Incredible.
On average, the shorter your first name, the more you will earn. In fact, the data show each extra letter “costs” you about $3,600 in annual salary. (source)
Online job matching site TheLadders has six million members … and a lot of salary data. For Mothers’ Day, the company decided to sort and analyze its information to see whether what our parents call us impacts our earning potential. (source)
More, and I think more serious posts in this series are here.
globalization, cartoon by Deng Coy Miel, Singapore
Globalization is the usual suspect when people discuss the causes of contemporary increases in income inequality in many Western nations. As a result of easier transportation, trade and communication, low skilled workers in those nations now face ever tougher competition from cheap workers in developing countries, and this competition drives down wages at the poor end of Western income distributions: workers have to swallow wage reductions under the threat of outsourcing. Increased immigration – another facet of globalization – has the same effect.
At the top end of the income distribution, the reverse is happening: the job of a CEO is now more complicated in our globalized world, and hence his pay is higher. The threat of relocation also has an effect on income inequality through the channel of the welfare state: companies threaten to relocate, not just because of labor costs, but also because of tax rates. Taxes in Western countries tend to be relatively high because social security tends to be relatively generous. The threat of relocation convinces governments to reduce tax rates, but the price to pay is often a less generous welfare state. This as well puts pressure on the income distribution.
All this sounds convincing, but I’m afraid it’s too simple. The effects of globalization on inequality starts to look more complicated when we take consumption into account. Globalization tends to lower the consumption prizes of a lot of goods, and cheaper consumption can counteract downward pressures on wages and social security. If you can buy more and better stuff with your paycheck, your unemployment benefit or your disability check, then perhaos you’re not worse off.
There’s an interesting paper here by Broda and Romalis in which they look at
the compositional differences in the basket of goods consumed by the poor and the rich in America. Using household data on non-durable consumption between 1994 and 2005 we document that much of the rise of income inequality has been offset by a relative decline in the price index of the poor. By relaxing the standard assumptions underlying the representative agent framework we find that inflation for households in the lowest tenth percentile of income has been 6 percentage points smaller than inflation for the upper tenth percentile over this period. The lower inflation at low income levels can be explained by three factors: 1) The poor consume a higher share of non-durable goods —whose prices have fallen relative to services over this period; 2) the prices of the set of non-durable goods consumed by the poor has fallen relative to that of the rich; and 3) a higher proportion of the new goods are purchased by the poor. We examine the role played by Chinese exports in explaining the lower inflation of the poor. Since Chinese exports are concentrated in low-quality non-durable products that are heavily purchased by poorer Americans, we find that about one third of the relative price drops faced by the poor are associated with rising Chinese imports.
When measuring income inequality, we should correct for the different prices of goods and services consumed by people in different income groups. This doesn’t mean that we should be happy about the fact that poor people live on cheap stuff; it simply means that some of the rising income inequality is compensated by cheaper stuff. And we have cheaper stuff because of globalization. Turning globalization into some sort of bogey man is therefore rather too simple. Income inequality has many causes, and it’s not clear that globalization is, everything considered, an important one.
Finally, a word about the supposed wage pressures of increased immigration: they are indeed no more than supposed.
More on income inequality and globalization. More posts in this series.
Don Draper looking self-confident
A lot of income inequality is hereditary: wealthy parents can offer their children better education, connections, support and other resources that help to advance their prospects in life. Hence, these children will also be comparatively wealthy, on average. An initially unequal wealth distribution results in a self-perpetuating and perhaps even self-enhancing cycle of income inequality. It’s therefore unlikely that a socially mobile and meritocratic society arises automatically.
One of those “other resources” is self-confidence. Very confident people tend to earn more. In other words, levels of self-confidence are correlated with socioeconomic status:
University students are … poor at estimating their own test-performance and over-estimate their predicted test score. However, females, white and working class students have less inflated view of themselves. (source)
And self-confidence, like education opportunities and networking, is passed from generation to generation – not necessarily in a genetic sense. Self-confidence is, therefore, one reason - together with other parental resources – why income inequality survives the passing of generations.
What is more, there is a feedback mechanism at work between two hereditary resources, self-confidence and education: self-confidence has a beneficial effect on education. A positive self-perception has a positive impact on the expected probability of educational success:
Even small differences in initial confidence can result in diverging patterns of human capital accumulation between otherwise identical individuals. As long as initial differences in the level of self-confidence are correlated with the socioeconomic background (as a large body of empirical evidence suggests [see also above]), self-confidence turns out to be a channel through which education and earnings inequalities are transmitted across generations. (source)
Self-confidence can even improve human capital if it’s baseless, as it often is; if, in other words, it’s not grounded in superior personal qualities:
Say you have two people of equal cognitive skills, but one is over-confident about his ability and the other under-confident. The over-confident one is more likely to stick with a subject during the early steep phase of the learning curve – believing that “I can master this if only I apply myself” – whereas his under-confident colleague is likely to give up, thinking the material too difficult for him. Alternatively, the over-confident student might choose “difficult” academic subjects at high school, which qualify him for entry to some elite universities, whilst the less confident one would choose less academic subjects which disqualify him. (source)
And self-confidence does not just perpetuate income inequality when it reinforces the education opportunities of those who already have better education opportunities given to them by their parents. Self-confidence is helpful in the labor market as well, and the labor market is, like education, an area in which parental resources tend to skew opportunities (wealthy parents are better connected to possible employers, for example):
Overconfident people might select into occupations where there’s a high pay-off to the lowish probability of success, such as management, law journalism or politics. Less confident folk, under-estimating their chances, might prefer occupations which yield less skewed rewards. People misperceive overconfidence as actual ability. The overconfident job candidate is thus more likely to get the job than the more rational one. Posh white blokes can – perhaps unwittingly – manipulate the social awkwardness of others for their own advantage, and thus progress at work. (source)
It’s hard to investigate the causes of income inequality without looking at the sources of income. In turns out that, in the U.S. at least but probably also in other developed countries, the majority of a population gets almost all of its income from wages, while people at the top of the income distribution get most of it from capital gains and dividends:
Dividends are payments made by a corporation to its shareholder members, usually a portion of corporate profits. Capital gains are profits that result from investments into a capital asset, such as stocks, bonds or real estate, which exceeds the purchase price. A capital gain is the difference between a higher selling price and a lower purchase price, resulting in a financial gain for the investor.
Given these differences in the sources of income, income inequality will rise if incomes from capital gains and dividends rise more rapidly than wage incomes, perhaps because taxes on the former are cut. And indeed, most of the recent increase in the Gini score for the US (higher Gini numbers imply a less equal distribution) comes from higher capital gains and dividends and from lower taxes for high earners (lower taxes not only on capital gains, by the way; many taxes have become less progressive in the U.S.):
various kinds of income contributing to growing income inequality
This cause of income inequality suggest a problem that goes deeper than inequality:
I think a lot of people sense that there’s something unsettling about this shift from labor income to capital incomes. It seems endemic of a society that devalues work while providing outsized rewards for speculation and asset accumulation. (source)
More posts in this series are here.
This post applies to the U.S., but I guess the same conclusion are valid for a number of other countries as well. In the case of the U.S., very high levels of income inequality could, in theory, be reduced in several ways:
Unfortunately, very little of this is happening. Let’s focus on the last two options. The tax system in the U.S. is not progressive at all. As you can see from the graphs below, taxation in the U.S. hardly influences income shares:
pretax and after tax income shares, federal taxes only, 2006
The poor only get a little bit more thanks to taxes, and the rich only lose a little bit. This is all the more regrettable given the fact that the rich have done very well over the last decades:
Higher tax rates for the wealthy and other more progressive taxes such as a higher inheritance tax, a higher capital gains tax, a Tobin tax etc. are politically impossible it seems.
Increased benefits for the poor are equally unrealistic given the fiscal situation and the predominant ideology. Although the poor in the U.S. do profit from the existing benefit system in absolute terms (unemployment insurance for example saves millions from absolute poverty), income inequality barely moves because of it. Income shares after benefits are hardly less unequal than before. The following graph shows the influence on income shares of the sum of taxes and transfers, but you get the picture:
Taxes and transfers result in the poor having a bit more and the rich having a bit less, but fundamentally they don’t change the distribution of income.
More posts in this series are here.
I’ve come across an interesting and novel argument (novel to me at least) in favor of measuring and doing something about relative poverty, and against an exclusive focus on absolute poverty. Absolute poverty – in other words, the absence of those resources necessary for the fulfillment of basic needs such as nutrition, shelter etc. – remains of course an important and perhaps even primordial concern, but relative poverty has always been an interesting notion to many of us: if you lack most of the things an average person in your society takes for granted, then you’ll feel deprived and excluded, ashamed like Adam Smith’s day-labourer who can’t appear in public without a linen shirt,
the want of which would be supposed to denote that disgraceful degree of poverty which, it is presumed, nobody can well fall into without extreme bad conduct.
rich man's horse, and poor man's horse
Linen shirts aren’t a basic need and one can be quite comfortable without it, but being without it in a certain society at a certain time in history can signal lack of desert. It can diminish the esteem others feel for you, as well as your self-esteem. As a result, you may be excluded from parts of society, and this exclusion may make it more difficult for you to acquire the resources necessary for your basic resources. Hence, your relative poverty leads you into absolute poverty, and your absolute poverty obviously makes your relative poverty worse. And when considering this vicious circle, we’re evidently not talking solely about linen shirts.
Anthropologists and economists have pointed out that festivals, celebrations and communal feasts are not just entertainment. They have an important social role in maintaining the networks that are crucial to coping with poverty and even escaping it. Household budget surveys have often revealed seemingly high expenditures on celebrations and festivals by very poor people. It is also known that clothing can serve an important social role. (source)
People therefore have very good reasons to claim that their well-being does not only depend on the avoidance of absolute deprivation but also on comparisons with others. Comparisons may even cause absolute deprivation.
Not all countries where income levels are very unequal are also countries where labor unions are weak or in decline; but some are, notably the U.S. For that reason, and because labor unions are generally regarded as forces advocating for a more equitable wage distribution, it’s tempting to see a causal link between declining unionization and increasing income inequality.
There’s a study out which estimates that approximately a fifth of the increase in hourly wage inequality among women in the U.S., and about a third among men, is explained by declining union membership.
Deunionization also increases inequality in sectors where unions have always been weak or absent, because companies in those sectors tended to follow wage levels in unionized sectors as a means to compete with union employers or to discourage unionization. Unions also influenced general government policy – e.g. minimum wage laws – which benefited non-unionized sectors. And, finally, with unions no longer making the general moral case for equality, voices against equality have gained the upper hand.
I know it’s only a correlation and hence no evidence of causation, but the correlation is indeed striking:
More posts in this series here.
Talented people usually earn more, especially when their talents are “marketable”, highly valuable and in demand among large groups of consumers or users. Hence, it’s tempting to conclude that income inequality is the natural and necessary result of the given inequality in the distribution of marketable talents. However, that conclusion only holds up when you turn things around: rather than talented people earning more, it has to be true that people who earn more generally have more and better talents, talents moreover which are in demand. I don’t know of any study confirming this claim, but my anecdotal observations in the matter tell me that the claim isn’t true: many rich people don’t have special talents, and many talented people aren’t rich at all.
But then why are some people rich? Perhaps they have some other native endowments, such as a strong will, discipline and a natural willingness to make an effort. Or perhaps they have successfully acquired these characteristics during the course of their upbringing and education. Income inequality is then the product of the natural and/or acquired inequality of effort. But, again, it’s easy to find wealthy people who are neither talented nor strong willed, and many poor people work very hard. As someone has said: hard work is much more common than success.
Maybe luck plays a large part in the creation of wealth: some people have the good fortune of acquiring – perhaps through inheritance – certain means of production. Others are born in a place and family that provides good education, numerous wealth creating opportunities, encouragement etc. Still others find themselves in an economy where demand for their particular contributions is high, or where these contributions are highly valued. Or maybe they find themselves in a political system where discrimination and certain government policies give them an advantage.
Your personal thoughts on the relative importance of talent, effort or luck will determine what you think should be done about income inequality. Those who believe effort is the main cause tend to assume nothing should be done. If wealth distribution is the sole result of differences in effort, then redistribution is not only unfair to those who invest more effort, but also has perverse consequences: it will destroy all future wealth and therefore make all future redistribution impossible, because punishing people for their efforts means taking away their incentives to invest effort.
If you think talent or a native endowment of discipline is the main cause of wealth inequality, then you will probably be more sympathetic to redistribution. Since no one deserves his or her talents or other native endowments, no one deserves the unequal rewards that come with unequal endowments. However, since people still need to use and develop their endowments, you’re likely to reserve at least a small role for effort. Hence, you’re not likely to be a strict egalitarian. Still, you will favor education as a means to foster some people’s lingering talents and underdeveloped sense of discipline, and perhaps you’ll also favor a more equal distribution of the attention society gives to different talents.
If you think income inequality is mainly caused by luck or the lack of it, you will be a strong egalitarian. You view talent and effort, as well as the ability and willingness to use and develop talents and to invest effort, as the products of good fortune: you’re lucky to have the right genes, parents and teachers who encourage you etc. And you also view other types of good fortune as causes of wealth: being in the right place at the right time, inheriting means of production, meeting the right business partners etc. Luck is undeserved, and so are its products. Hence redistribution is morally required.
What’s your view?
More posts in this series are here. Some statistics on income inequality are here.
Consider these two commonly accepted ideas:
These ideas have intuitive appeal and are undoubtedly correct in some cases. As overall assessments, however, they are clearly false. Inequality has many causes. Regarding #2: very deserving people may end up very poor, and very undeserving people may end up very rich. Many other factors besides effort or talent determine monetary outcomes, such as disability, the coincidence of place of birth, parental influence, education facilities, tax policy, discrimination, technological evolution etc.
Regarding idea #1: one could just as easily make the case that big business depends on government and uses government to acquire unfair advantages, thereby deepening the inequality gap. These unfair benefits should perhaps even be called forcible expropriation because some people are getting better off at the expense of those who have less, and are using the government for this purpose.
For example, you often see big corporations embracing government regulation of their business (e.g. Philip Morris accepting restrictions on cigarette advertising) because they know that smaller competitors will have a much harder time digesting the regulatory burden (and, in the case of Philip Morris, filling the name recognition gap when advertising is prohibited). Regulation in such cases gives big companies and big earners a competitive advantage, and causes the income gap to widen. Another example of regulation are quality standards: those also favor big existing companies and make it harder for new and smaller players to enter a market. The same is true for intellectual property rules, zoning restrictions, occupational licensing, capitalization requirements and many other types of regulation. Legislation and regulation is often embraced by big business and wealthy economic actors as a means to benefit at the expense of smaller actors.
Some types of collusion between big corporations and government are even more direct and open: protectionist import tariffs, subsidies, bailouts, expropriation of private property for corporate use (through eminent domain rules) and military interventions abroad.
By the way, this logic does not only widen the wealth gap but also drives the growth of government. Big business leads to big government, which in turn favors big business.
More posts in this series are here.
People who have enjoyed a relatively high level of education tend to have higher wages. They are more likely to be employed. And their marketable skills give them a competitive advantage. It would seem to follow from this that countries with low percentages of the population having completed some specified level of education (say secondary education) should also be countries that have relatively high levels of income inequality. However, that’s not really the case:
correlation between education and income inequality
It’s also true that educational attainment levels have risen in countries where income inequality has risen. All this would suggest that it’s not insufficient education that causes income inequality and that it’s futile to try to reduce income inequality by way of broadening the levels of education in a country.
However, that statement may go a bit too far. Education probably helps, but its effects are swamped by the effects of other factors that go the other way and aggravate income inequality. For instance, wage premiums aren’t the simple product of one’s education level. The type of education also matters (engineers will probably always earn more than philosophers), as do some noncognitive traits that are fostered by education but that are also more difficult if not impossible to equalize through education (such as discipline and intelligence). Add to this all the other elements that determine the levels of income in a society – the nature of one’s parents, peers and neighborhood, the social selection of desirable skills, international wage competition, regulation, corporate governance, taxation etc. – and it becomes clear that education alone can’t possibly produce a lot more income equality.
But that doesn’t mean it can’t help or that it shouldn’t be promoted for other reasons. Education is a good in itself, regardless of its effects on inequality. Furthermore, education promotes social mobility (the correlation between parents’ earnings and children’s earnings):
correlation between social mobility and education
More posts in this series are here.
[I]nequality has been soaring in part because of politics. Piketty and Saez document that the very rich today are different than those several decades ago, most importantly because they are not rentiers enjoying returns on their or their parents’ capital, but W-2 earners, enjoying very, very high salaries. Recent research by Thomas Philippon and Ariel Resheff shows a concurrent increase in salaries in the financial sector relative to the rest of the economy, confirming the pattern suggested by casual empiricism that many of these very high W-2 earners are in the financial sector.
But the expansion of the financial sector and the salaries therein over the last two decades may not have been just an unavoidable consequence of economic tides but a very political process. The deregulation of finance, despite the presence of implicit and explicit government guarantees to financial institutions which would have ordinarily necessitated significant regulation, appears to have been partly won by the financial industry as a result of lobbying, campaign contributions and the access to politicians that the industry enjoys (though this is not to argue that some of this deregulation did not have a compelling economic logic nor that free-market ideology played no role). If so, politics may have been the key factor in setting in motion the forces that have led to the massive rise in top inequality. (source)
More posts in this series are here.
Income inequality doesn’t have the same causes everywhere, as is evident from this study which points to the fact that slavery in the U.S., which was abolished almost 150 years ago, still has nefarious effects today.
Within the US, the institution of slavery has historically been associated more heavily with specific areas – primarily the South. This geographic differentiation allows us to identify the link between past slavery and current outcomes. We start by reviewing, over a cross section of counties, the effect of the intensity of slavery in 1870 on the current level of income per capita. For the year 2000, we find no evidence that those counties that employed slave labour more heavily are poorer than those that did so to a lesser extent or not at all (even though a negative relationship between slavery and income was still present until 1970).
Next we turn to the impact of slavery on current income disparities and we find that it is indeed associated with a higher degree of income inequality. In other words, former slave counties are more unequal in the present day. They also show a higher poverty rate and a higher degree of racial inequality. Moreover, the data say that the impact of slavery on economic inequality and poverty runs through its impact on racial inequality, and not vice versa. (source)
How exactly does slavery lead to long turn income inequality? If slavery is seen as a symptom of feelings of racial superiority, then it’s not far-fetched to assume that those feelings didn’t die with slavery and continued to affect blacks by way of discriminatory policies and practices, including in wage determination and other areas that influence economic inequality, such as the provision of education.
This, by the way, also makes the case for reparations a bit stronger. More posts in this series are here.
Income inequality has risen in many countries during the last decades, including the U.S. The causes of this evolution obviously differ from country to country, although some causes may be universal. If we focus on the U.S., one important cause is wage stagnation for middle class and poor families since the 1970s. This stagnation, combined with the fact that the incomes of the wealthy continued along their pre-1970s growth path, caused increasing income inequality. The 1970s are a clear turning point, as you can see here:
The decades before the 1970s were what has been called a time of “shared prosperity”. Maybe trickle down economics really did work back then. Since the 1970s, however, income gains went almost entirely to the very wealthy, without much of the gains trickling down.
If that is why inequality has increased, we still have to answer the question why lower wages have stagnated. Maybe the decline of the minimum wage has something to do with it:
And, because a picture’s worth a thousand words, here you have one:
wage stagnation cartoon, by RJ Matson
Inspired, of course, by this Escher classic:
Ascending and Descending, 1960, Lithograph by MC Escher
More posts in this series are here.
Some say that the increase in income inequality in countries such as the U.S. has been the result of deliberate government policy. That’s quite an accusation. It’s not controversial to assume that tax policy under right wing governments tends to be less burdensome on the rich, and that social welfare policy under such governments tends to be more stingy. If you look at it like this, it’s not crazy to argue that right wing policies can aggravate income inequality. But it’s quite another thing to claim that right wing governments use these policies in order to deliberately aggravate income inequality. That accusation is incompatible with right wing ideology, which claims that the preferred policies also and ultimately help the poor (trickle down economics etc.), and that left wing policies supposedly favoring the poor are in fact self-destructive (unemployment benefits create labor disincentives, taxes create production disincentives, etc.). However, it’s possible that this ideology is just a smokescreen for anti-poor policies. But I guess that’s somewhat difficult to prove.
If we look at the tax rates, it’s true that the rates for the wealthy tend to go down under Republican presidents:
In 1979, the effective tax rate on the top 0.01 percent (i.e., rich people) was 42.9 percent. … By Reagan’s last year in office it was 32.2 percent. (source)
However, things aren’t as simple as that:
From 1989 to 2005, … as income inequality continued to climb, the effective tax rate on the top 0.01 percent largely held steady; in most years it remained in the low 30s, surging to 41 during Clinton’s first term but falling back during his second, where it remained. The change in the effective tax rate on the bottom 20 percent (i.e., poor and lower-middle-class people) was much more dramatic, but not in a direction that would increase income inequality. Under Clinton, it dropped from 8 percent (about where it had stood since 1979) to 6.4 percent. Under George W. Bush, it fell to 4.3 percent. (source)
The tax rate for the rich dropped somewhat around 2005 following the Bush tax cuts, but all the tax effects over the last decades taken together don’t really make a good case that tax policy is the major cause of rising income inequality. So it’s even more difficult to make the case that tax policy was part of a conscious strategy to aggravate inequality. The increase in inequality has been too big compared to the possible impact of taxation. That’s corroborated by the fact that pre-tax inequality in the U.S. rose faster than after-tax inequality.
What’s interesting, however, is that pre-tax inequality in the U.S. tends to rise much faster under Republican rule. See this post for example. So inequality can still be the result of policy, but policy expressed in other ways than taxation. Other policies that may have contributed – deliberately or not – to rising income inequality are anti-labor union policies, decreases in the minimum wage, etc.
More posts in this series are here.
Immigrants are usually somewhat poorer than natives, mainly
So it’s tempting to use data on increasing immigration flows – such as those that occurred in the U.S. during the last decades – in order to explain rising income inequality. Inequality is then viewed, not as the result of an unjust economic system, but as the mechanical result of demographic changes.
Image via Wikipedia
The timing is hard to ignore. During the Great Compression, the long and prosperous mid-20th-century idyll when income inequality shrank or held steady, immigration was held in check by quotas first imposed during the 1920s. The Nobel-prizewinning economist Paul Samuelson saw a connection. “By keeping labor supply down,” … a restrictive immigration policy “tends to keep wages high.” After the 1965 immigration law reopened the spigot, the income trend reversed itself and income inequality grew. (source)
However, there’s little evidence that immigration keeps wages low at the bottom end of the native income distribution (except for high-school dropouts and to a limited extent), which is where immigration’s effect on inequality is supposed to occur. See here for a discussion of the evidence. One can even make the case that immigration benefits the poorest sections of the native population. See this post. So, immigration can’t explain rising income inequality. But perhaps the sheer number of poor immigrants can account for rising inequality? Maybe immigration doesn’t produce inequality by pushing down native wages but simply by changing the demographic: more poor people (in this case immigrants) means higher inequality.
Gary Burtless [notes] that immigrants “accounted for one-third of the U.S. population growth between 1980 and 2007″. [E]ven if they failed to exert heavy downward pressure on the incomes of most native-born Americans, the roughly 900,000 immigrants who arrive in the United States each year were sufficient in number to skew the national income distribution by their mere presence. [However,] [h]ad there been no immigration after 1979, he calculated, average annual wages for all workers “may have risen by an additional 2.3 percent”. (source)
And that number would have been hardly sufficient to stop the actual increase in income inequality. So even if there had been no immigration, inequality would have increased. There must therefore be other causes and explanations.
Maybe you’re wondering what the problem is, in which case you can go here. More on immigration is here. More posts in this series are here.
In the U.S., and probably in other countries as well, there’s been an increase in the number of single parent families. Most of the time, that means a single mother, divorced or unmarried, or with a husband in prison, and raising one or several children on her own. As a result:
The percentage of children living with one parent has doubled since 1970, from 12 percent to more than 26 percent in 2004. (source)
There are about 13.7 million single parents in the United States today, and those parents are responsible for raising 21.8 million children. 84% of those single parents are mothers.
Single mothers often earn relatively lows wages, partly because they can’t afford to work long hours. Combine that with the fact that they have higher per person expenses (heating a house costs just as much for a two parent family as for a single parent family) and the fact that women in general have lower wages, and you have a recipe for inequality.
However, the growth in the number of single parent families in the U.S. flattened when income inequality continued to increase. So, family structure may be a good although partial explanation of poverty levels, but not necessarily of inequality. There must be other causes, some of which are discussed here.
In the U.S., the median annual income for black families is 38 percent lower than for their white counterparts. Some more data on income inequality between race groups in the U.S. are here and here. So, income inequality in the U.S. has a racial component, and some of the explanations or causes of income inequality may have something to do with racism. I say “may” because if income inequality were essentially or mainly a consequence of racism, then there wouldn’t be any white poverty. Moreover, given the growth of total income inequality in the U.S. during the last decades – see the evolution here – the income gap between whites and blacks should have grown in the same proportion if racism is the sole cause. And that didn’t happen:
Image via Wikipedia
the black/white gap in median family income has stagnated; it’s a mere three percentage points smaller today than it was in 1979. … [D]uring the current economic downturn, the black/white income gap widened somewhat. … [T[he black/white income gap can't be a contributing factor to the [increase in inequality] if it hasn’t grown over the past three decades. And even if it had grown, there would be a limit to how much impact it could have on the national income-inequality trend, because African-Americans constitute only 13 percent of the U.S. population. (source)
The growth of income inequality in the U.S over the last decades can’t be blamed on racism, since inequality has risen across social groups, but perhaps part of the level of income inequality can be blamed on it. I don’t know how large a part, but probably not a very large part, given all the other likely causes of income inequality.
Still, I focus on the U.S. here, and that isn’t by far the only country plagued by inequality. If racism isn’t a particularly good explanation for income inequality in the U.S., maybe it is in other countries, and then I’m thinking in particular about some South American countries. More on that another time, however. I have to run.
More on racism. More posts in this series.
In my ongoing exploration of the possible causes of high income inequality in rich countries, I stumbled across this politically incorrect quote:
A reason for the “wealth or income gap”: Smart people keep on doing things that are smart and make them money while stupid people keep on doing things that are stupid and keep them from achieving.
People who get an education, stay off of drugs, apply themselves, and save and wisely invest their earnings do a lot better than people who drop out of school, become substance abusers, and buy fancy cars and houses that they can’t afford, only to lose them.
We don’t have an income gap. We have a stupid gap. (source)
It’s not only politically incorrect, it’s just plainly no-qualifier-needed incorrect. Of course, people’s efforts and wise decisions do make a difference. As well as their different talents (or lack thereof). So there will always be inequality. But society rewards certain talents more than others – or, if you object to the description of society as a moral agent, “we all” reward the talents of our fellow humans differently. And we often do so in a morally arbitrary way: we reward some talents more whereas other talents would perhaps, from a moral point of view, deserve higher rewards. The same is true for efforts: we reward some types of efforts more than others, and this isn’t always just.
So some people, because of their talents and efforts, create better outcomes for themselves, reap more lucrative rewards, and thereby create an income gap. However, this fact doesn’t necessarily imply that the resulting gap is morally right: society – all of us – may have been morally mistaken about the kinds of talents and efforts that we reward. Hence the gap can be immoral. Even if income inequality could be explained entirely by differences in effort and talent – which is implied in the quote but which I think isn’t true – that would not necessarily have any moral significance. Income inequality could still be wrong.
And we could still go one step further: even if income inequality could be explained entirely by morally significant differences in effort and talent – in other words, even if only morally worthy efforts and talents were rewarded by society – that would not necessarily exhaust all moral considerations. The moral judgments regarding efforts and talents could be offset by superior moral considerations about inequality.
And anyway, how does the guy from the quote above explain the fact that different countries have different levels of income inequality? Do we really believe that the American population has a higher standard deviation around average intelligence, talent and effort? In other words, does the U.S. have more smart and more stupid people than Sweden? Are the bell curves for intelligence, talent and effort flatter in the U.S.? I don’t think so. And if I’m right, then you need other and more sophisticated answers to the question why inequality is relatively high in the U.S.
Go here for some of those other answers. And go here, here, here and here for more about merit.
Among the rich countries that are very unequal are also some which have very weak labor unions. It’s tempting to see a causal link in this correlation, since the purpose of a labor union is – among other things – to negotiate a better income of its members. Declining labor union membership and influence should then translate in declining wages (at least relatively speaking) and more income inequality. If most workers are members of labor union, most low incomes benefit from the influence of labor unions. It’s even likely that non-members also profit from wage increases negotiated by labor unions, since employers don’t like to differentiate between the wages for identical jobs.
[W]eak unions are a key cause of US inequality. The argument goes that weak unions have little political presence in policy debates, which tend to be dominated by business. The result is that policy debates in the US are systematically skewed in favor of business (which tends to favor policies that advantage, or at least do not hurt) rich people, with little in the way of countervailing voice, let alone power. …
In analyzing sources in [news] stories … the fundamental pattern is the same. Those in government, and especially Obama administration staffers, dominated the conversation. Representatives of business and industry came next, followed by academics and independent observers. … fully 61% of stories included a government representative of some kind, including those from state and local government. … Representatives of business, those identified as clearly speaking on behalf of the company or corporation, were the next most prominent sources, figuring in about 40% of the stories. … ordinary citizens and workers were well down the rung of sources. … One subset of the American workforce was virtually shut out of the coverage entirely. … Representatives of organized labor unions were sources in a mere 2% of all the economy stories studied. …
This measure is not the only index of strength in policy debate, obviously, but it is an important one. And on it, business representatives were twenty times as visible in public debate as union representatives. That’s a whopping disparity. (source)
More on unionization, labor rights and income inequality. And there’s an interesting attempt to quantify th impact on inequality of declining unionization here. More posts in this series.
First education. Many people believe that increasing income inequality in countries such as the U.S. should be blamed on immigration: low-skilled workers have to compete against low-wage immigrants with similar skills. However, immigration’s effect on wages is one of the biggest political myths out there. If you want to understand the income stagnation at the bottom of the income distribution – mostly unskilled workers – you have to compare this group of people, not to immigrants, but to the high earners.
Starting about 1950, the relative returns for schooling rose, and they skyrocketed after 1980. The reason is supply and demand. For the first time in American history, the current generation is not significantly more educated than its parents. Those in need of skilled labor are bidding for a relatively stagnant supply and so must pay more. … In contrast, from 1915 to 1950, the relative return for education fell, mostly because more new college graduates competed for a relatively few top jobs, and that kept top wages from rising too high. Tyler Cowen (source)
Hence, income inequality rose not because of downward pressure on the lower wages (supposedly caused by immigration) but because of upward pressure on the higher wages (caused by increasing returns for schooling, which are in turn caused by stagnant supply of high education). That means we can do something about income inequality. We can improve education levels, diminishing inequality both at the bottom – by giving low-skilled people a better education and hence a better income – and at the top – by reducing the scarcity of supply of the higher educated and hence lowering the relative wages at the high end.
Now to demographics.
In general, there is more income inequality among older populations than among younger populations, if only because older people have had more time to experience rising or falling fortunes. … Since the United States is growing older … income inequality will naturally rise. Tyler Cowen (source)
Other posts in this series are here. Some data on income inequality are here.
This post picks up where some previous posts investigating the possible causes of wealth or income inequality left off (see here, here, here, here and here). In those previous posts we identified the following causes:
Regarding the situation in the U.S. (where the level of inequality is relatively high, see here, here, here and here), we can add two more causes: a decline of the minimum wage (inflation adjusted), and large reductions of the tax rates of the wealthy in the 1980s, 1990s and during the presidency of G.W. Bush.
minimum wage in the U.S., nominal and adjusted for inflation
top marginal income tax rate and effective tax rate on top 1%
The combination of these two policy choices logically increases inequality.
More on minimum wages in the U.S. here. More on taxing the rich here, on progressive taxation here, and on taxation in general here. More on income inequality is here. Something on the related topic of the causes of poverty is here.
Another one in our series about the causes of wealth inequality (see here, here and here). (If you want to know why we think this is a human rights issue, go here or here first).
Globalization is supposed to have lowered the earnings of less-educated workers by putting them in direct competition with low-wage workers around the world. This competition put pressure on wages through international trade in goods and services; through the relocation or threat of relocation of production facilities to overseas locations; through competition with immigrants in local labor markets; and through other channels. …
U.S. and European workers are told that … our societies can no longer afford a generous welfare state. …
Contrary to the standard framing, which presents globalization as something that no nation can escape or even attempt to shape, we can choose the terms under which we integrate capital, product, and labor markets across countries. Over the last 30 years we have indeed “chosen” a particular form of globalization in the United States – a form that benefits corporations and their owners at the expense of workers and their communities. If we had chosen globalization on different terms, however, economic integration would not have required rising inequality. Another globalization is possible. (source, source)
So globalization, as it has occurred and is occurring, causes higher inequality in the West in two ways:
If these effects are real, perhaps they can explain the decline of manufacturing in many developed countries.
However, I’m not sure this pressure on wages is real and significant (I’ll try to find some data), and we also shouldn’t dismiss the benefits for low-wage workers in the West of cheaper products. This particular result of globalization can offset the possible negative wage effects of wage competition.
Also, I’m not sure governments in the West are actively attacking safety nets (here it says they haven’t during the last decades, but it seems that the recent economic crisis has convinced some to start cutting benefits). And finally, we should remember that inequality isn’t just a national problem. The inequality between countries is just as, if not more, important. And globalization has had a beneficial effect on inter-country inequality because it has redistributed wealth from rich countries to poor countries. For example, it’s hard to imagine how China could have had the same success in poverty reduction without globalization. The question is of course whether this redistribution had to come from low skilled workers in the West, rather than from their more wealthy fellow citizens. The fact that it did come, however, was undoubtedly beneficial to the poor in the receiving development countries.
If we put all the causes of wealth inequality discussed in different posts together, we get this tentative list:
More on income inequality. More on outsourcing. More on globalization.
Another one in our series about the causes of wealth inequality (see here, here and here). (If you want to know why we think this is a human rights issue, go here or here first).
[T]he diffusion of computers and related technology in the early 1980s steadily increased the demand for skilled workers relative to less-skilled workers, driving up the wages and incomes of more-educated workers and depressing the wages and incomes of less educated workers…
However, the technological explanation removed policy, politics, and power from the discussion of inequality, by attributing rising economic concentration to “technological progress,” a force that could be resisted only at our peril. (source, source)
Indeed, taken in isolation, this explanation obscures more than it reveals. To the extent that it reflects reality – and I think to some extent it does – we’ll still have to ask ourselves why there’s such a wide and growing distance between people with and without skills: why can’t we educate more people so that they can enjoy the wage premium of high-tech labor? Inequality isn’t just the outcome of technology but of choices regarding education, personal ones but also social and political ones.
And there’s another problem with the technological explanation of income inequality. It’s undoubtedly true that higher levels of technology increase demand for higher skilled people, and hence increases their wages (and vice versa for lower skilled people). When you combine this with the disappearance of a high number of jobs at the lower end of the wage sprectrum that are automated and replaced by computers, you end up with a strong push towards more inequality. However, this can’t explain the relatively large increase in income inequality in the U.S. and the U.K. when compared to other countries that are equally technologically advanced.
And neither can it explain why inequality is so top-heavy, in other words why the increase in income is concentrated in a tiny minority of individuals (the top 1% in the U.S.) whose skills aren’t that much different from those just below in the income distribution, if at all. Alex Tabarrok offers an interesting explanation of the fact that income inequality seems to be driven by very high earnings in the very top of the distribution. It also has something to do with technology, but not necessarily with skills:
J.K. Rowling is the first author in the history of the world to earn a billion dollars. … Why? Consider Homer, he told great stories but he could earn no more in a night than say 50 people might pay for an evening’s entertainment. Shakespeare did a little better. The Globe theater could hold 3000 and unlike Homer, Shakespeare didn’t have to be at the theater to earn. … By selling books Tolkien could sell to hundreds of thousands, even millions of buyers in a year … And books were cheaper to produce than actors which meant that Tolkien could earn a greater share of the revenues than did Shakespeare … Rowling has the leverage of the book but also the movie, the video game, and the toy. And globalization, both economic and cultural, means that Rowling’s words, images, and products are translated, transmitted and transported everywhere …
Rowling’s success brings with it inequality. Time is limited and people want to read the same books that their friends are reading so book publishing has a winner-take all component. Thus, greater leverage brings greater inequality. The average writer’s income hasn’t gone up much in the past thirty years but today, for the first time ever, a handful of writers can be multi-millionaires and even billionaires. The top pulls away from the median.
The same forces that have generated greater inequality in writing – the leveraging of intellect, the declining importance of physical labor in the production of value, cultural and economic globalization – are at work throughout the economy. Thus, if you really want to understand inequality today you must first understand Harry Potter.
More on inequality.
We had two previous posts on the causes of wealth inequality here and here. (If you want to know why we think this is a human rights issue, go here or here first). This is another quote identifying some of those causes:
Part of the increase [in inequality during the last decades, particularly in the U.S. and the U.K.] stems from declining manufacturing employment, part from shrinking unionization and fragmenting collective bargaining, part from heightened immigration [see also here] and other aspects of globalization, and part from technological change. … [A]nother source of the rise in inequality: changes in household size and composition. Due to later marriage and more prevalent divorce, more and more households have just one adult, and hence only one potential earner. At the same time, coupling between people with similar education and thus similar earnings potential (“marital homogamy”) has increased, and the share of highly educated women who are employed continues to rise. The result of these developments is that many countries have more two-adult households with high earnings and more one- or two-adult households with low earnings than used to be the case. Lane Kenworthy (source)
Here’s a graph showing the decline of the manufacturing sector in the U.S.:
distribution of workers by sector, decline of the manufacturing sector
And here’s an overview of unionization:
If we put these causes of income inequality together with the causes identified in previous posts, we get this tentative overview:
More on income inequality.
Regular readers know that we often post about income inequality (which is a proxy of wealth inequality). Here‘s an overview. Although income inequality, contrary to some other kinds of inequality, isn’t a human rights violation as such (there’s no human right to equal income, nor should there be), it does have some negative consequences for certain human rights. Read more about this here.
So if we agree that income inequality is a problem (if you’re not convinced you may want to read this) it’s important to look at some of the causes. One of those is called “positive feedback“: wealth begets wealth. There’s an interesting quote about this here, and below is another one:
I think that perhaps the most important trend of the past thirty years is the increased importance of cognitive skills relative to physical labor. Obviously, this has been going on for more than just the past thirty years, but during the past thirty years we saw an acceleration. This has had a number of consequences:
1. It changed the role of women. Their comparative advantage went from housework to market work.
2. This in turn, as Wolfers and Stevenson have pointed out, changed the nature of marriage. Men and women look for complementarity in consumption rather than in production.
3. This in turn leads to more assortive mating, with achievement-oriented men looking for interesting mates rather than for good maids.
4. This in turn leads to greater inequality across households. It also fosters greater inequality among children. The children of two affluent parents are likely to have much better genetic and environmental endowments than the children of two (likely unmarried) low-income parents.
5. Inequality is exacerbated by globalization and technological change. If your comparative advantage is basic physical labor, you have to compete with machines as well is with workers from the Third World.
The net result is an economy that has improved considerably for people with high cognitive skills, but which has improved only somewhat for people with relatively low cognitive skills. Arnold Kling (source, source)
Some data on income inequality are here.
People who have wealth have an advantage in gathering the information necessary to increase their wealth; they have networks of other wealth holders who can improve their access to opportunities for wealth acquisition; they have advantages in gaining advanced professional and graduate training that increase their likelihood of assuming high positions in wealth-creating enterprises; and they can afford to include high-risk, high-gain strategies in their investment portfolios. So there is a fairly obvious sense in which wealth begets wealth. Mark Thoma (source)
Obviously, income or wealth inequality isn’t a human rights violation as such, but it does engender some violations. See here.
