Read Scott Winship and Mike Konczal on inequality

Check out the very high quality debate on inequality and middle class living standards between Scott Winship and Mike Konczal. Winship (in two posts) suggests that complaints about middle-class living standards over the past three decades are overdone. Konczal rejoins that even if so, during the last decade something changed, with middle-class income stagnating entirely and debt growth accelerating. Plus, he reminds us, many of the gains in middle class household income prior to the millennium were due to women working more rather than increased wages. Finally, he notes that it’s pretty hard to accentuate the positive for the middle class just now, given the impact of the housing bust and recession. Another piece of the puzzle that Konczal doesn’t address here (but has addressed fabulously elsewhere) is Elizabeth Warren’s point that the operating leverage of middle class households — the proportion of their wealth devoted to fixed necessary expenses — has dramatically increased, leaving families more vulnerable to shocks and worse off in risk-adjusted terms than their (modest) income growth suggests. (Hat tip to Rortybomb commenter RW.)

For the point I’d like to get at about the tension between inequality and stable growth, Kumbaya!, I don’t have to take sides. Winship points out that

what has likely happened is that the very top—the top one-half of one percent—has pulled away from everyone else, though the increase from 1980 to 2009 has probably been fairly modest.

The hypothesis I’m playing around with is that income at the top end of the scale, for a variety of reasons, has a harder time reproducing itself than income going to people whose consumption wants are less completely satiated. (Econogeeks — nonsatiation may not mean what you think it means in a monetary economy under uncertainty.) So even “pareto improving” gains at the top may create a problem for sustaining overall GDP growth. Microeconomics and macroeconomics, alas, need not go together in perfect harmony. Things don’t compose.

I still haven’t made that case — I want to stew on it a bit. More soon, I hope.

 
 

17 Responses to “Read Scott Winship and Mike Konczal on inequality”

  1. Mr. E writes:

    I think your inquiry is great and your intuition about Pareto improving gains is going to be widely accepted as the gospel truth 20 years from today.

    We’ve always had an overclass who ate good food, had huge nice houses, and servants. But the human condition didn’t begin to improve overall until we attempted to spread gains widely.

    Nearly all of the gains we think important today are the result of large numbers of people being able to afford something. If we continue to let most of the gains of society accrue to a small amount of people, we will not have any real growth – like we’ve seen for the last 35 years.

    I think that economists look at numbers and fail to see their numbers are not measuring the correct things. 10% of income growth over a generation – our grandfathers would tell us to get back to work!

  2. [...] Shared Read Scott Winship and Mike Konczal on inequality. [...]

  3. To be honest, I think that inequality has to do with perception. The figures will simply confirm what you feel you know. It’s a bit like “height” and “short”. My height is a somewhat precise figure. Whether I’m considered short depends on people’s perceptions. Recently, I was paying for a pizza in a restaurant where I noticed that the ten or twelve other men in the room were all over six feet. Some were well over six feet. I told the cashier that I was feeling unusually short as every man in the place was a giant compared to me ( No. I didn’t consider women. Don’t ask me why. )She kindly looked at me and told me I wasn’t short. As I was walking away to my table she suddenly agreed with me that all of the other men in the room were tall. Oh well.

  4. [...] feedback on the internet. Jamerica, Kevin Drum, two posts by Steve Waldman – one and two, and two posts by Reihan Salam – one and [...]

  5. Basho writes:

    The easy answer is that a lot of “income” at the top is just stock being turned into flow. Wealth is shifted around, but much less of it is created than what is measured as income.

    For example, my doctor doctor comes up with a new surgery technique. It costs $10,000 more than the old one but the risk of complications is sharply reduced. The doctor’s income increases, but so does society’s (because people get to live longer and healthier).

    Now take the case of my divorce lawyer pursuing an aggressive legal strategy. It costs $10,000 more. To defend against this strategy my spouse spends $10,000 more. We end up splitting 50/50 anyways. In this case, no wealth was created and the alternative productive use of those lawyers in the economy was also lost. But it’s better for GDP to have ugly divorces.

  6. That quote by Winship is wierd:

    “what has likely happened is that the very top—the top one-half of one percent—has pulled away from everyone else, though the increase from 1980 to 2009 has probably been fairly modest.”

    How can he write, “though the increase from 1980 to 2009 has probably been fairly modest.”?

    If you look at the gold standard data of Berkley economist Emmanuel Saez (the “TABLES…” link in the first paragraph of his home page at: http://elsa.berkeley.edu/~saez/), you see that for the top .01% their income increased from 128 times the average in 1980 to 604 times in 2007 (the most recent data). For the top 1% the increase was from 10 times to 23.5 times.

    And this is before taxes and transfers, and since 1980 tax rates have plummeted on the wealthy thanks to the Republicans, making the gains by the very top even more extreme. The top marginal tax rate in 1980 was 70%. Today it’s half that, at 35% (see: http://www.taxpolicycenter.org/taxfacts/displayafact.cfm?Docid=213)

    So, it’s ridiculously untrue that their “increase from 1980 to 2009 has probably been fairly modest.”

  7. I really don’t like what I’m seeing from this “Progressive” Fix blog. They’re really starting to look like conservatives, or at least far from progressives, posing as progressives.

    Look at this post: http://www.progressivefix.com/a-chart-that-should-keep-progressives-up-at-night

    They show a chart on government spending projections spiraling out of control by 2075 that’s almost completely driven by health care prices rising much faster than inflation and being assumed to continue to do so forever. They conclude:

    “But let there be no doubt — the long-term prospects for significantly expanded progressive government are dim, and in fact, a retrenchment in coming decades is inevitable. President Clinton was wrong — the Era of Big Government is not over. But it will be soon. As progressives we must lead the process of winding it down in a responsible and fair way.”

    What is this “we”? You certainly are not progressives here. If health care prices keep increasing at the same rate forever, not only will government eventually have to be slashed, so will everything else government and private. What conservatives want, what everyone wants, will have to be slashed, slashed to zero because health care will be 100% of GDP! The chart doesn’t say that progressive goals are impossible, it just says any goals are impossible if health care costs keep growing at the same rate they have been indefinitely. But, of course, they won’t. Eventually we will come to our senses, or they will get so high there will be a voter revolt and stern action. Hopefully, strong action to control health care cost growth will happen very soon with the Democrat’s plan passing.

  8. T. Obey writes:

    Hi Steve,
    I’ve been a lurker around here a while, but a big fan all round. Looking forward to your inequality blog. I’m finding the ongoing debate pretty uninformative so far.

    I’ve posted a piece on economic growth and median wages over at Josh Marshall’s TPM Café. I thought you might find it interesting – though it’s directed at a layman audience.
    http://tpmcafe.talkingpointsmemo.com/talk/blogs/o/b/obey/2010/01/how-to-make-an-economist-cry-i.php

  9. Indy writes:

    One way inequality *might* reduce total potential output is if an equilibrium economy is like a tournament market and the number of extremely high-paid positions are inherently limited for some reason (no matter how large the population, there can be only one President in the US, one gold-medal marathoner in the Olympics, only a few superstar celebrities in various fields, etc…)

    The greater the ratio between the pay of the winners of the tournament and that of an ordinary worker – the more individuals will tend to enter the tournament on the chance of making it to the big-time. But “entering the tournament” implies an opportunity cost – one gives up, say, a year of potential work for the practice/education required to be given a chance to compete. A rational individual’s decision process would try to compare that opportunity cost with the expected value of success in the tournament – and holding the chance of success constant – more pay means a higher expected value.

    Another way to say it is that as you increase the relative pay of the winners, increasing numbers of people with diminishing levels of talent will change their mind and decide to compete instead of work. The demand curve vertical at the quota – and the competitor-supply curve will adjust with the price.

    So, if the numbers of winners is held constant, the more they are paid relative to an ordinary person could potentially diminish aggregate production if the amount of output forgone by diverting additional labor into competition is greater than the extra output produced by the winners of the tournament that is attributable to the greater intensity of competition.

    Without huge differences in pay, few people would bother with these long shots and concentrate instead on working for a more normal amount of compensation instead of actually expending their scarce resources to do the equivalent of buying an employment lottery ticket.

    I believe that the taking of these long-shots is *rampant* in our society and, indeed, encouraged by inequality of pay, but also by our culture which celebrates the chasing of dreams against all odds. It is clear that a lot of people waste a lot of time and money pursuing fantasies (though, if you try to say this when the subject is education, be prepared to be immediately convicted of capital crimethink). Nevertheless, the question remains as to whether what is wasted is greater or less than what is produced by the winners.

    I started playing around with modeling this idea mathematically in some very simple scenarios, and I was surprised by my results.

    Before I began, my instinct-guess was that there was probably some optimal amount of “inequality” – too little and you don’t have enough competition and you end up with lousy, incompetent people as the winners of tournaments (Bureaucracy, anyone?), but too much and the whole society beggars itself on a tiny chance at well-compensated fame (American Idol, anyone?)

    As a corollary to that idea, if inequality was higher than optimal, then a system of redistributive taxation from high-to-low could increase total output by discouraging excess competition. On the other hand, if inequality were less than optimal, then you would redistribute low-to-high for more inequality and greater output (which might strike people as odd and counter-intuitive, but follows from the assumption of an optimum and the need to encourage more competition). On the other foot, you could argue that market processes tend to naturally eliminate the occurrence of “too-low” inequality, and the only real risk is “too-high” inequality.

    But, for the few super-simple general equilibrium models I’ve tried so far, this isn’t what I’ve found, and I got “optimal” answers at the extremes of no-inequality or infinite-inequality. It’s just an impression, but I find that result a little suspect and puzzling, so I’m continuing to add additional assumptions that make the situation more “realistic” (but also more complex to work with). I’ll let you know if I stumble on anything interesting.

  10. Indy writes:

    Well, if anyone is at all curious, I reworked the model in the above problem and, this time, it worked out as I had guesses – in a super-simplified tournament market, there is indeed an optimal amount of inequality in terms of total output / net social welfare. Too little inequality and people don’t get quality output from the winners, too much and too many people compete instead of work. Redistributive taxation, either high-to-low or low-to-high, depending on the circumstances, can indeed improve net-social-welfare in my flatland model universe.

  11. GS writes:

    No discussion of income inequality is interesting if it does not control for changes in the demographic makeup of the middle class. Specifically, dramatic immigration of unskilled and uneducated workers who bring down average wage of the median american. Also, differing birthrates between groups, with the smartest and most educated parents having the least children, leads to a declining inherent ability of the middle class.

  12. With regard to my comment #8,

    The Baseline Scenario has a graph today that illustrates it perfectly at:

    http://baselinescenario.com/2010/01/20/one-more-thing/

    Of course with the news of the last two days everything seems dwarfed, or dependent on, abolishing the filibuster, and then with that, establishing very strong public campaign finance. For more on this see:

    http://richardhserlin.blogspot.com/2010/01/why-government-regualtion-of-finance.html

  13. Matt writes:

    Ahh, you are a censorer as well. Does every blog in your circle censor comments? You are very close minded.

  14. Matt writes:

    Nevermind, I must have ended up on the wrong comments page and have been censored by several similar blogs recently! I apologize!

  15. [...] Those are good stories, and there are others. The oldest story has to do with incentives. The traditional notion of a trade-off between efficiency and equity comes from the idea that redistribution blunts incentives to invest and produce. In almost any model, reducing after-tax returns on investment will reduce investment, ceteris paribus. It is worth pointing out that inequality and redistribution are separate questions. Inequality may be harmful (or helpful) to growth regardless of whether redistribution by the state would would be good policy. That lower after-tax investment returns reduce growth doesn’t really tell us all that much about the effect of inequality. Also, incentives swing both ways: see ACG story (ii) above, or models of effort in tournaments (e.g. Freeman & Gelber via Benign Brodowicz and commenter Indy). [...]

  16. [...] Those are good stories, and there are others. The oldest story has to do with incentives. The traditional notion of a trade-off between efficiency and equity comes from the idea that redistribution blunts incentives to invest and produce. In almost any model, reducing after-tax returns on investment will reduce investment, ceteris paribus. It is worth pointing out that inequality and redistribution are separate questions. Inequality may be harmful (or helpful) to growth regardless of whether redistribution by the state would would be good policy. That lower after-tax investment returns reduce growth doesn’t really tell us all that much about the effect of inequality. Also, incentives swing both ways: see ACG story (ii) above, or models of effort in tournaments (e.g. Freeman & Gelber via Benign Brodowicz and commenter Indy). [...]

  17. [...] Those are good stories, and there are others. The oldest story has to do with incentives. The traditional notion of a trade-off between efficiency and equity comes from the idea that redistribution blunts incentives to invest and produce. In almost any model, reducing after-tax returns on investment will reduce investment, ceteris paribus. It is worth pointing out that inequality and redistribution are separate questions. Inequality may be harmful (or helpful) to growth regardless of whether redistribution by the state would would be good policy. That lower after-tax investment returns reduce growth doesn’t really tell us all that much about the effect of inequality. Also, incentives swing both ways: see ACG story (ii) above, or models of effort in tournaments (e.g. Freeman & Gelber via Benign Brodowicz and commenter Indy). [...]