Hamish McRae: Tectonic plates of the world economy shift

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The Independent Online

This is a well-known phenomenon, and is reflected in the business world: the growth of private banking for "high net worth" individuals, the growth of luxury industries and of expensive services. We are very aware of this because we see the advertisements every day: expensive houses in Dubai, yachts in Monaco, safari holidays in Botswana.

But this is only one of several shifts of economic power that are taking place. There is also a shift from well-paid factory workers in the developed world to lower-paid ones in the developing countries; from labour as a whole to capital; from workers to consumers; and from energy users to energy producers. The economics teams from two of the world's giant banks, Citigroup and HSBC, have recently produced papers on the shifts, and they help us understand the giant forces shaping the world economy. Citigroup focuses on the developed world and in particular the extent to which it is splitting into two blocs: what it calls the "plutonomy" and the rest. The plutonomy - the US, UK and Canada - are economies powered by the wealthy. The rest is continental Europe (ex Italy) and Japan. The first group have seen a rapid rise in the wealth of the rich, and are growing fast on the back of their spending; the second group have not seen such a rise and accordingly are growing much more slowly.

You can see something of this in the graphs. In the US, the share of income of the top 0.1 per cent, top 1 per cent and top 5 per cent have all reverted pretty much to the relationship they had in the 1920s (first graph). Actually, the way in which this income is earned has shifted, as in the earlier period rents and interest income were more important than they are now; wages and entrepreneurial receipts now dominate the income of the rich.

In the other two graphs, you can what has been happening to that top 1 per cent of incomes, on a rather shorter timescale, in the other economies. The contrast is obvious, though just why this should be so is less clear. It can't just be tax, because Canada is a relatively high-tax country, certainly vis-à-vis the US, and Switzerland is a low-tax one. To some extent, the figures may be distorted because they are based on tax returns and in some countries its is easier to park income outside the country than it is in others. And people move: there is a programme in France at the moment to try to persuade the rich to move back, as large numbers have decamped to Belgium and the UK.

Then there is the perennial question about which way round any economic relationship works. In this instance have the US, UK and Canada achieved faster growth because of the surge in wealth of the rich, or has a fast-growing society created more opportunities to become rich? Probably a bit of both.

My own view is that there are a group of high-earners in the English-speaking world who benefit greatly from globalisation because they can sell their services to a wider market: people in banking, the legal profession, parts of the media, key sports. For some reason, people in continental European countries and Japan have been less able to generate this surge in income.

Whatever the reasons, Citigroup argues that this process will probably continue. It also argues that the imbalances in the global economy, with the US running its huge current account deficit, are more sustainable than most people think. These economies are sustained by the spending of the rich and provided the rich go on spending, growth will continue. The rich are much less likely to be squeezed by higher interest rates than the middle-income groups. If this is correct, the long boom can continue a while yet.

The HSBC paper looks at redistribution of income between countries rather than the distribution within them. There are, it argues, three puzzles.

One is the weakening of the position of labour in the developed world - general labour, that is, not the top 1 per cent. Two things are responsible for this: the opening up of Eastern Europe and the entry of China on global markets; and the growing mobility of capital.

The first means that workers in, for example, Western Europe have seen jobs shift to Eastern Europe and Asia. Capital can get access to these sources of cheap labour, get high returns, so company profits grow. Meanwhile, excess savings in Asia are reinvested in the relatively risk-free US. Global growth as a whole flourishes.

This leads to a second shift, from labour to capital. Labour globally is more available but capital is more scarce. So returns on capital, in the company sector at least, have risen. Third, high energy prices mean that income has shifted from energy importers to energy exporters - a process that creates big gainers (Russia and Canada as well as the Middle East) and big losers (most of Europe and Japan).

The two banks reach different conclusions. Citigroup focuses on the possibility that the global imbalances are more sustainable than is widely appreciated. HSBC is more worried about the political risks, particularly of the squeeze on the incomes of working people in the West who are now competing against labour from China.

The main point for me is that we are in the early stages of a shift in global economic power that in effect reverses the shift that took place 200 years ago with the Industrial Revolution. That revolution shifted power to Europe and subsequently North America, away from China and India. Now power is moving back. We have to figure out what we can do that other people on the far side of the world cannot do just as well. At the top of the market we can still outperform, particularly in the US and UK. But we should worry about the rest of our economy, taking all the social implications of rising inequality very seriously indeed.

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