Yea well I don't think that is how the world works.
The net effect is that a downvote is a direct taking away of funds from someone. That is how this feels and how it will be perceived.
People are not going to put their emotions aside and say, well this is for technical reasons.
They will just be pissed. There has already been much uproar about downvotes. A downvote is a punishment and it takes away money.
If people make too much at the top, downvotes won't fix that. Its the reward model that is responsible for this. It works like a lottery where the top of the pyramid gets everything and the bottom nothing. This works exponentially. If you chop of the tip, there is just going to be a new tip. all that is needed is to reduce the exponential rewarding and steem will reward many instead of a handful. That would then give users a reasin to stay and to join instead of leaving like they do today.
Flagging anyone is not going to help anyone. It should be done in case of abuse and fraud or if you do not like something. But not to redistribute funds. It is simply not the tool for this.
Voting on steem is about distribution of funds. Upvote, downvote, inbetween vote, charm vote or strange vote, someone is going to have funds taken away.
They will put their emotions aside. Or steem will fail. Its as simple as that. An environment where money has emotional context is a fundamentally toxic environment. Somewhere like reddit or facebook, it could work, because money isnt involved. But here, trying to give emotional context to votes, will destroy the system sooner or later.
The reason little progress has been made in this area is that the people who should be leaders here have been far too willing to mollycoddle people who foolishly believe that downvoting should be proscribed except in certain circumstances.
It is absolutely the tool for this. It is the only tool. And as long as people with a problem with the way funds are being distributed, and are trying to fix that problem by using a saw to hammer in a nail, there are going to be bad feelings.
I think you have explained how it works technically very well.
However in order for steem to work, we must make it into something that is useful for many people.
The current structure is problematic because it centralizes the rewards to very few at the top. What is required for a successful reward system is a more evenly distributed payout algo. Cutting off the highest paid post with exponential rewards does not really help because it will simply give the rewards to the 2nd highest post, where you would have to re-do the same procedure.
We could simply just pay rewards according to how many votes weighted by SP authors receive and many more people would be paid and be happy. This would create greater retention and attract more users.
Downvoting the way you described as a tool for re-distributing funds looks to me like a workaround that does not work (i.e. like @smooth described).