Fiscal Policy and Its Impact on Poverty and Inequality

Olga Gennadievna Arkadeva

, Natalia Vyacheslavovna Berezina

and Mikhail Vladislavovich

Arkadev

Department of Finance, Credit and Economic Security, Chuvash State University named after I.N. Ulyanov, Moskovsky

avenue, Cheboksary, Russia

ChROO "Common cause", Cheboksary, Russia

Keywords: Fiscal policy, inequality, poverty, global imbalances, socio-economic development.

Abstract: The purpose of the study is to update the concept of fiscal instruments in order to reduce inequality, which

will improve fiscal policy in the face of changing socio-economic trends. In the context of criticism of the

neoliberal movement, the growing influence of demographic problems, the decrease in the incomes of the

middle class, the increase in automation that frees up labor resources, the instability of the dominant paradigm

of economic development, becomes obvious. Growing inequality has a negative impact on economic growth,

carries serious risks for the political stability of state, and creates the preconditions for the growth of populist

sentiments in developed countries and the strengthening of authoritarian tendencies in developing countries.

The research objective is to identify the consequences of the use of individual tools and their combinations.

The article presents the results of the study of foreign experience in the use of fiscal instruments, defines the

nature of the impact of global trends on the growth of poverty and inequality and ways to reduce them. The

results of the research in theoretical terms are expressed in ordering the world experience of using fiscal

instruments to reduce poverty and inequality and systematizing ideas about the possibilities and limitations

of the state in determining the fiscal course under the influence of global trends. The significance of the study

lies in the possibility of identifying imbalances in the application of fiscal instruments in the Russian

Federation in comparison with world experience and the development on this basis of practical

recommendations for the implementation of a balanced state policy of regulating socio-economic

development.

1 INTRODUCTION

At present, the scientific community and the

professional community are trying to revise the

neoliberal economic approach prevailing in many

aspects on the international scale of the movement of

goods and capital and the inequality it generates, both

among countries and the social groups in these

countries. The prerequisites for these trends were

fundamental changes in the structure of the world

economy and the accumulated contradictions that

exacerbated during the spiral of recessions caused by

the global economic crisis of 2008 and the COVID-

19 pandemic in 2020.

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Since the 1980s, the neoliberal direction is

becoming one of the dominant economic doctrines in

the world due to the growing influence of

international financial institutions such as the

International Monetary Fund and the World Bank.

The developing countries in order to obtain

stabilization loans often were forced to undertake

obligations to reform their economies in accordance

with the requirements of these creditors.

The neoliberal approach, focused on economic

freedom, envisages the elimination of trade barriers

to expand free trade, deregulation of industry, and

privatization of state-owned enterprises, cuts in

public expenditures, which should ultimately

contribute to increasing economic activity, building

efficient supply channels, balanced economic growth

Arkadeva, O., Berezina, N. and Arkadev, M.

Fiscal Policy and Its Impact on Poverty and Inequality.

DOI: 10.5220/0010682300003169

In Proceedings of the International Scientiﬁc-Practical Conference "Ensuring the Stability and Security of Socio-Economic Systems: Overcoming the Threats of the Crisis Space" (SES 2021),

pages 43-48

ISBN: 978-989-758-546-3

and the diffusion of technological innovation. At the

same time, government intervention in economic

activity of economic entities in any form is

undesirable.

Over the past four decades of the neoliberal

transformation of the world economy, there have

been structural changes in both the economy itself

and the deepening of global and local inequality. In

addition, fundamental contradictions arose among the

neoliberal economists themselves.

Practice has shown that by transferring production

facilities to developing countries, corporations

significantly reduced their labor costs due to lower

minimum wage requirements in these countries, lack

of compensation for overtime work and

underdeveloped mechanisms for protecting workers'

labor rights. In conditions of low labor protection

requirements, workers have to perform their work

duties in unsafe conditions, they expose themselves

to the risk of injury, since meeting all safety

requirements reduces the final output. Workers are

often in direct contact with pesticides and various

toxic chemicals.

In addition to benefiting from the exploitation of

natural resources and cheap labor, corporations in

developing countries also benefit financially from

low taxes and underdeveloped environmental

legislation. Developed countries export

environmental pollution outside their territory not

only by physically relocating production, but also by

removing used household appliances and plastic

waste, saving on recycling costs. In fact, globalization

has exempted corporations from their obligations to

comply with strict rules and regulations in force in the

countries of export. At the same time, they get the

possibility of obtaining additional financial benefits,

which are spent not to remunerate employees or

implement environmental measures, but to reward

shareholders by revising dividends upward or

buyback of shares. Ultimately, these processes

contribute to increasing inequality.

Possessing significant financial resources and the

ability to influence lawmaking in many countries, the

top management of corporations is not directly

interested in solving the problem of inequality, since

they are fully aware that the current state of affairs

allows them to maintain status quo.

Neoliberal reforms in the former socialist

countries involved privatization and reduced state

participation in property management. At the same

time, the social nature of the formation of privatized

assets was excluded from the calculation. In

accordance with the socialist principle "to each

according to his work" assets were formed taking into

account the fact that economic entities will receive a

kind of dividend from these assets in the future in the

form of material benefits generated by the created

funds in proportion to their contribution to the

reproduction process. However, in the course of

privatization, socialist assets were appropriated by a

narrow circle of people to the detriment of the

interests of those who created these assets (Table 1).

Table 1: Proportion of former socialist billionaires who

have made their fortunes through political connections and

access to resource extraction.

Country Percentage of total

Georgia 100

Romania 100

Russia 64

Ukraine 56

Czech Republic 50

Polan

(Freund, 2016)

Neoliberal economists believed that trade

liberalization could make domestic producers more

competitive. In reality, however, the producers were

unable to resist imported products, which could be

largely subsidized. In the case of agriculture, the

neoliberal approach has made small farmers in

developing countries more vulnerable and

exacerbated food security risks.

Economists note that the introduction of a free

market economy has failed to attract foreign

investment to African countries or to bring them the

sustainable growth, and the application of a standard

set of free market mechanisms has contributed to the

formation of "unprecedented poverty" in many

countries (Birsen, 2020). According to Credit Suisse,

the richest 1% of the population owns 43% of the

world's wealth, in Russia this figure is 57% (Global

wealth report, 2020).

According to the Federal Reserve, the richest 1%

of Americans own 53% of corporate shares and

investment funds, while the bottom 50% of

Americans own only 0.6%. They own real estate

worth more than half of American families do.

The neoliberal approach significantly weakened

the function of redistributing wealth and changed the

relationship between the state and society. The main

role of the state shifted from providing social services

and programs to the population towards supporting

large corporations, which became the engines of

economic growth, which, in turn, provided the

formation of instruments of protection the well-being

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of the elite from the encroachments of the population

with low incomes.

Neoliberal theory views inequality as a natural

phenomenon and poverty as an unfortunate

coincidence. Hayek believes that there are no barriers

for the poor to get rich in a free market system.

Friedman has a similar opinion. Unlike Hayek, who

assumed that a system of free markets would

ultimately lead to inequality in society, and inequality

drives people to achieve well-being, Friedman

believed that inequality would decrease as capitalism

developed. Hayek and Friedman oppose that the state

should promote social justice by supporting low-

income groups through income redistribution and the

provision of public social services, as this creates

injustice and forces people to spend their money in

the interests of others. Hayek believed that the

progressive taxation aimed at equitable income

equalization actually contributed to inequality of

subjects. In addition, he believed that the increasing

government spending on social services would

increase government debt, which would ultimately

lead to higher poverty instead of greater equality.

Thus, the seemingly noble goal of achieving equality

will not only lead to greater inequality, but also to the

loss of freedom due to the growth of public debt.

Stigler takes the opposite point of view. In his

opinion, the state should regulate access to resources,

which can cause large differences in income. It is

possible to achieve equalization of labor incomes

through access to various educational systems,

increasing labor mobility, strengthening labor rights,

and providing medical care to the low-income

segments of the population. Stigler advocated an

increase of inheritance tax. Globally, 30% of

billionaires inherited their wealth (Freund, 2016),

which makes people not only unequal, but also

provides the heirs with greater opportunities to

achieve well-being compared to their peers, if all the

other things are equal. Knight, supporting Stigler,

noted that social and economic inequalities are not

limited to just one generation, flowing from one

generation to another through the transfer of

inheritance and benefits. Knight believed that the

stratification of society greatly reduces the level of its

overall satisfaction, and the complete economic

freedom of rich people, who have obvious

advantages, is destructive because rich people can use

their wealth to become even richer.

Based on the foregoing, the main attention of the

authors of the current study was focused on the

problem of accumulation and maintenance of global

imbalances that cause an increase in poverty and

inequality. The hypothesis of the study is the

provision that the current stage involves the

readjustment of tax policy and the system of granting

subsidies in order to level the consequences of the

impact of global trends. Based on the study of

materials from leading financial institutions of the

countries of the world, an attempt was made to

streamline the directions of development of fiscal

instruments and identify their specifics.

2 MATERIALS AND METHODS

In the course of the work, general scientific methods

of theoretical research were used:

– induction to observe the application of

individual fiscal policy instruments and to form, on

this basis, the hypotheses about the patterns of its

influence on socio-economic processes under the

influence of global trends;

– deduction for the dissemination of general

patterns of the impact of fiscal policy on certain areas

of socio-economic development and further

formulation of recommendations to improve the

distribution of income between various social groups;

– analysis to identify and study individual

instruments of tax regulation and the social security

system for vulnerable groups of the population;

– synthesis to form a holistic view of the

mechanism of the impact of fiscal policy on reducing

inequality.

The instruments of fiscal redistribution of

incomes in different countries were monitored; a

comparison is carried out aimed at identifying similar

and different features in the consequences of the use

of the considered tools. The application of the

description method consisted of recording the results

of observation and the formation of key

characteristics that determine the consequences of the

application of fair taxation instruments. In addition,

general logical research methods were used –

abstraction, generalization, idealization, analogies –

in order to identify the patterns of changes in poverty

and inequality and the consequences of the use of

fiscal regulation tools.

3 RESULTS AND DISCUSSION

A number of studies indicate that inequality

negatively affects the rate of GDP growth and the

sustainability of a country's economic development.

The income growth of the richest 20% of citizens by

1 percentage point over the next five years reduces

Fiscal Policy and Its Impact on Poverty and Inequality

the GDP growth rate by 0.08 percentage points, while

income growth of the 20% poor population, on the

contrary, increases GDP by 0.38 percentage points

(Dabla-Norris, 2015). A 1-percentage point gain in

the Gini coefficient over the next five years reduces a

country's GDP per capita by 1.1% (Brueckner, 2015).

The growing influence of the wealthy part of

society, while the income of the rest stagnates, leads

to economic crises. In particular, studies assert that

the steady rise in inequality in developed countries

led to the financial crisis through lobbying by a small

group of individuals for indulgence in the mortgage

sector.

Growing inequality undermines citizens'

confidence in the state, can lead to social instability

and to the decrease in investment activity. Initially,

globalization made a small contribution to the rise in

inequality, but structural changes in technology have

changed the economic order. The labor market has

changed, the demand for medium-skilled labor has

decreased, and the demand for highly skilled, higher-

paid professions has grown. The following changes

can be identified that have an impact on the request

for a change in the neoliberal paradigm:

1) Demographic changes

The aging of the population and the decline in the

birth rate are forcing governments to increase social

spending (Table 2). Since 1990, in OECD countries,

the proportion of the elderly (over 65) has increased

from 11.6% of the population to 17.2% in 2018; the

proportion of children (under 15) has decreased from

22.54% to 17.69% over this period.

Table 2: Share of social spending in OECD countries.

Expenditures Percentage of expenditures

from GDP

1990 2019

Social expenses 16,5 20,0

including

Old age 5,7 7,4

Health 4,3 5,6

Family 1,6 2,1

Source: https://www.oecd.org/social/expenditure.htm

If earlier the growth of social spending depended

on the party composition of the government, today

social policy is dictated primarily by socio-economic

conditions (Wulfgramm, 2016).

Health care costs are rising because of

technological and medical advances, as well as of

demographic changes.

Family social spending is now taking on a broader

meaning: education and gender equality. The bias

towards community childcare has at least two

mechanisms. First, the state takes on childcare

responsibilities and promotes the involvement of

mothers in the labor market. Second, in the long term,

high-quality community childcare can fulfill

important social functions by promoting equality of

opportunity, especially for children from low-income

families.

2) Automation and digitalization

There are two key reasons why changing

technologies are contributing to worsening income

inequality. First, automation raises wealth inequality

through increased capital income. Secondly,

automation leads to stagnation of wages with the

increase in profits. The key to understanding both

results is that the long-term capital supply will grow

(Arkadeva, 2021). Automation increases the demand

for capital in relation to labor and, as the supply

increases in accordance with demand, the income

from capital will constantly increase the wealth of the

owners of capital. The condition of households that

have the opportunity to receive an increased income

from owning assets is growing at a faster pace.

The well-being of households focused on

receiving income from wages tends to stagnate. When

productivity increases because of the introduction of

new technologies, the additional value added will be

transferred to the owners of capital in the form of a

higher return on their assets. Another side effect of

automation is the reduction in the wages of replaced

workers, not only in relation to other types of skills,

but also in absolute terms. (Moll, 2021).

3) Increased household debt burden

With the increase in household debt burden, there

is a shift in national income towards households with

a low marginal propensity to consume (MPC). If the

ratio of debt to GDP in the United States was 45% in

the early 1980s, then by the world financial crisis of

2008 this figure reached 100%. With the existing

negative correlation between income and MPC,

inequality will continue to grow (Cairó, 2020).

4) Supply chain vulnerabilities

COVID-19 has shown the vulnerability of the

system of free markets, in which individual states can

impose restrictions on the export of certain products

in the interests of their own country's consumption,

thus cutting off other countries' access to food,

components for the production, personal protective

equipment, medical equipment, pharmaceuticals.

Vulnerable supply chains not only create conditions

for inequality in the receipt of essential goods such as

medicines, but also pose a threat to national security.

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Fiscal policy is one of the most important tools for

eliminating inequality in developed countries;

however, the tax system in the United States and

many other developed countries has become less

progressive over the past 50 years. The search for a

fair taxation system is going on in a three-

dimensional system.

Vertical equity in taxation should take a

progressive form to equalize income, horizontal

equity in taxation implies that people with the same

income level should be taxed the same regardless of

their source of income. Vertical and horizontal

taxation does not involve redistribution, but

adherence to these two principles should at least

ensure that taxation does not exacerbate existing

inequalities. With the development of globalization, a

third dimension has been added – the ability of a

country to ensure an independent tax policy and tax

equality between different countries.

The basic model of tax competition shows that

capital openness leads to tax cuts, especially taxes on

capital (Wulfgramm, 2016) When investors are free

to choose a country to invest in, they choose the

jurisdiction with the lowest tax level, therefore,

governments reduce tax rates one after another to

attract capital from abroad. The basic model of tax

competition has implications for all three principles

of fairness and therefore also indirectly for ensuring

equality in society.

First, if capital gains are taxed less, then the tax

system becomes less progressive, implying that the

rich pay less. In addition, in the face of growing

budget expenditures, governments are forced to look

for alternative sources of revenue, such as taxes on

the purchase of non-essential items or wage taxes. As

a result, the population with lower incomes bears a

larger share of the tax burden. The tax system

becomes potentially regressive, therefore, in the

models of tax competition, the principle of vertical

equality of taxation remains unfulfilled.

Second, tax competition affects horizontal equity.

The same income from different sources – one from

capital, the other from work – is taxed differently.

Third, countries can no longer set their tax

policies independently, thus international equality is

violated. Taken together, tax competition potentially

violates all three principles of equality and, at least in

the case of horizontal and vertical equality, limits the

balancing of the tax system. While all governments

are limited in their choice of tax policy instruments,

income redistribution does not occur equally between

countries; the risks are not the same (Arkadeva,

2019). Asymmetric tax competition models show that

the opportunities for competition vary with the size of

the country. Small countries have a fundamental

advantage, and large countries lose out in tax

competition. If the country is small enough, then the

additional income received from capital inflows from

other countries by increasing the tax base will cover

the shortfall in income from tax cuts on domestic

capital because of the tax rate cut. These capital flows

affect the distribution of income among countries.

The average OECD income tax rate has been cut

by about half from 43% to 25%, and the personal

income tax rate has been reduced from 58% to 40%

(Wulfgramm, 2016), reflecting tax competition for

capital and highly skilled professionals. At the same

time, taxes on low-mobile tax bases – value added tax

and property tax – were increased. To correct the

existing situation and international equalization of

taxation, a working group has been created within the

OECD to develop recommendations to counter the

understatement of the tax base and the withdrawal of

profits. Within the framework of the working group,

negotiations are underway to establish a global

minimum income tax of at least 15%. Thus, it is

envisaged to form an international tax system that

meets the principles of stable development of states

and the establishment of justice. The US Treasury

notes the need for international cooperation in this

direction and the devastating effect of the "race to the

bottom of corporate tax", which undermines the

ability of states to collect taxes necessary for

infrastructure investment, innovation stimulation and

sustainable growth.

One of the negative aspects of the Russian tax

system is its focus on indirect taxes, which are the

easiest to administer. About 70% of tax revenues to

the federal budget of the Russian Federation today are

indirect revenues in the form of value added tax

(VAT), excise taxes and customs duties. If in

developed countries, for the purpose of fair taxation,

budget revenues are formed from taxes on property,

profit, land and capital, then in Russia the main bases

of taxation are consumer spending and labor. Indirect

taxes are included in the prices of goods sold, as well

as in tariffs for services and works. They act as price-

forming elements, causing, in turn, a decrease in

consumption, primarily of the poorest part of the

population. The richer the consumer, the smaller the

share of his income he pays to the consolidated

budget of the Russian Federation. Taking into

account the flat scale of personal income tax, the tax

system of the Russian Federation takes a regressive

form and contributes to the strengthening of social

inequality in society and the increase in poverty in the

country.

Fiscal Policy and Its Impact on Poverty and Inequality

4 CONCLUSIONS

Two approaches are popular today to overcome

inequality. The first approach was developed by a

team with the participation of a recognized researcher

of the problem of inequality T. Piketty, who proposes

to increase the upper income tax rate and introduce a

global progressive tax on capital (Novokmet, 2018).

However, his approach is limited by international tax

equalization.

L. Summers, US Treasury Secretary 1999-2001,

formulated the second approach. He proposes

boosting middle-class incomes, making it harder to

accumulate huge fortunes, enforcing antitrust laws,

and encouraging option schemes for workers to give

them a stake in wealth accumulation. In addition,

Summers recalls A. Alesina's hypothesis: inequality

is perceived more calmly by society, which means

that it is associated with lower costs if social elevators

work well and if it is compensated by equal

opportunities.

At the present stage, fiscal incentives to maintain

the income of low-income groups of the population

are becoming a priority. Providing expanded

assistance to the unemployed is the most effective

tool in driving demand growth through increased

lending. Providing one-time payments to all citizens

is low-cost but less efficient (Faria-e-Castro, 2020).

There are debates among economists about

whether helping the unemployed will reduce the

supply of the labor market. According to the results

of IMF research, the positive effect of unemployment

benefits outweighs the negative effect of a possible

reduction in the labor market. For every dollar of

unemployment benefits, $ 1,925 in private sector

income is created. This multiplier is achieved because

the unemployed have a high marginal propensity to

consume, which gives a stronger effect according to

the Keynesian model. Confidence in the future

reduces the need to build savings for employed

workers. Unemployment benefits, which cover

shortfalls in income, play a strong role in stabilizing

property prices, creating a welfare effect that affects

all property owners. The construction and

development sector is particularly affected by

benefits (Hellwig, 2021).

Thus, the COVID-19 pandemic has spurred a

neoliberal paradigm shift with a focus on poverty and

inequality and the consequent need to revise a number

of conceptual principles for taxation and public social

expenditures

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SES 2021 - INTERNATIONAL SCIENTIFIC-PRACTICAL CONFERENCE "ENSURING THE STABILITY AND SECURITY OF

SOCIO - ECONOMIC SYSTEMS: OVERCOMING THE THREATS OF THE CRISIS SPACE"