Income Inequality in America - fact or fiction?

There is an interesting, well cited, and I think, even handed piece on income inequality in America 1970 to January 2010. It compares various measures of income inequality over time and comes to some conclusions. Among them:

  1. Absolute inequality in America is much less than it was at the turn of the century. Health care, entertainment, and class mobility are higher than they have ever been, which is good.

  2. However, income inequality of the top 1 percent with the rest of the country has grown since 1980. Because of the absolute improvement in quality of life that many Americans are seeing they do not frame political discussions in a "rich vs. poor" dynamic, and so do not address rising inequality.

  3. Most of the inequality in the country is due to the incomes of the financial sector. The richest 25 HF managers made more money in 2007 than the CEOs of all of the F500. The share of corporate profits owned by the financial sector has also recently exploded (to 41 percent this decade).

  4. The author surmises that this may be because of the financial sector's ability to "bet short on volatility" or in other words, assume no catastrophic tail risk to investments. Larger firms are able to use the threat of their collapse destroying GDP gains of the country to extract bail out payments from Washington.

Over all, I thought this was a very interesting read, and very well documented. Pretty damning of the financial sector.

Read the article here:

The Inequality That Matters
Tyler Cowen

http://www.the-american-interest.com/article-bd.c…

 

This is only partially related, but I'd like to suggest

. Basically, it's someone reading something written by Thomas Sowell, which explains why statistical aggregates (such as "rich" vs. "poor") can be confusing when one really wants to understand an issue.

 

I never understand these income inequality arguments. How does someone being a billionaire have anything to do with my personal wealth? Rich people tend to get richer if they keep investing their money. Middle class gets poorer if they keep spending their money. Go read the Millionaire Next Door.

Sand in Vagina Syndrome people. Stop worrying that "the gap between super rich and middle class" has expanded and focus on making your own wealth.

 
ANT:
I never understand these income inequality arguments. How does someone being a billionaire have anything to do with my personal wealth? Rich people tend to get richer if they keep investing their money. Middle class gets poorer if they keep spending their money. Go read the Millionaire Next Door.

Sand in Vagina Syndrome people. Stop worrying that "the gap between super rich and middle class" has expanded and focus on making your own wealth.

Because, the gains in productivity are not shared by everyone. Between the end of WWII and the early 1980's (when interest rates peaked and Reagan implemented tax cuts), real median income growth and productivity growth in the US exhibited a very strong correlation. After the peak in interest rates and Reagan tax cuts (or some other event in the early 1980's, perhaps the adoption of the shareholder wealth mantra in management, which had not been practiced much before this time period (see HBR's piece of Robert McNamara from this month)), productivity growth continued to trend upward (and even accelerated) and the correlation broke with real median income growth broke. Thus, gains in productivity are no longer shared by everyone as a nation, but instead are returned to shareholders.

This raises a few questions. Are the top 1% (or .1% or .01% or whatever the study in question is using as a benchmark) of earners actually driving the innovation behind all of our productivity growth? Or is innovation, regardless of the level of the organization at which it occurs, awarded most handsomely to the firm's senior management, and less generously to those further down on the totem pole?

In addition, the growth of the finance industry has certainly had an effect on this as well. PE firms and HF's press CEO's to cut costs and eke out gains (as do BB research depts). Firms that don't might be bought out by a PE firm which will make the cuts anyway.

It is also interesting to note that equity markets began a 19 year bull run in the early 1980's. It is also interesting that consumer credit took off during this time period as well. Thus, consumers purchased more through the use of credit and leverage, and not through income.

High income earners (top .01%) saw a 384% increase in income between 1979-2005. Median income saw a 12% rise. Did the rich really drive enough of the productivity growth necessary to justify this enormous dichotomy between their real income growth and median real income growth? I find it hard to believe that 99.9% of the population did not in some way drive innovation during this time period (or only enough innovation to drive 12% real income growth). I think it'd be really difficult to make the argument that the rich drove this innovation on their own.

If the rich did not drive the innovation necessary to justify the growth in their incomes, than it is obvious that something, whether it be management philosophies such as shareholder wealth creation, or tax policies in this country, have skewed productivity so that gains are reaped by the rich, but not buy society as a whole. That is why it is a problem.

(BTW I've got a slideshow with these figures. PM me for a copy)

looking for that pick-me-up to power through an all-nighter?
 
ANT:
I never understand these income inequality arguments. How does someone being a billionaire have anything to do with my personal wealth? Rich people tend to get richer if they keep investing their money. Middle class gets poorer if they keep spending their money. Go read the Millionaire Next Door.

Sand in Vagina Syndrome people. Stop worrying that "the gap between super rich and middle class" has expanded and focus on making your own wealth.

Because there are some goods that do not increase with the size of the economic pie. Most things do, but many do not. Land is a good example.

Also, countries that have large Gini coefficients are usually incredibly terrible places to live. When there is a large difference in the absolute wealth of the people in a country it becomes more likely the people on the lowest rungs of society will resort to violence which leads to oppression by the upper classes. This spirals into a long history of class violence.

Notice that in the link below the darker a country is the less likely you would be to want to live there (assuming you had to pick at random to whom you were born ~ Southern Africa being a pretty big case in point). The only first world country that is not a happy blue color is the US. Some might consider that a bad sign.

http://en.wikipedia.org/wiki/File:Gini_Coefficient_World_CIA_Report_200…

 

First of all, kudos to LIBOR that is an excellent rebuttal.

Second, I just stumbled upon this: http://en.wikipedia.org/wiki/Economic_inequality#Effects_of_inequality

The cliff notes version is the following:

  • Homicide and social cohesion is inversely correlated with inequality
  • Some correlation with health, but I'm skeptical (it may have to do with levels of income as less equitable societies are also generally poorer)
  • Decreasing utility of wealth ("For example, a house may provide less utility to a single millionaire as a summer home than it would to a homeless family of five.")
  • If economic inequality becomes institutionalized it will be more difficult for people to strive to reach higher status
  • There may be affects to economic growth, but it is disputed.

But I think the larger point is this: You can't have a democratic society that is highly inequitable. If 51 percent of the people must agree who is to lead the country and they are living in poverty and they see those above them making more than they (or their children) can ever spend they will vote to promote re-distributive public policy. The longer the population waits and the larger the wealth disparity becomes, the harsher the end result. There have been more than a few socialist dictators who gained power after a democratic election just because the wealthy did not think to control their excesses.

 

Wait, I must be retarded, but please explain this to me. How does the richest members of this country, getting more rich, have anything to do with me getting richer. Other than increasing the jealousy factor, who cares? Salaries might have grown slowly, but that is only an issue if you sit on your hands and wait for your small, cost of living increases. Get more education and go to another job. Pretty simple.

Poor people should spend less time bitching about rich people and more time working on not being poor. Oh I forgot, rich people forced poor people to not go to school or have children they couldn't afford.

This boys and girls is why some people hate free markets and freedom. No one is holding your hand, telling you what to do. You fuck up, you suffer. Real clear cut.

I would also expect this country to have a huge income inequality. It is becoming more and more clear that we have winners and we have losers in America. The more the government babies us and provides support to these losers, the more they will grow.

God helps those who help themselves.

 

As the Vagina Coefficient grows you will see Obama and his kin continue to get re-elected.

It amazes me. You take a dirt poor Indian kid, bring him to America and in one generation he is a doctor. You take an American with every benefit this country gives and they piss and moan about another persons wealth.

I think we should start deporting "Americans" and importing people who deserve this great country. Way too many fucking losers inhabiting this country right now. I didn't realize that the Bill of Rights included wiping your ass and holding your hand. Fucking pussies.

 

I think a distinction needs to be made between "average" American's who are jealous of "the rich", and those who are genuinely angered that some factor (tax policies, shareholder value focus, etc) is creating a massive discrepancy in wealth, where the rich reap the gains average Americans sow. This is a totally legitimate concern and is worth examining.

As mentioned above, the question needs to be asked if their is proper justification for the increase in income for wealthy households. My prior post addressed this. According to Solow growth model, GDP (income) growth comes from three sources: growth in capital stock, growth in population, or technological advances which augment labor. In developed economies, capital stock and population account for a very small percentage of growth in GDP (business expenditures in US replace depreciated equipment, and population growth is very small, only because of immigration).

Thus, the real gains in GDP growth come from increases in productivity. Productivity growth has increased over the last thirty years. (1947 index of both productivity growth and real median income from my data source is 100: in 1980 both stood around 200; in 2005, productivity growth reached 350, whereas real median income was at 225). As can be easily seen, growth in productivity until 1980 corresponded with an increase in real median income; after that point, these two measures diverged. Over the same time period, the income of the top .01% (as I mentioned above), grew 384%.

As can be seen, the rich have reaped most of the productivity gains over the last 30 years. The question is, is this justified? Have the rich really added 4X more value than in 1980. Or, are policies (particularly tax policies), skewed to give the rich an advantage in reaping the gains. In order to argue that the rich have added that much value, one must also argue that 99.9% of the population did not add that much value. I personally do not have data or research on this, but I am of the belief that it is more likely the rich have benefited from the poor in this particular situation.

looking for that pick-me-up to power through an all-nighter?
 

Fuck it, lets just tax the rich 100% and that will solve everything. Nancy Pelosi can hand bags of cash to the more deserving welfare recipients. They will surly provide more value to the economy than evil business owners. Who cares about producing jobs when the government is taking care of you.

 
Best Response

No one on this thread even remotely implied that we should raise taxes on the rich. Nor has anyone claimed that welfare programs are justified and necessary, as that is a discussion outside the scope of this conversation (and one that I do not know enough about to even comment on). All that has been said is that there is substantial, concrete evidence that income inequality has risen over the course of the last thirty years. All we have attempted to do is ask if this is fair. Have the rich really created the productive gains in our economy? Or have they simply moved money around and taken a share for doing so? If so, what factors are influencing this phenomena?

Free markets are driven by rational individuals acting in their best interests, which in turn is the best interest for society (You've read Wealth of Nations so you know Smith's argument). As can be seen above, it is questionable (I'm not saying its a hard truth or not, I'm saying its open to further research and discussion) if the rich have actually driven the productive gains that they have been dearly compensated for over the past 30 years? If so, they might be acting in their best interest; however, this might not be in society's best interest, since they are reaping the rewards (income through productivity gains) of other's (the middle class') innovation. Thus, proper action must be taken to close this inefficient allocation of resources. I'm not advocating any particular solution, I'm just saying that this is a problem that needs to be dealt with in a way that ensures the system is fair to everyone.

looking for that pick-me-up to power through an all-nighter?
 

Gini Coefficient sucks my ass, BTW.

http://en.wikipedia.org/wiki/Gini_coefficient

Read through that. The USA has had a pretty stable Coefficient for the last 80 years.

1929: 45.0 (estimated) 1947: 37.6 (estimated) 1967: 39.7 (first year reported) 1968: 38.6 (lowest index reported) 1970: 39.4 1980: 40.3 1990: 42.8 2000: 46.2 10 2005: 46.9 2006: 47.0 (highest index reported) 2007: 46.3 2008: 46.69 2009: 46.8

Care should be taken in using the Gini coefficient as a measure of egalitarianism, as it is properly a measure of income dispersion. For example, if two equally egalitarian countries pursue different immigration policies, the country accepting higher proportion of low-income or impoverished migrants will be assessed as less equal (gain a higher Gini coefficient).

Europe has a high tax and redistribute policy, hence the lower Vagina score. The USA is much more free, hence the higher score. We also are the place where the worlds poor and hungry come to better themselves.

 

One thing that is often left-out of the income inequality debate, is the tremendous amount of immigrants that come to the US. Many of these immigrants also come in at the bottom of the income distribution. In other words, if the US has seen an increased number of low-skilled workers immigrating here, the Gini Coefficient (and any other measure of income inequality) will give you a skewed sense of what's going on. You'll say, "The rich have gotten richer in comparison to the poor," when in reality, "the poor" from 10 years ago isn't the same "poor" today. Also, you guys should also check out that link I posted above, because "the rich" and "the poor" are not fixed groups. In other words, there's a lot of movement in these statistical categories, despite the fact that they're not treated as such.

 

1) Monkeysama created this post, not you LIBOR. This is not meant to be a dig at you, but the OP has a MO. If you created the thread I might be a tad more civil.

2) Yes, the numbers are clear. We have increased our coefficient. We are also higher than Europe. Ok, cool, that is a pretty dull and quick thread.

3) If there is income inequality, the next logical step is how to "correct" this. Inequality has negative connotation. Correcting any inequality typically leads to an attempt at instituting fairness. With income, taxes fulfill this role.

4) Suppose you find out tomorrow that rich individuals did not fully warrant all the benefits of these productivity gains. What next? Government intervention to fix this? Sometimes people win and sometimes they lose. It is rarely fair. My solution is to stop focusing on other people. Super rich individuals make up a small % of this country. Going from poor to middle class is relatively easy. People should focus on that.

If you are young and poor all you need to do is stay away from drugs and wear a condom. Community college and state universities are cheap alternatives. You can get a 4 year degree while working part time and have minimal, if any, student loan debt. A 4 year degree is really the gateway to a middle class income. Get a job making 30-40K a year and work hard. Done.

How fucking hard is that. We provide free high school. Cheap colleges. Guaranteed student loans. Tax credits for single moms, poor students, grants, food stamps, medicaid, etc. Free condoms at the planned parenthood center.

Try being dirt poor in India, China, Russia, etc. See how easy it is to make the leap.

I will reiterate. If I make 10 Trillion Dollars a year and have 400 Y acts and you make 2 bucks an hour, other than being incredibly unfair, it makes no difference. My wealth does not mean you cannot have wealth. You might be pissed, but your opportunities do not change. Go to school, bust your ass and work hard.

 
ANT:
Suppose you find out tomorrow that rich individuals did not fully warrant all the benefits of these productivity gains.

To think that we are actually sophisticated enough to realize whether or not someone "warranted" the productivity gains is pretty ridiculous. There's no precise way to measure it. And, again, "the rich" is made up of many different individuals (as opposed to some collective group, that makes collective decisions). In other words, maybe some of the individuals in "the rich" category actually are warranted in their increased salary - in fact, maybe their income didn't go up enough, while other rich people had salary increases that are higher than their productivity gains. The same thing could be said of "the poor." So, maybe we should do it on a case by case basis - give money from rich to poor when it's "unwarranted" and give money from poor to rich in the cases where poor individuals had salary increases greater than their productivity gains. But, the reason that would never happen, is because the idea that this whole debate is about whether it's "warranted" or not is a red herring; the whole debate is really about the fact that people want to redistribute wealth out of egalitarianism.

Lastly, just because someone had a salary increase greater than their productivity increase, does not mean they don't deserve their salary. Those are two different things. You can't make $X without convincing someone else that you deserve it (unless you take it from them, legally or otherwise). The reason you can have salary increases that are greater than your productivity increases, is because in both cases you're probably earning far less than you're worth, due to taxation. (For example, maybe the average rich person used to make $100K and keep $50K, and now they make $150K and keep $100K.)

 

First, Anthony, I do not have an MO, and it is unfair to say that I do. I did not create a thread entitled "taxes = stealing".

Second, in your Gini coefficient timeline you'll notice that the value increased from 40.3 to 46.8 which is a 16 percent rise. Also, by your chart, our Gini coefficient is higher than it was in 1929, which may be a bad sign. I understand the impact of immigration on the Gini coefficient, but that probably means the Gini coefficient is even worse - there are many undocumented hispanic workers that live subsistence lifestyles that are most likely not reflected in the statistics.

econ - I respectfully disagree that is impossible to determine if someone is deserving of their salary (at least in the aggregate). If the productivity gains (in GDP) are less than the salary gains of the cohort in question, then that cohort is gaining a salary by extracting economic rents (I would not be surprised if much of the health insurance industry fit into this category). What LIBOR is saying is that unless the economic output of the richest .01 percent has grown 4 times in the last 30 years they have simply gotten better at rent seeking. I'm not sure if this is the case or not, but it certainly is not impossible to measure.

 
monkeysama:
I respectfully disagree that is impossible to determine if someone is deserving of their salary (at least in the aggregate). If the productivity gains (in GDP) are less than the salary gains of the cohort in question, then that cohort is gaining a salary by extracting economic rents (I would not be surprised if much of the health insurance industry fit into this category). What LIBOR is saying is that unless the economic output of the richest .01 percent has grown 4 times in the last 30 years they have simply gotten better at rent seeking. I'm not sure if this is the case or not, but it certainly is not impossible to measure.

I'm skeptical we can do it very precisely in the aggregate; but assuming your right, that still doesn't help us much, since we're talking about policies that will be effecting many individuals. In other words, what if only the top 10% of "the rich" are extracting economic rents? Is it fair to make policies that hurt all of "the rich?" Also, your whole thing about comparing gains in GDP vs. salary gains completely overlooks one of the points I've been trying to make this entire thread; namely that "the rich" and "the poor" are not the same people over time. In other words, I don't think your logic holds, because you're (implicitly) treating the "cohorts" as fixed. If you notice the salary gains exceed the gains in GDP, you might be overlooking all the people who had tremendous upwards income mobility - you'll think "the rich have gotten richer," when if fact, many people have moved up. Basically there are a lot of complexities that you're overlooking, which is often what happens when people look at aggregate date. Put differently, aggregate data is often more confusing then you seem to be admitting. Issues of aggregate categories who are not fixed (people move between the aggregate categories), changes in demographics (like the fact that we often have household data, and the average age/size of households change over time, immigration trends, etc); I'm sure I could go on and one if I wanted to, but that's besides the point since all I'm trying to say is that it's hubris to overlook a lot of these issues and think you can precisely measure what "gains" have went to what people - and even more hubris to think you can actually determine whether or not they "deserve" it.

P.S. One more point. You say it is possible to tell whether or not they "deserve" the increases salary gains, by comparing them to the overall productivity gains. However, that's flawed because maybe they weren't getting what they "deserved" in the first place. In other words, you're trying to draw absolute conclusions based on relative changes. To take an extreme example (so you can see the flaw in your logic), it'd be like saying African Americans had salary gains in excess of their productivity gains after the end of slavery, and therefore they didn't "deserve" their increase in income. You see the flaw in your logic? If people can get more than they "deserve" now, than who says they weren't getting less than they "deserved" before? Maybe they're not extracting economic rents today, but instead where having economic rents extracted from them yesterday. So, changes in these relative measures are often not useful when making the kind of absolute statements you are.

 
econ:
monkeysama:
I respectfully disagree that is impossible to determine if someone is deserving of their salary (at least in the aggregate). If the productivity gains (in GDP) are less than the salary gains of the cohort in question, then that cohort is gaining a salary by extracting economic rents (I would not be surprised if much of the health insurance industry fit into this category). What LIBOR is saying is that unless the economic output of the richest .01 percent has grown 4 times in the last 30 years they have simply gotten better at rent seeking. I'm not sure if this is the case or not, but it certainly is not impossible to measure.

I'm skeptical we can do it very precisely in the aggregate; but assuming your right, that still doesn't help us much, since we're talking about policies that will be effecting many individuals. In other words, what if only the top 10% of "the rich" are extracting economic rents? Is it fair to make policies that hurt all of "the rich?" Also, your whole thing about comparing gains in GDP vs. salary gains completely overlooks one of the points I've been trying to make this entire thread; namely that "the rich" and "the poor" are not the same people over time. In other words, I don't think your logic holds, because you're (implicitly) treating the "cohorts" as fixed. If you notice the salary gains exceed the gains in GDP, you might be overlooking all the people who had tremendous upwards income mobility - you'll think "the rich have gotten richer," when if fact, many people have moved up. Basically there are a lot of complexities that you're overlooking, which is often what happens when people look at aggregate date. Put differently, aggregate data is often more confusing then you seem to be admitting. Issues of aggregate categories who are not fixed (people move between the aggregate categories), changes in demographics (like the fact that we often have household data, and the average age/size of households change over time, immigration trends, etc); I'm sure I could go on and one if I wanted to, but that's besides the point since all I'm trying to say is that it's hubris to overlook a lot of these issues and think you can precisely measure what "gains" have went to what people - and even more hubris to think you can actually determine whether or not they "deserve" it.

P.S. One more point. You say it is possible to tell whether or not they "deserve" the increases salary gains, by comparing them to the overall productivity gains. However, that's flawed because maybe they weren't getting what they "deserved" in the first place. In other words, you're trying to draw absolute conclusions based on relative changes. To take an extreme example (so you can see the flaw in your logic), it'd be like saying African Americans had salary gains in excess of their productivity gains after the end of slavery, and therefore they didn't "deserve" their increase in income. You see the flaw in your logic? If people can get more than they "deserve" now, than who says they weren't getting less than they "deserved" before? Maybe they're not extracting economic rents today, but instead where having economic rents extracted from them yesterday. So, changes in these relative measures are often not useful when making the kind of absolute statements you are.

I understand what you're saying and I think I may have confused the issue by referring to cohorts. What I was actually thinking about was professions. What if we were to find out that metals and mining CEOs were making salaries that were exploding in compensation over a period of time, but the metals and mining contribution to GDP (as a sector) had small gains? There could be a number of reasons why (perhaps increased competition in the sector had warranted the pay increases while corporate profitability declined or perhaps deregulation of the industry had led to tax loopholes that increased pay into offshore accounts of foreign executives). In one of those two scenarios we know that that sector is unhealthy and might need reform, and in the other we know that there are fundamental changes to the industry that may affect pay positively. But we know that those changes are occurring and they are measurable.

Clearly, we must do this by the sector we are trying to analyze. Throughout their lifetime several people move between classes and many start as poor college students or may be disenfranchised at one point in their lives (race, religion, creed) and not in others. But I think it is disingenuous to state that we cannot at least find out what the ratio of pay versus productivity of a sector of an economy is over time.

 

Are we talking about fairness or something real? Is the vagina coefficient supposed to benefit GDP, increase employment, something tangible or just illustrate that someone got more cookies than a classmate?

 
ANT:
Are we talking about fairness or something real? Is the vagina coefficient supposed to benefit GDP, increase employment, something tangible or just illustrate that someone got more cookies than a classmate?

Name calling does nothing to further your point. And yes it does mean something real - lower gini coefficients lead to higher political corruption, crime rates, less social mobility, and generally worse outcomes. Further, there may be evidence that the highest paid individuals are expanding their share of the economic pie by rent seeking which lowers GDP and makes everyone else worse off. I would say that is something tangible.

 
monkeysama:
And yes it does mean something real - lower gini coefficients lead to higher political corruption, crime rates, less social mobility, and generally worse outcomes.

You're implying causality here, by using correlations. You've studied enough econ to know that correlation does not imply causation. For all you know, it goes in the opposite direction and political corruption causes inequality, or maybe there's some third variable that moves both of them simultaneously.

 

We are talking about the USA, correct? Not the lowest countries which are corrupt. Money can buy influence and power. Our political system tries to negate this, but isn't perfect. Are you suggesting limiting wealth? Is two million too much money? How much wealth can buy influence.

Did you not get enough snacks my friend? Jealous that someone else is more successful. Looking to the government to make it all better.

Vagina to the rescue

 

A related video that everybody might want to check out, is Milton Friedman's "Free To Choose" PBS documentary/series - Volume 5 (Created Equal) from the original 1980 series. The heated debate is particularly entertaining and thought provoking.

Milton Friedman's "Free To Choose" Videos (Again, note I am talking about the 1980/original series. The debate from the 1980 one, is so much better than the 1990 one.)

 

Another thing that is often overlooked when it comes to increases in household income inequality, is that women are much more involved in the labor force nowadays. A lot of women are going to college and getting good jobs. Presumably, married couples tend to have similar levels of income. In other words, educated/productive women are marrying educated/productive men, so obviously they're likely to have a higher combined income than couples had in the old days when only the man often worked.

 

monkeysama: A huge theme in our disagreements throughout various threads, is how precise economics is as a discipline. I think this is a nice discussion of some of the issues at hand: http://nobelprize.org/nobel_prizes/economics/laureates/1974/hayek-lectu…

I don't mean for this to come off condescending, so please don't take it that way, but I used to think a lot like you. I thought economics was a precise science, so I decided to get a PhD. Taking doctoral level courses really made me question the precision of the discipline because you get to see behind the scenes a little more. Don't get me wrong, I still think economics is a useful framework for thinking through stuff, it's just incredibly imprecise. I actually wish this wasn't the case, since it was a huge disappointment.

 

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