Wealth and income inequality has never played a major role in the health of financial markets. That is about to change.
The impact of COVID-19 will exacerbate inequality in the Asian region, which was already on the rise before the pandemic. The disproportionate impact on contact-intensive industries which predominantly engage workers with lower skill and wages, low spending by businesses, and accrual of financial market gains to higher income groups will all be ongoing factors.
Closing the gap will require higher social spending. A durable step-up in social spending was also a stylised feature of fiscal policy in the region after the Asian and Global financial crises. Even so, social spending in Asia remains considerably lower than in the OECD economies.
Whether higher social expenditure is funded by higher taxation rates, larger budget deficits, or a combination of the two, there will be implications for growth and fixed income markets in the region.
Higher budget deficits may also require further accommodative monetary policy, particularly when the currently favourable liquidity conditions recede.
The COVID-19 pandemic is set to accentuate income and wealth inequality via at least three sources. The best-documented of these is the very nature of the pandemic, which has taken a disproportionate toll on contact-intensive sectors such as tourism, recreation, retail services and domestic help.
Youth and female participation rates are higher in these sectors. In contrast, higher skilled and higher paying employment has been shielded from the pandemic as these jobs are less location specific.
The skill-based divide present before the pandemic has widened even further. It is manifest in various indicators ranging from reduced hiring of low-skilled temporary workers, a rise in the labour intensity of agriculture in India and Thailand, the widening gap between earnings of the top and bottom quintiles of workers, and the comparatively greater rise in unemployment rates among less educated workers.
The second and relatively less-documented source of inequality is the unprecedented depth of the recession and the associated deterioration in corporate performance. The recovery will require significant restraint on expenditures, including on wages and salaries.
Thirdly, the performance of financial assets is becoming a source of inequality. The rebound in equities after a steep dive in the first quarter of 2020 is exacerbating inequality as it has diverged from the real economy.
This has been largely driven by low interest rates and quantitative easing by central banks. As equities are predominantly held by higher-income groups, and the savings of the lower-income groups are concentrated in banks deposits, rebounding equities amidst low interest rates have likely worsened inequality.
Overall, the ongoing and anticipated further rise in inequality is consistent with previous pandemics. In a study on the distributional impact of pandemics on employment and income inequality, the IMF found the net Gini coefficient rose nearly 1.5 per cent in the five years following the pandemic.
The study found pandemics had a disparate impact on employment of people with different levels of education, which is an indicator of skill level. The employment of those with basic education fell by 5 per cent over a five-year period, while those with advanced skills were scarcely impacted.
High income inequality that cannot be fully addressed by the existing systems of tax and benefits was already a problem for the region prior to the pandemic. Income inequality as measured by Gini coefficients has risen since the 1990s, and though it seems to have receded in some economies since 2010, the longer- term pattern suggests the region’s growth has not been particularly inclusive.