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Published in: Public Choice 1-2/2023

05-07-2023

Wealth inequality and democracy

Authors: Sutirtha Bagchi, Matthew J. Fagerstrom

Published in: Public Choice | Issue 1-2/2023

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Abstract

Scholars have studied the relationship between land inequality, income inequality, and democracy extensively, but have reached contradictory conclusions that have resulted from competing theories and methodologies. However, despite its importance, the effects of wealth inequality on democracy have not been examined empirically. We use a panel dataset of billionaire wealth from 1987 to 2012 to determine the impact of wealth inequality on the level of democracy. We measure democracy using Polity scores, Varieties of Democracy (V-Dem) indices, and the continuous Machine Learning index. We find limited empirical support for the hypothesis that overall wealth inequality or inherited wealth inequality has an impact on democracy. However, we find evidence that politically connected wealth inequality lowers V-Dem and Machine Learning democracy scores. Following Boix (Democracy and redistribution, Cambridge University Press, New York, 2003), we investigate the hypothesis that capital mobility moderates the relationship between wealth inequality and democracy and find evidence that increased capital mobility mitigates the negative impact of politically connected wealth inequality on democracy.

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Appendix
Available only for authorised users
Footnotes
1
Krieger and Meierrieks (2016) investigate the relationship between inequality and economic freedom, rather than democracy.
 
2
We have four groups of billionaires: self-made and politically unconnected (e.g. Bill Gates), self-made and politically connected (e.g. Russian oligarch, Roman Abramovich), inherited and politically unconnected (e.g. David Rockefeller), and inherited and politically connected (e.g. the sons of former Lebanese Prime Minister Rafik Hariri).
 
3
We could also consider the political agency of poor voters, who may prefer democracy if inequality is high if they think they can influence the choice of policies that will address inequality. Absent such a belief, they may not seek democracy, believing that it is ineffective in resolving inequality (Krieckhaus et al., 2014). Empirically, there is evidence that high levels of inequality depress voter turnout (Dash et al., 2023).
 
4
The use of continuous measures of democracy is important for this point; to the extent that fundamental rights to political participation are still present, we might see a decline in the quality of democracy without seeing a transition to outright autocracy.
 
5
For this result, we are using politically connected billionaire wealth as a share of GDP.
 
6
For a similar exposition of how a rising bourgeoisie class led to a push towards dismantling rent-seeking and demands for political participation in the case of Ancien Régime France, see Ekelund and Thornton (2020).
 
7
Tullock (1986) anticipates this point, noting that in the typical dictatorship or monarchy, it is common to find a great deal of rent seeking activity and the “granting of monopolies of one sort or another to friends of the ruler is very common and one of the major forms of enterprise is to ‘court’ the ruler in hopes of getting such special privileges.”
 
8
See also: https://​www.​nytimes.​com/​1993/​10/​01/​business/​worldbusiness/​IHT-a-giant-joins-jakarta-exchange.​html which describes the Indonesian business environment in the following dire terms: “All the really big conglomerates in Indonesia have strong political connections. That is how they get favorable contracts and concessions from the government and loans from state banks.”
 
9
These regime characteristics can also be redundant, which can artificially increase or decrease a country’s Polity score relative to a hypothetical “true” level of democracy.
 
10
On the other hand, many theories of the relationship between inequality and democracy posit that the links are between inequality and particular aspects of democracy, for instance, the ability of the poor to vote for redistribution. In this case, using broad measures of democracy may mask the “true” impact of inequality on democracy by mixing different concepts of democracy together (Knutsen & Dahlum, 2022).
 
11
More specifically, the Electoral Democracy index measures the foundational aspects of democracy, such as freedom of association and expression, voting rights, free and fair elections, and elections for the executive (Coppedge et al., 2022b).
 
12
We find it important to note that the Egalitarian Democracy index is not mechanically related to our measure of wealth inequality. The egalitarian component of the index consists of three sub-indexes. The equal protection index measures the extent to which the law equally protects citizens across social groups and classes. The equal access index measures the de facto ability of all people to actively participate in government. The equal distribution of resources index measures how government welfare and infrastructure expenditures, education, and healthcare are distributed in society (Coppedge et al., 2022b). No component of the Egalitarian Democracy index measures the distribution of privately owned assets or wealth.
 
13
V-Dem’s conceptualization of democracy is also narrower than Polity’s. It includes fewer components and hence is less likely to overlap with other institutional outcomes, such as the rule of law or corruption.
 
14
For the codebook and methodology, see Coppedge et al. (2022b, 2022c).
 
15
Polity and V-Dem scores are generated using different processes. While Polity uses in-house experts that code all countries using country-specific reports, V-Dem uses observational data, expert surveys, and in-house experts (Skaaning, 2018).
 
16
Restrictions on suffrage or institutional rules that make voting onerous are one such potential mechanism. To the extent that increased voter turnout increases top marginal tax rates (Sabet, 2023) economic elites may have incentives to lobby for rules that make voting more difficult in order to protect their incomes.
 
17
Myanmar’s 2008 constitution provides a great example of this phenomenon. As Nehru (2015) notes, it included several provisions to ensure that the reins of power remained firmly in the hands of the military, chief among them being “Article 436 that gives the military one-quarter of the seats in the upper and lower houses of the national parliament and one-third of the seats in the state/regional parliaments. In addition, because constitutional amendments must receive more than 75 percent of the vote in parliament, the military’s mandated 25 percent presence gives it effective veto power over any proposed changes.”
 
18
Our results for overall wealth inequality are robust to dropping these countries.
 
19
Although we operationalize wealth inequality by normalizing billionaire wealth by GDP throughout the paper, we also present results obtained by normalizing billionaire wealth by population and the country’s capital stock in Online Appendix Tables A.7 and A.8.
 
20
A full classification of billionaires into the two categories of politically connected and politically unconnected is available from the authors on request.
 
24
Fisman (2001) attempts to quantify the value of political connections and finds Indonesia to be especially fertile territory. It obtains estimates of the value of such connections by exploiting a string of rumors about President Suharto’s health during his last few years in office. The paper scores the companies affiliated with “longtime Suharto allies", the Salim Group run by Liem Sioe Liong and the Barito Pacific Group run by Prajogo Pangestu, as five on a scale of five—the highest score that it also assigns to companies associated with President Suharto’s children. Thus our classifications of Indonesian billionaires, while undertaken independently, are consistent with those in a very well-cited paper that examines political connections.
 
26
A higher rank on the Corruption Perceptions Index indicates that a country is perceived as being more corrupt by experts knowledgeable about the country. In the 2019 rankings by Transparency International, Denmark and New Zealand shared the 1st spot and were viewed as the least corrupt countries in the world whereas Yemen, Syria, South Sudan, and Somalia were perceived as the most corrupt countries in the world.
 
27
This list is calculated using the average of politically connected wealth inequality in years where these countries had at least one billionaire. These results are comparable to those found in Bagchi and Svejnar (2015) (refer Table A2, p. 528).
 
28
Furthermore, in a univariate regression between politically connected wealth as a share of GDP and either the proportion of firms that are politically connected or the fraction of market capitalization represented by politically connected firms, the regression coefficients are significant at the 5% level (or higher) and additionally, the values of R-squared, with just a single variable included, exceed 0.40. Those additional regressions provide further assurance that our measure of politically connected wealth inequality is reasonable as it lines up well with measures in Faccio (2006)—a well-cited paper that arrives at political connections using an entirely different approach.
 
29
We note though that in many constitutional monarchies, the monarch or other royals are often legally unable to put the institutional wealth of the crown for personal use. For example, in the United Kingdom the Crown Estate manages the property of the King but they note that "it is not the private property of the monarch—it cannot be sold by the monarch, nor do revenues from it belong to the monarch."
 
30
The Kernel Density of KAOPEN can be found in the bottom panel of Fig. 2.
 
31
The choice of 1996 is motivated by a change in the way Forbes covered billionaire wealth in 1997. As Bagchi and Svejnar (2015) explains: “Forbes magazine changed its editorial policy for four years, between 1997 and 2000. In these years, they included only those billionaires who were either self-made (e.g., Warren Buffett) or those who inherited their wealth and were actively managing it themselves (e.g., Carlos Slim Helu of Mexico). This leads to the exclusion of billionaires from around the world who simply inherited their wealth and were no longer actively involved themselves in growing their businesses, such as the duPonts and Rockefellers in the U.S. [...] Given this limitation of the 1997 list, we use the 1996 list instead." Because we are interested in how inherited wealth inequality impacts democracy, it is important that we include all inherited billionaires and not just those who are actively managing their fortunes.
 
32
As can be seen from Online Appendix Table A.2, our results are robust to dropping such countries.
 
33
Section 1 in the Online Appendix lists all of the controls, including their justification for inclusion.
 
34
However, we also confirm that all our results are robust to the use of random effects specifications.
 
35
These null results hold when we limit our sample to only those countries that have had billionaires at least once. See Online Appendix Table A.1.
 
36
A 5.5 percentage point increase in wealth inequality implies a decline in V-Dem scores of \(5.5*(-0.00391+(0.00899*0.166)) = -0.0133\) points. A decline in V-Dem scores of 0.031 points implies that \(0.0133/0.031 = 0.43\), or 43 percent of the decline in V-Dem scores can be explained by politically connected wealth inequality.
 
37
We use Polity as our threshold for sample selection because although the translation from a continuous to a dichotomous measure of democracy is ad-hoc (Gründler & Krieger, 2022) we want to base our sample selection on a democracy measure which is not related to our inequality measure. We replicate these results using the dichotomous Machine Learning index in Online Appendix Table A.4.
 
38
Over that same time period, overall billionaire wealth in South Africa increased from 2.79 to 4.07 percent of GDP.
 
39
In additional checks not included in the paper, we confirm that our baseline results in Table 3 survive the introduction of each measure of wealth inequality or income inequality from the WID, such as the top percentile wealth share, the top decile wealth share, the Gini coefficient of wealth, etc. as controls.
 
40
See Online Appendix Tables A.9 and A.10 for overall, A.11 and A.12 for inherited, and A.13 and A.14 for politically connected wealth inequality results. Table A.15 shows that the results for politically connected wealth inequality hold for democracies as well.
 
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Metadata
Title
Wealth inequality and democracy
Authors
Sutirtha Bagchi
Matthew J. Fagerstrom
Publication date
05-07-2023
Publisher
Springer US
Published in
Public Choice / Issue 1-2/2023
Print ISSN: 0048-5829
Electronic ISSN: 1573-7101
DOI
https://doi.org/10.1007/s11127-023-01082-9

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