

2. Inequality is associated with low levels of corruption
Another paper on African countries contradicts the OECD's findings. This was the most counter-intuitive and surprising result. The author says,

"Inequality is associated with low levels of corruption which is suggestive of a changing relationship between income inequality and corruption among countries on different income trajectories."

Why the varied results?

There are several other known and unknown variables which will affect the levels of corruption besides high inequality. It seems that whenever systems are complex, we can expect contradictory results. For e.g., it is also found that inequality affects corruption positively only "if interacted with the variable representing the total expenditure on education, which can be thought of as a proxy for human capital."

Another factor is the perception of corruption. If inequality is very high, the conclusion is that the skewed economic rewards are because of a corrupt public sector. This results in assuming corruption as a social norm, which in turn leads to more corrupt practices and higher inequality.

Solutions for Economic Equality

When we think of small governments, we assume smaller governments are less corrupt. Recent research concludes this is not the case. A bigger government can prevent the competing elites from rent capture. So Inequality can lead to higher corruption if the government size is small, which is true in the case of Lebanon.

Just a note of clarification about the discerning factors between small and large government sizes. A larger government does not necessarily mean it has more people in the administration. A larger government is about how much power it has to enforce reforms and the qualifications and capabilities of the people in the government.

Another way of having a large government is to spend more welfare money on education. This redistribution of wealth from education welfare means more qualified and capable people are available to serve in the government. In turn, the resulting larger government is better able to prevent rent capture of state resources and thus reduce inequality.

Conclusion

Whether Inequality does affect corruption or not is for the experts to prove, discuss and decide. But for any decent country, it is a shame to see its citizens driven to poverty because of the corrupt system.

We need to find better mechanisms for the redistribution of wealth and see that the education sector gets prioritized. Bringing in more qualified people into the public sector seems to be the optimum solution to the problem of high inequality. This initiative will then translate into a larger government which is then able to reign in the squabbling elites and Lebanon can move towards achieving higher economic equality.

Inequality has a corrosive effect not just in the public sector but also in the private sector too. If the CEO's pay is high, he performs worse because his economic incentives are not aligned with achieving the company's objectives. Instead, he uses his capabilities to defend his status and position.

Lebanon has been going through a brain drain since the October revolution as people are not able to find appropriate jobs in the public or private sector. How can we take advantage of our existing educated human resources and get them involved in the public sector? This is another issue which needs immediate attention to prevent further brain drain.

I believe we need to start small, almost like a startup. A startup mentality can be the most effective way to change the world. For e.g., a blockchain startup could help bring transparency in keeping records so as to avoid tax evasion. We need technological innovations to deliver education at the lowest cost and fastest pace to achieve this vision.

If you are an innovator or a technology entrepreneur working on solving social issues, please get in touch with me; I would do my best to support such an initiative.

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