Of of the first things to globalize in the 1990s was the flow of capital. World savers sought and optimum between safety and yield, and this tended to point them and their proxies to the developing world in general and the US in particular. Banks recycled this money to borrowers, whom we now know to be states and private borrowers, with commerce in third place. Personal loans were heavily weighted for low income groups, often in association with property purchases or re-mortgages. States expanded deficit spending, often in projects designed to help the poorer members of their society. In effect, therefore, saving from, in particular, Asia, were funnelled to poor voters in the rich world. Entire regions grew on the basis of subsidy: for example, it is believed that around three quarters of all wealth in North East England was derived from state revenues.
Since the collapse of this spectacular expansion of debt-financed expenditure, state debt has reached very high levels in many of the industrial countries, and some have shown signs of instability. Western tax-payers have reimbursed savers in Asia and elsewhere. Plainly, the prescription that worked for the 1990s has ceased to be viable, and the greatest transfer of wealth in the history of the industrial world has ceased to be an acceptable policy response. (This has not stopped many countries from persisting with such measures, however, chiefly justified in terms of 'stimulus'.)
We now face a time of instability, as welfare is cut - or its growth curtailed - and what have been taken as "rights" are now seen to be unaffordable privileges.
The figure shows four panels, each with the same two axes. The vertical axis shows the range of earnings encountered by someone showing a particular level skill, as represented on the horizontal axis. ("Skill" means much more than technical capability, referring at the highest levels to the ability to orchestrate and inspire groups of people, often with disparate skills, assumptions and motives, towards complex and often ill defined ends. ) You should see both axes as being logarithmic.
Panel a If the state played no role in income distribution, then the result would be much as shown. A small fraction of very capable people earn a great deal, and the less capable earn relatively little.
Panel b The state does, however, intervene through the mechanisms that are shown. ("Higher costs" refer to the fact that both tariffs and artificially augmented wages lead to a more costly range of products on sale.) The goals for doing this used to be the prevention of the accumulation of huge fortunes and the financing of publics works - from education to drainage - that benefitted all in society. It has since become "what states do" for most of the industrial world, with the government spending up to or beyond half of all value added on its projects. Many are fairly shameless bribes to specific electorates; and others are more or less effective schemes aimed to raise national competence.
Panel c Industrialising states have limited welfare and incomes tend to reflect both skill and social connections. Very high skills are rare, not least as the required infrastructure - and perhaps demand - does not yet exist. Nevertheless, the upper classes may live substantially better than their peers in the industrial countries, notably if one ignores such niceties as clean air and safe streets, or the universal provision of these.
Panel d If Panels b and c are superimposed, we see that it is often cheaper to carry out high skills in the rich world, but far more costly to handle low skill tasks in these countries. Hence we have seen a profound export of jobs from the rich world to the industrialising countries. This has benefitted the rich economies by cutting their cost base, and whole industries have been exported in this way. This is nothing new: Britain essentially moved its textile industry to India during World War Two. The consequence has been to put pressure on low skill individuals, however. This has been somewhat concealed where the industry itself has disappeared, but the opening of European labour markets of the new accessional countries has sparked a sharp fall in the wages of skilled manual craftsmen. For example, a London electrician might have expected to earn £200 a day in the late 1990s, but will get less than a third of that today, due to an influx of - for example - Polish workers. Some craftsmen have set themselves up to orchestrate Polish and Rumanian worker in London, and others have had to accept a sharp fall in their standard of living.
Much of this trend was concealed during the 1990s, not least by house price inflation. Middle skill individuals borrowed at low rates, and watched capital appreciation swallow their debt. The often augmented their static or falling real-terms incomes through re-mortgaging their properties. The US sub-prime market, aimed at low skill individuals, allowed the same to happen on properties with limited fundamental value. Cheap and readily available debt allowed general consumer spending to continue on a growing mountain of debt.
As already noted, this has had to stop. State subsidy will have to stop growing of contract, now least when faced with imminent new problems, in the form aging populations, often with limited or no savings. Aged people currently consume around 10% of GNP in most industrial countries. Unless radical improvements in health allow people to work longer (and if their skills are still required) this cadre will consume around a fifth of GNP by 2025. An unemployed person has the option of work, even at an unattractively low wage, but a senile or crippled elderly person has no such option.
Population translated in to wealth and security almost directly a hundred years ago. Wealth came from labour in primary production of manufacture, and the chief requirement was a strong back. Security was defined by the size of the army, again defined chiefly by numbers. This is simply not the case today. The world workforce double during the 1990s, and the parallel expansion of outsourcing effectively increased competition for every person in the work place. It has always been the case that some people add less value during their lives than they consume, and this can be extended to take into account positive but noneconomic things which they did, such as nurture children; and also the negative features that come from crime, environmental overheads and so on.
Societies have adopted a number of strategies to deal with the "non-economic" individual. In earlier cultures very limited support was offered and most such people died quickly through violence, exposure or disease. Early industrialisation took some of them up in the armed forces, assigned others to forced labour - the work house, the parish dole - and exported still more to the colonies. The majority of the industrial world population has, however, been able to increase its skill base in line with demand, such that literacy and numeracy are near-universal, computer skills are widespread and most people have a clear idea of how they are expected to behave in a wide range of circumstances. None of that was true even two generations ago.
This said, a significant and perhaps growing component of the industrial world populations seem unable or disinclined to "keep up". Welfare provision has certainly removed one potential stimulus, but a perhaps-stronger force has been the distillation of many societies into groups with very limited common experience. Around a fifth of non-retired households in Europe (slightly more in the US) have nobody working in them. There is a strong tendency for this to repeat itself across the generations. People who live in such milieux have very little direct contact with the rest of society, and tend to follow entertainment media and sources of information essentially targeted at them, or which - like sport - convey little of the way the rest of the society live.
Pressures on people to augment their skills will undoubtedly increase in intensity. At issue are three questions:
Solving any part of this is bound to generate huge political pain. But solved it must be.