Fairness Matters

By McAuley, Ian | Impact, Summer 2009 | Go to article overview

Fairness Matters


McAuley, Ian, Impact


Introduction--fairness matters

I want to concentrate on economic aspects of fairness, emphasizing one aspect particularily relevant to our time, namely the way we allocate risk across our society. In relation to risk there are two basic inequities. One arises from the legacy of outdated categories of "labor" and "capital", to which is attached the idea that because financiers contribute capital to productive enterprises, because they take the risks, they should be compensated with appropriate rewards. The other inequity arises from the way we have increasingly left people, including the least advantaged, to rely on flawed and high risk private markets to provide those buffers which would be more fairly and efficiently be provided by governments, while privileging some of the most reckless and irresponsible people in private corporations with government largesse for their risk-taking.

First, a look at how economics handles fairness.

Pareto's boats and public policy

"A rising tide lifts all boats" is the often heard metaphor to describe a society in which everyone becomes better off, even if disparities widen. It has become a justification for unfairness.

For much of recent history economic philosophy (and therefore public policy) has been in a struggle between two strong ideas, those of Jeremy Bentham and those of Vilfredo Pareto.

Bentham (1768--1832) was a liberal political philosopher, a child of the Enlightenment, with radical ideas for his time, such as equal rights for women, abolition of slavery, and abolition of the death penalty. His political philosophy has been claimed both by the right, because of its emphasis on individualism, and by the left, because of its emphasis on maximizing "utility" for all, or, in more commonplace terms, maximizing the community's "welfare" or "happiness".

In the Benthamite world, redistribution is justified on the basis of the notion of what economists call "diminishing marginal utility".

To illustrate, consider two hypothetical people. I'll call one Sol, who has been an executive in a large company and has had a generous termination payment. And there's Lydia, who is similarly out of work, but she was a machine operator at a clothing company which has recently shifted offshore. Both are eligible for the Government's $900 stimulus payment. Sol has a good accountant who has got his taxable income down to poverty line levels, while Lydia needs no accounting contrivances to show a low income.

Think of the benefit of the $900 to these two people. By any stretch of the imagination the benefit to Lydia must surely be more than the benefit to Sol (assuming Sol even notices an unrequited $900 deposit in his bank account).

What I have just illustrated is the Benthamite notion of diminishing marginal utility. By the same notion, overall welfare would be improved if we were to take the $900 from Sol and give it to Lydia, for the welfare loss to Sol would be less than the welfare gain to Lydia. See Figure 1 for a conventional graphical presentation of this model.

[FIGURE 1 OMITTED]

Such a notion of welfare lies behind economic policies such as progressive taxation and means-tested benefits. Australia, for example, pioneered age pensions and used to have steeply rising marginal tax rates, as high as 66 cents in the dollar for high income earners, and our old sales tax system imposed high taxes on luxuries.

The economic philosopher whose ideas have tended to dominate in the last thirty years, however, is Pareto (1848-1923), who essentially said that it is impossible to compare and add or subtract different people's welfare. According to the Pareto principle in economics, we can consider welfare to improve only if some are made better off, while no-one is made worse off. Thus, if economic growth is accompanied with widening inequality, it's still beneficial, just so long as no one goes backward.

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