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Right ways to expand middle class

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By Jeffrey I. Kim

Both the ruling and opposition party leaders are trying to make rosy policy promises to win the presidential election scheduled for March 9, 2022. Among the promises is the expansion of the middle class to 70 percent from the 52 percent in 2019.

The definition of the middle class varies depending on whether the writer is an economist, a sociologist or a political scientist. A strong middle class can bring three major benefits: (1) development of human capital, (2) stable demand for and supply of goods and services and (3) increased productive efficiency.

Two measures of the middle class have been commonly used. One measure refers to those households whose income falls within 50 to 150 percent of the median income.

The other measure is based on the income quintile. It takes the second, third, and forth quintiles of income distribution. The first 20 percent of the income distribution indicates the low-income class while the last 20 percent quintile, the high-income class.

Broadly speaking, salaried workers belong to the middle class. However, without considering other sources of income such as financial assets, property income, the long-term forecasts of the changes in the middle class are subject to a large margin of errors.

Korea's middle-class ratio has been rapidly declining since 2017. In terms of the 50 to 150 percent of the median, the middle-class share for Korea in 1995 was 71 percent but it dropped to the 64 percent level during the 1997-98 Asian financial crisis. Then it came down to 52 percent in 2019 from 58.4 percent in 2017.

Previous studies show that the government can increase the middle-class ratio to some extent by a simple redistribution policy. For example, when the income tax rate increases, the high-income class shrinks. When the public transfer payments increase, the low-income class rises. With these two impacts, the middle class can expand.

However, the government's arbitrary redistribution policy has brought about the people's mistrust toward middle-class policy. Furthermore, if the government excludes income from real estate in measuring the middle class, the computed value would not reflect the true measure of the middle-class and we cannot get the expected benefits.

The Korean people are very sensitive to changes in house prices as their short- and long-term income are much affected. On May 10, President Moon Jae-in admitted the failure of real estate policy. During his presidency, Seoul apartment prices rose by 35 percent. On Oct. 5, Finance Minister Hong apologized for housing policy failure.

Despite more than a dozen policies to stabilize the real estate market, residential property prices skyrocketed. Kookmin Bank has recently announced that the house price-income ratio in Seoul rose from 13.9 in 2020 up to 17.4 in the first quarter of 2021. This figure means that a person needs to save his entire salary for 17.4 years without spending a dime in order to buy a house in Seoul.

To increase the share of the middle class, the government may increase the tax rates for the high-income class and increase the public transfer payments for the low-income class. However, this type of simple-minded discriminatory redistribution policy makes the whole economic pie smaller and everybody unhappy.

There are four right ways to expand the middle class. First, the government should promote the free-market system while keeping the public transfer payments at minimum. This makes the redistribution policy successful. Firms competing with one another raises wages. Workers competing with one another for the best jobs improve their skills and produce higher quality goods.

Second, the government should avoid arbitrary redistribution policies. Increases in tax rates and transfer payments for the low-income class can be carried out at the expense of taxpayers. However, free and fair competition in the markets makes the entire economic pie bigger at no one's expense.

Third, Korea's housing policy should be readjusted. Currently Korea suffers from excess demand for houses in the Seoul metropolitan area and excess supply in provincial areas. The solution to Korea's housing problem is to increase the housing supply in Seoul and decrease the housing supply in provincial areas.

Fourth, the government should keep unemployment at a proper level. Massive unemployment will immensely shrink the middle-class.


Dr. Jeffrey I. Kim (ickim@skku.ac.kr), former foreign investment ombudsman, is a professor emeritus at Sungkyunkwan University. He earned a Ph.D. in economics at the University of Chicago and taught at the University of Colorado, Boulder, and the American University, Washington, D.C.




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