Economic Inequality: More Than a Moral Issue
BY NAHUEL FEFER
The public dialogue regarding economic inequality consistently addresses it as a moral issue. Liberals paint the “1%” as selfish and greedy, and excessive inequality as fundamentally unjust. Conservatives often respond that inequality is natural, and that redistributive efforts on the part of the government promote complacency and laziness – un-American ideals. This debate is an important one, as it will help define who we are as a nation and as a people, but it also misses a huge side of the issue, namely, the huge macroeconomic impact of inequality.
Whether conservative or liberal, most economists agree on a few basic facts that help frame the debate surrounding inequality in the United States. First: in terms of economic inequality, the United States is an anomaly among developed nations. At .38, our after tax Gini coefficient, a measure of inequality, is .08 higher than that of Germany and France, .05 higher than that of Japan, and .13 higher than that of Norway, which enjoys an economy which grew throughout the recession, and boasts of a budget surplus of 13.6%. In fact the United State’s Gini coefficient is closest to that of nations like Portugal, Vietnam, Tanzania, and Iran. Second: even in comparison with its own history, the United States is currently experiencing record levels of income inequality. The Congressional Budget Office notes that, between 1979 and 2007 “The top fifth of the population saw a 10-percentage-point increase in their share of after-tax income” and that, “Most of that growth went to the top 1 percent of the population”. As a result, the United States’ Gini coefficient has risen .06 from the 1970s to the present day. Third: partly as a result of the widening gap between rich and poor, the American dream is disappearing: Japan, Pakistan, New Zealand and Singapore, not to mention most of Western Europe, have higher rates of economic mobility than the United States.
Causes
Economic inequality is natural, but atypically high levels in the United States are driven by one overriding factor: the lower and middle classes are being cut out of the democratic process. Moneyed interests are taking over politics on two levels, both deciding the outcomes of elections, and dominating the policy making process.
Money has always been a feature of American politics, and as elections become more expensive – the 2012 election is expected to cost between $6 and $8 billion – the contributions of average Americans become less important. Winning candidates often become beholden to the money that brought them their power and vote against the interests of the American people.
A political system approaching a plutocracy has had unsurprising effects. The repeal of the Glass-Steagall Act in 1999, under a Democratic president, brought down the wall that had separated commercial and investment banking since 1933 and paved the way to the financial crisis by encouraging Wall Street investment banking firms to gamble with their depositors’ money.
Meanwhile, lobbying has given special interests outsized influence over policy making for centuries. One particularly nefarious form in which this is realized is the revolving door between the Capitol and K Street (the Wall Street of lobbying). Since 1998, approximately 43% of the members of Congress who have left office have gone on to become lobbyists, often working for industries (such as pharmaceuticals, petroleum, defense, etc.) that they were previously in charge of regulating. Sometimes of course, the revolving door turns the other way. John Dugan, who was appointed head of the Office of the Comptroller of the Currency (the organization in charge of regulating federally chartered banks) in 2005, worked as a lobbyist for the American Bankers Association for 12 years prior to his appointment. Unsurprisingly, he proceeded to loosen many national and state regulations on banks, one of the causes of the recession.
As a result of the influence of moneyed interests, tax rates have consistently decreased for the richest Americans over the past four decades. Capital gains taxes (taxes on profits from investments) decreased from 35% in 1976 to 15% in 2012, while the income tax rates on the richest Americans fell from 70% in 1976 to 35% in 2010. It’s important to emphasize that this tax reduction was not accompanied by equivalent tax reductions for most American citizens, in fact, the CBO emphasizes that between 1979 and 2007, “Government Transfers and Federal Taxes Became Less Redistributive”. The magnitude of the cuts is also worth highlighting – despite an economy growing faster than inflation, which will result in revenue growth given stable tax rates, real (adjusted for inflation) government revenue has declined from approximately $2.5 trillion in 2000 to $2 trillion in 2010, the most recent year for which we have accurate revenue.
As government revenue has shrunk, it has created a system that demands the greatest sacrifices from those least capable of providing them. Funded by billionaires, the GOP has consistently demanded cuts to education, Medicare, and Social Security – programs that primarily benefit the lower and middle classes – but labeled an equal sacrifice on the part of the wealthy, a moderate tax increase, class warfare.
Effects
Cuts to welfare, infrastructure, and education do not only drive inequality up, they also reduce equality of opportunity. Children born into poverty may never have identical opportunities to those lucky enough to live in wealthy families, but well kept public schools and a family kept solvent by Medicaid (roughly 20% of domestic bankruptcies are caused by healthcare costs) can help close that gap.
Tragic though it may be, the government’s lack of investment in expanding access to opportunity makes sense. Money’s outsize influence in politics has produced a government that works mainly for those who are already rich, and ignores those with the potential to achieve great things – the future can’t make million dollar campaign donations.
Independent of its effect on equity, however, inequality has huge negative economic effects. Recessions occur when either demand or supply dip below trend. While a number of factors can spark a recession, what takes a recession from a blip to a long term economic reality is systemically low levels of supply or demand. A good example of a supply deficient recession is the stagflation of the 70s. Oil shocks in 1973 and 1979 made production more costly and drove down supply, creating a stagnating economy which could not meet high demand. Unfortunately, the Federal Reserve responded with policies that had helped fix past demand deficient recessions – lowering interest rates. This both unnecessarily increased demand, which had no supply to buy from, and increased inflation. Crucially, when the oil shocks ended and the government ended its monetary response, the economy returned to growth throughout the ’80s.
The Great Depression and our recent recession on the other hand, were demand deficient recessions that reflected a fundamental problem in the US economy – huge economic disparities. Both of the above crises occurred as the U.S Gini coefficient hit record highs, and it makes sense. Compared to most Americans, millionaires and billionaires tend to use a smaller percentage of their money on consumption (demand) and a higher percentage on investment (supply). Essentially, when the ultra-rich control a greater share of the nations wealth, demand is inhibited and supply rises.
This isn’t always bad for the economy, in fact, some inequality is necessary, both to provide the incentives that allow the free market to function efficiently, and to create an upper class that invests in the capital and technology that keeps supply high. Unfortunately, however, when inequality rises too high it drives demand down and threatens to choke our economy.
Although it is difficult to determine the optimal amount of inequality in an economic system, what is clear is that the current level is deeply harmful. In theory the policy solutions necessary to reverse the current trend towards increasing inequality are fairly simple, to a large extent it simply entails reversing the tax reductions and reduced regulations of the past 30 years. More crucially though, it requires acknowledging that the huge inequalities within the United States are not an unavoidable symptom of capitalism at work, but are actually holding us back economically and killing the American dream.