Trickle-down effect
Trickle-down effect means giving incentive to wealthy for example cut in corporation, capital gain and saving taxes in order to spur economic growth which in turn will trickle down to lower classes who will then spend money which in turn will result in further economic growth i.e. multiplier effect. However, for decades, world economies have followed this theory for economic growth and poverty reduction but the fact is poverty has increased and so has wealth inequality. In other words, trickle-down effect does not work. In effect it transfer increasing amount of scare resources to the already rich who instead of investing in production activities use them to further increase their wealth by investing in financial assets like derivative, shares and bonds instead of production activities. Furthermore, a recent study conducted by two British scholars show tax cuts on rich increase income inequality. It results in increase of 0.8% points in top 1% share of pre-tax national income. There is nil impact on real GDP per capita and unemployment rate in both short and medium term.
In Kansas, business taxes were cut by a third, which left state finances in red. The benefit went to wealthy people who did not invest enough to spur economic growth. Because of paucity of revenues, Kansas had to cut education budget. Kansas is a solidly republican state but the policy was so unpopular that it elected governor from Democratic Party.
The impact of tax cut by Donald Trump by cutting corporate tax rate to 21% and top individual rate to 37% means that top 1% would receive larger percentage of tax cut as compared to lower income people. By 2027, those in the lowest 20% will pay higher taxes.
As per article by Mr. Shahid Mahmood published on 18 Dec 2020 in Dawn, between 2009 and 2020, wealth of 400 richest American increased from $1.27tr to $3.2tr. As far as Pakistan is concerned, data shows that top ten percent of the population consumes 3 times more than bottom 10% and their income is 5 times higher. Furthermore, our tax system is regressive, which means that tax burden is heavier on lower income people as compared to the rich. Any attempt at tax reform is scuttled by vested interests.
Till, the elite capture of wealth and economic resources remains, wealth inequality and poverty will remain. The rich always manipulate policies in their own interest, the case in point trickle-down effect. So what is the alternative? In my view, any government, which is sincere in poverty reduction and inequality of wealth, must follow bottom up approach. This means to focus on improving the conditions of lower income classes. This includes making taxation more progressive, investment in human capital, social protection for poor, encouraging establishment of small businesses through various incentives like tax breaks, cheap loans etc. and provision of affordable housing, education and health care services for all population.
Islam has given us system of zakat, which could be used by Muslim governments to target poverty reduction by ensuring that all the rich people pay their due share. The system of zakat collection and it’s spending should be transparent in order to instill confidence in people that their money is being spend properly.
Trickle-down effect is manipulation by the rich to further increase their coffers but the majority must wake up to demand their just rights and remove hegemony of wealthy people on scare economic resources.
PS: Article also published on LinkedIn
