Thursday, October 23, 2008

Income Inequality

During the presidential campaign there has been some talk about growing income inequality, with Barack Obama even going so far as to declare that it should be the top priority for the next president. Given that Obama now appears most likely to be the next occupant at 1600 Pennsylvania Ave. we may well expect some type of action by an Obama Administration on this front. Based on some of his comments this may well chiefly consist of increased taxes:
If elected, Mr. Obama said he would to try to forge a popular mandate for policy changes that could reverse a generation of slow wage growth and outlast any one administration. At the top of his list would be shifting the tax burden more toward the wealthy and making investments — in health care, alternative-energy research and education — that would cost a significant amount of money but could ultimately lift economic growth.
I guess this makes sense -- after all, if you take money away from the rich it would decrease the gap between them and everyone else. I'm not so sure, however, how alternative energy research comes into play (incidentally I love how the NYT article borrows Obama's own description of such spending as "investments").

But before Obama begins his crusade against income inequality we should probably ask ourselves at least two questions:
  • Is growing income inequality a problem?
  • What can be done about it?
When considering whether growing income inequality is a problem we may first note that a number of researchers are not entirely convinced either of the phenomenon or whether it merits much concern. But for the purposes of this post let's assume that it is real and growing. That sounds automatically bad, but is it? Imagine two scenarios. In the first scenario a worker is given a raise from $50,000 to $75,000. His boss meanwhile receives a raise from $100,000 to $150,000. In the second scenario, the worker receives a raise to $60,000 while his boss sees his income grow to $105,000. In the latter scenario income in equality is reduced but the worker and his boss are worse off than in the former scenario.

Some people might respond that this is nothing more than a rhetorical trick and that we are unlikely to see anything like this actually play out in the real world. Perhaps that is true, but it brings up the important point that income inequality itself is not inherently bad. Remember, a growing disparity in wealth does not mean that one person is becoming poorer in an absolute sense. Both, in fact, can be getting richer, just at differing rates.

A counterpoint to this is that wages are stagnating and thus we do not have a case of two groups growing richer at the same time. I would note, however, that wages and compensation are not synonymous, with many workers also being compensated in the form of 401k plans, health care, dental care, etc. I believe that when these factors are accounted for that most workers have in fact seen their compensation increase.

Nevertheless, even assuming that wages are stagnant for many workers while the rich are getting richer, it helps to examine whether anything can be done about it. To even ask a question is perhaps heresay to many people, particularly politicians, who believe that any problem can be solved with the right piece of legislation. But according to a report this week from the OECD growing income inequality is a phenomenon seen in most member countries:
Inequality of incomes was higher in most OECD countries in the mid-2000s than in the mid-1980s. Only a few bucked the trend: France, Greece and Spain moved towards greater equality of incomes over the past 20 years.
If anyone thinks that France, Greece or Spain present great economic models please reconsider, last I checked all three have unemployment rates of at least 8%.

Now, if income inequality is growing around the world, it would seem to suggest that there is something more at work than just some particular policy or set of policies here in the U.S. The report does note, however, that growth in income inequality has lagged in the Scandinavian countries. Delving deeper this appears to largely be a function of their embrace of the Obama economic plan:
Government plays a big role in determining incomes and living standards through the taxes it levies and the benefits it pays out. In the Nordic countries, benefits and taxes are highly redistributive: taking money from the rich and giving it to the poor.
The obvious question is, beyond simply taking money from the rich, what can be done to alleviate this inequality? What can be done to lift the fortunes of those at the bottom? Based on what is offered up in the report the conclusion I have come to is, not much:
Demographic and social changes that drive greater inequality and poverty are largely inevitable and beyond the power of governments to affect. However, the cause of much of growing inequality lies in the labour market: a larger gap between the low- and high-paid and changing numbers of people out of work. These are much more amenable to public policies, such as education and training to improve skills and in-work benefits that provide a financial incentive to take a job.
This is unsurprising, with education frequently cited as a remedy to income inequality. But I have my doubts. After all, you can lead a horse to water but you can't make him drink. If someone wants to attain additional training or education plenty of avenues to do so already exist.

I suspect the uncomfortable truth here is that really there is little that government can do to address this phenomenon. But they might just settle for taking more of your money.

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