How Alarming is India’s Income Inequality?

Income inequality is among India’s most pressing socioeconomic problems. Not surprisingly, opposition parties repeatedly highlighted this problem in the recent general election campaign.

In this post, let’s explore what to make of this complex economic issue.

Inequality Measure

The Gini Coefficient (GC) is the most widely used measure of income inequality. It ranges from 0, indicating perfect equality, to 1, where a single individual holds all the income.

For context, countries with the lowest income inequality typically have GC values around 0.25, while those with the highest inequality range between 0.5 and 0.6 (see notes for caveats).

Income Inequality in India

After independence, India fostered a socialist economy wherein the state tightly regulated economic activity and emphasized equitable development, which curbed extreme inequality.

Income inequality started rising when India began transitioning toward a market economy in the early 1990s. Capital began flowing to the most productive investments, spurring growth but also leading to uneven income distribution and wealth accumulation.

Consequently, India’s GC started rising and is now 0.37 (all GC values here are World Bank data).

The rise of India’s income inequality was primarily a byproduct of market-driven economic growth, a pattern seen in other countries as well. For example, before China’s economic reforms in the late 1970s, its GC was low, but by the 2010s, it was in the 0.4s and is currently 0.37.

India’s income inequality is not an outlier. Consider GC values for the other primary members of the BRICS grouping: Brazil is 0.52, Russia 0.36, China 0.37, and South Africa 0.63. I must, however, qualify that GC comparisons alone can be misleading and provide an incomplete comparison.

Relative Income vs. Absolute Income

Focusing on relative comparisons can create dissatisfaction, even when we have much to appreciate in absolute terms.

Similarly, when focusing exclusively on income inequality—a relative measure—we might underappreciate the gains in absolute income.

While income inequality has increased in India, absolute incomes have also risen, lifting millions out of poverty.

You will agree that growth in absolute income matters more than reducing income inequality in India. That doesn’t mean we ignore inequality, though.

Extreme Wealth Concentration

A related grave concern is that 1 percent of India’s population holds 40 percent of the country’s wealth, which places India among the countries with the highest wealth concentration.

Though the headline statistic is alarming, this concentration is more likely a result of entrepreneurship than economic exploitation. India’s entrepreneurial spirit, long suppressed, has flourished over the last two decades, creating considerable wealth through innovation and enterprise.

The fact that over 60 percent of India’s billionaires are first-generation entrepreneurs suggests that the newly created wealth stems more from ingenuity, hard work, and risk-taking than inherited privilege. I would think, on average, first-generation entrepreneurs are less likely to have benefited from unfair advantages than established business owners.

Furthermore, beyond a certain level, wealth is not about profligate personal consumption but about reinvestment into innovation, business expansion, and philanthropy, all of which significantly moderate the negative implications of wealth concentration.

While India’s extreme wealth concentration is concerning, it is a derivative of a positive impact, and at India’s current stage of development, direct interventions to reduce the wealth of the wealthy might be counterproductive.

Policy Response

I’m not cheerleading for income inequality or suggesting we embrace it. Instead, it’s a byproduct of capitalistic growth—a challenge policymakers must address to uplift sections of the population that might otherwise have to wait almost indefinitely to benefit from capitalism’s rewards.

However, reducing income inequality through redistributive policies has an economic efficiency tradeoff that governments must carefully balance.

India’s Management of Income Inequality

In managing inequality, India faces a developing country’s inherent resources and systems limitations. For example, India has higher tax rates for higher incomes, but tax collections are low because of widespread tax evasion, and its significant tax revenue generator, the consumption-based GST, disproportionately burdens low-income consumers.

Despite the many handicaps, India has done well this past decade in managing inequality, especially regarding foundational steps to address inequality, such as ensuring access to food, housing, education, and healthcare.

The political implications of rising inequality from rapid economic growth, particularly in the urban-rural divide, were highlighted when the then-NDA government lost power in 2004.

The subsequent UPA government responded by launching a guaranteed work program for rural households, which has had a positive impact.

The present NDA government is addressing inequality through financial inclusion, targeted cash transfers, affordable housing, health insurance, skill development initiatives, and other similar programs.

While these programs are work-in-progress, they are much more than I would have ever expected to happen ten years ago.

Looking Forward

Challenges, however, remain, particularly in improving school education and creating employment opportunities.

A notable challenge is that the foundational initiatives to reduce inequality produce tangible results, mainly in the long run. Consequently, governments are tempted to prioritize populist policies, emphasizing short-term appeal over long-term impact, potentially worsening inequality over time.

Unfortunately, India has recently seen a rise in policies high on the economic populism continuum, which increases the risk of getting trapped in a vicious cycle of economically inefficient policies. Let us see how it all evolves.

In conclusion, while the rise in income inequality in India is troubling, it is partly an inevitable byproduct of rapid economic growth. A growing pain that India has to navigate.

Encouragingly, India is addressing the issue head-on. Our ongoing determination to tackle the problem provides hope for a more inclusive and equitable society.

 

NOTES

French economist Thomas Piketty’s work brought renewed global attention to income inequality and its negative consequences. While his work has faced criticism, it has spurred conversations about economic policies to promote fairness. Let me suggest Bill Gates’s blog post (read here) for a commonsensical review of Piketty’s work.

GC values vary based on methodology, the definition of income, and data collection approaches, so we must use them cautiously, especially for historical and inter-country comparisons.

Typically, GC values don’t account for informal economic activity or redistributive incomes, which are significant in countries such as India, whose GC could be lower if we considered the informal economy and redistributive measures.

Besides GC, there are several income inequality indexes and ratios. Collectively, an assortment of measures provides better insight into inequality than a single measure.

While wealth inequality is typically more concerning than income inequality because it can entrench systemic disparities, I feel income inequality is a more pressing problem in India.

If we exclude the top 1 or 10 percent of wealth holders and calculate the Gini Coefficient for wealth, the adjusted measure might reveal less pronounced wealth inequality among the remaining population. However, income inequalities rooted in the rural-urban divide, regions, communities, and gender persist beyond and independent of the wealth concentration at the top, impacting a far more significant segment of the population; these inequalities are more systemic, more concerning than wealth concentration, and require priority attention.

This post builds on my March 2023 post, “India’s Tiptoe on the Capitalism-Socialism Continuum,” Read here.