How to Mitigate China’s Income Gap

China has become one of the countries which have the deepest gap between the rich and the poor since the reform and opening up. At present, there are three major problems existed in the initial income distribution: 1. wages of migrant workers are lower than that of urban workers; 2. the income gap among industries is too large; 3. the collective wage negotiation mechanism is distorted.

Household registration system gives citizens different political and economic rights, which has a great impact on income distribution. In 2008, the average wage of migrant workers in the export processing enterprises in Guangzhou, Shenzhen, Dongguan, Hangzhou, Nanjing, Shanghai and other Yangtze River Delta, Pearl River Delta cities rarely exceeded 40% of the local average wage of urban workers. The biggest difference was in Dongguan, the monthly average wage of urban workers was 3,293 Yuan while that of the migrant workers was only 971 Yuan, less than 30% of urban workers’.

The income gap among industries is also caused by rights setting. Under government’s access restriction in industries like electricity, telecommunications, finance, insurance, tobacco etc, there’s little competition from non-state enterprises. Studies have shown: the actual income in these monopoly industries is about 10 times higher than that of other industries. What needs to be noted is: within these monopoly industries, there are different classes and groups according to different individual rights, and their inner contradictions and interest conflicts are severe.

In a word, 30 years’ development with severe distorted citizen rights setting in China led to an unfair income system. In such situation, the current income distribution reform with only micro adjustments has become a zero-sum game in fact.

In November 1990, U.S. President George Bush signed a new decree: 10% of extra tax shall be paid if people buy luxury cars with a price more than $ 30,000, yacht with a price more than $ 100,000, precious fur more with a price than $ 100,000, and private jet with a price more than $ 250,000, which is called “luxury tax". In politicians’ opinions, the increased revenue from luxury tax can be used to help the poor.

However, good intention doesn’t always mean good result. Politicians do not take this into consideration: although the rich are able to afford the 10% tax, yet their purchase is very flexible: they can purchase yacht from the British Virgin Islands, the Amman Islands, the Bahamas, Mexico, and then bring back to the United States as a second-hand yacht; their demand is elastic: with another 10% tax, they can take a vacation or buy watches and diamonds instead of the yacht. However, the Yacht industry is not so flexible, it’s impossible for them to produce other products in a short term; its workers are not able to change jobs in a short term. Therefore, the luxury tax has few affect on the rich, but it seriously hurt workers in related industries. In 1991, the U.S. yacht industry suffered heavy loss, with a decrease of 77% in sale, many manufacturers went bankrupt, and at least 25 thousand workers were unemployed. Finally, the unemployment benefits paid by the government were much more than the income of the luxury tax. Then, in August 1993, President Bush hastily revoked the luxury tax for yachts, private jets and fur.

In economics, the price elasticity determines how the buyer and seller share the tax, so is the reform: no matter how perfect the initial policy design is, in practice, it shall ultimately be shared in accordance with the rights elasticity: the vulnerable groups shall bear more costs and benefit less while the powerful groups shall bear less costs and benefit more. Therefore, the vulnerable groups shall bear the cost even though the reform is against the vested interests groups.

Among the proposed Wage Regulation, some provisions are aimed to gradually reform to adjust the vested interests groups. However, based on the principle of “rights elasticity”, poorly paid workers may be hurt first in practice. For example, when a state-owned enterprise lies off employees or cuts salary, the first to be hurt is not staffs in the office with little things to do, but workers in production line. So the reform aims to improve incomes of the vulnerable, but in fact it hurts them again.

To some extent, the privilege is the root of the unfair distribution, and only resetting  rights can solve this problem in a whole.

Originally published on Netease | 2012-11-15