Why and How We Care About Inequality
Wrapping up a wonderful conference about facts, our panel is supposed to talk about “solutions” to the “problem” of inequality.
We have before us one “solution,” the demand from the left for confiscatory income and wealth taxation, and a substantial enlargement of the control of economic activity by the State.
Note I don’t say “redistribution” though some academics dream about it. We all know there isn’t enough money, especially to address real global poverty, and the sad fact is that government checks don’t cure poverty. President Obama was refreshingly clear, calling for confiscatory taxation even if it raised no income. “Off with their heads” solves inequality, in a French-Revolution sort of way, and not by using the hair to make wigs for the poor. The agenda includes a big expansion of spending on government programs, minimum wages, “living wages,” government control of wages, especially by minutely divided groups, CEO pay regulation, unions, “regulation” of banks, central direction of all finance, and so on. The logic is inescapable. To “solve inequality,” don’t just take money from the rich. Stop people, and especially the “wrong” people, from getting rich in the first place.
In this context, I think it is a mistake to accept the premise that inequality, per se, is a “problem” needing to be “solved,” and to craft “alternative solutions.”
Just why is inequality, per se, a problem?
Suppose a sack of money blows in the room. Some of you get $100, some get $10. Are we collectively better off? If you think “inequality” is a problem, no. We should decline the gift. We should, in fact, take something from people who got nothing, to keep the lucky ones from their $100. This is a hard case to make.
One sensible response is to acknowledge that inequality, by itself, is not a problem. Inequality is a symptom of other problems. I think this is exactly the constructive tone that this conference has taken.
But there are lots of different kinds of inequality, and an enormous variety of different mechanisms at work. Lumping them all together, and attacking the symptom, “inequality,” without attacking the problems is a mistake. It’s like saying “fever is a problem. So medicine shall consist of reducing fevers.”
Yes, the reported, pre-tax income and wealth of the top 1% in the U.S. and many other countries has grown. We have an interesting debate whether this is “good” or “market” inequality – Steve Jobs starts a company that invents the iphone, takes home 1/10 of 1% of the welfare (consumer surplus) the iphone created, and lives in a nice house and flies in a private jet – or “bad,” “rent-seeking” inequality, cronyism, exploiting favors from the government. Josh Rauh made a good case for “market.” It’s interesting how we even use different language. Emmanuel Saez spoke of how much income the 1% “get,” and Josh how much the 1% “earn.”
In middle incomes, as Kevin Murphy told us, the “returns to skill” have increased. This has nothing to do with top-end cronyism. As Kevin so nicely reminds us, wages go up when demand for skill goes up and supply does not. He locates the supply restriction in awful public schools, taken over by teacher’s unions. Limits on high –skill immigration also restrict supply and drive up the skill premium. There’s a problem we know how to fix. Confiscatory taxation isn’t going to help!
More “education” is one obvious “solution.” But we need to be careful here, and not too quickly join the chorus asking that our industry be further subsidized. The returns to education chosen and worked hard for are not necessarily replicated in education subsidized or forced. Free tuition for all majors draws people into art history too. Forgiving student loans for people who go to non-profits or government work, or a large increase in wealth and income taxation, remove the market signal to study computer programming rather than art history, which raises the skill premium even more. Saudi Arabia spends a lot on “education” in Madrases around the world. In a Becker memorial conference remember three rules: Supply matters, not just demand; don’t redistribute income by distorting prices; and human capital investments respond to incentives. (By the way, I’m all for art history. Just don’t pretend that the measured economic returns to education will apply.)
America has a real problem on the lower income end, epitomized by Charles’ Murray’s “Fishtown.” A segment of America is stuck in widespread single motherhood, leading to terrible early-child experiences, awful education, substance abuse, and criminality. 70% of male black high school dropouts will end up in prison, hence essentially unemployable and poor marriage prospects. Less than half are even looking for legal work.
This is a social and economic disaster. And it has nothing to do with whether hedge fund managers fly private or commercial. It is immune to floods of Government cash, and, as Casey Mulligan reminded us, Government programs are arguably as much of the problem as the solution. So are drug laws, as much of the earlier discussion reminded us.
Around the world, about a billion people still live on $2 a day, have no electricity, drinking water, or even latrines. If you care about “inequality,” minimum wage earners in the US should be paying Piketty taxes.
These cases all represent completely different problems. Where there are problems, we should fix them, but to fix them, not to “reduce inequality.”
Kinds of inequality
More puzzling, why are critics on the left so focused on the 1% in the US, when by many measures we live in an era of great leveling?
Earnings inequality between men and women has narrowed drastically, as Kevin Murphy reminded us. Inequality across countries, and thus across people around the globe, has also been shrinking dramatically even as income inequality within advanced countries has risen. One billion Chinese were rescued from totalitarian misery, and a billion Indians sort-of-rescued from British-style license-Raj socialism. These are wonderful events for human progress as well as, incidentally, for global inequality. Sure, these countries have many political and economic problems left, but the “its’ all getting worse” story just aint’ so. China and India did not start growing by confiscatory taxation of income and wealth, and increasing state intervention in markets. Exactly the opposite. And the parts of the world left or falling behind – parts of the Middle East, Latin Amirica (think Venezuela), parts of Africa – have just nothing to do with the private-jet purchases of US hedge fund billionaires.
“Inequality” is about more than income or wealth, reported to tax authorities. Consumption is much flatter than income. Rich people mostly give away or reinvest their wealth. It’s hard to see just how this is a problem.
Political, social, cultural inequality, inequality of lifespan, of health, of social status, even of schooling are all much flatter than they used to be (Nick Eberstat recently summarized these in a nice Wall Street Journal Oped.) Mark Zuckerberg wears a hoody, not a top hat.
Look at Versailles. Nobody, not even Bill Gates, lives like Marie Antoinette. And nobody in the US lives like her peasants. In 1960, Mao Tse-Tung waved his hand and 20 millions died. In 1935, Joseph Stalin did the same. Neither reported a lot of income to tax authorities for economists to measure “inequality.” It is preposterous to claim that, even the citizens of Ferguson Mo., with all their problems and injustices, are less equal now than they were in 1950. Or 1850.
Why does it matter at all to a vegetable picker in Fresno, or an unemployed teenager on the south side of Chicago, whether 10 or 100 hedge fund managers in Greenwich have private jets? How do they even know how many hedge fund managers fly private? They have hard lives, and a lot of problems. But just what problem does top 1% inequality really represent to them?
I’ve been reading Piketty, Saez, Krugman, Stiglitz, the New York Times editorial pages to find the answers. They all recognize that inequality per se is not a persuasive problem, so they must convince us that inequality causes some other social or economic ill.
Here’s one. Standard and Poors economists wrote a recent summary report on inequality, (earlier post here) perhaps as penance for downgrading the US debt, and wrote
As income inequality increased before the crisis, less affluent households took on more and more debt to keep up--or, in this case, catch up--with the Joneses....In Vanity Fair, Joe Stiglitz wrote similarly that inequality is a problem because it causes
a well-documented lifestyle effect—people outside the top 1 percent increasingly live beyond their means….trickle-down behaviorismAha! Our vegetable picker in Fresno hears that the number of hedge fund managers in Greenwich with private jets has doubled. So, he goes out and buys a pickup truck he can’t afford. Therefore, Stiglitz is telling us, we must quash inequality with confiscatory wealth taxation… in order to encourage thrift in the lower classes?
If this argument held any water, wouldn’t banning “Keeping up with the Kardashians” be far more effective? (Or, better, rap music videos!) If the problem is truly overspending by low income Americans, can we not think of more directed solutions? For example, might we not want to remove the enormous taxation of savings that they face through social programs?
Another example. The S&P report moved on to a new story: Inequality is a problem because rich people save too much of their money, and poor people don’t. So, by transferring money from rich to poor, we can increase overall consumption and escape “secular stagnation.”
I see. Now the problem is too much saving, not too much consumption. We need to forcibly transfer wealth from the rich to the poor in order to overcome our deep problem of national thriftiness.
I may be bludgeoning the obvious, but let’s point out just a few ways this is incoherent. If Keynesian “spending” and “aggregate demand” are the problems behind low long-run growth rates – and that’s a big if - standard Keynesian answers are a lot easier solutions than confiscatory wealth taxation and redistribution. Which is why standard Keynesians argued for monetary and fiscal policies, not confiscatory anti-inequality taxation, until the latter became politically popular.
In a series of recent blog posts, (see coverage here) Paul Krugman offers evidence that people vastly underestimate how wealthy the rich are, bemoans how they live separate lives -- my fry cook has, in fact, no idea of their lifestyle -- and argues for confiscatory taxation to eliminate the "externality" of their excessive consumption. Well, I'm glad logical consistency isn't holding back these arguments.
The most common argument is that we have to reduce income inequality to avoid political instability. If we don’t redistribute the wealth, the poor will rise up and take it. As a cause-and effect claim about human affairs, this is dubious amateur political science, one that would look especially amateurish to the political scientists and historians at this Hoover Institution on War, Revolution and Peace. Maybe the poor should rise up and overthrow the rich, but they never have. Inequality was pretty bad on Thomas Jefferson’s farm. But he started a revolution, not his slaves.
These are just three examples, and I won’t go on since time is short. But there are some interesting patterns. The answer is always the same – confiscatory wealth taxation and expansion of the state. The question, the “problem” this answer is supposed to solve keeps changing. When an actual economic problem is adduced – excessive spending by the poor, inadequate spending by the rich, political instability -- they don’t advocate the problem’s natural solution. These “problems” are being thought up afterwards to justify the desired answer. And amazing, novel and undocumented cause-and-effect assertions about public policy are dreamed up and passed around like internet cat videos.
Politics and Money
But these are serious people. Let’s recognize this is all the balderdash and distraction that it seems, and that we are circling around the elephant in the room. Let’s try to find the core issue that they are really talking about. Let’s find a common ground, a resolvable difference, so we can stop talking past each other.
In the end, most of these authors are pretty clear the real problem they see: money and politics. They worry that too much money is corrupting politics, and they want to take away the money to purify the politics.
That explains the obsessive focus on the income and wealth of the top 1%. Consumption may be flatter, but income and wealth buy political connections. And all of our concern about the status of the poor, the returns to skill, awful education, the effects of widespread incarceration, all this is irrelevant to the money and politics nexus.
Now, the critique of an increasingly rent-seeking society echoes from both the left and the libertarians. Rent-seeking is a big problem. Cronyism is a big problem. Stigler finds a lot to agree with in Stiglitz. As do Friedman, Buchanan, and so forth.
But now comes the most astounding lack of logic of all. If the central problem is rent-seeking, abuse of the power of the state, to deliver economic goods to the wealthy and politically powerful, how in the world is more government the answer?
If we increase the statutory maximum Federal income tax rate 70% , on top of state and local taxes, estate taxes, payroll taxes, corporate taxes, sales taxes and on and on -- at a Becker conference, always add up all the taxes, not just the one you want to raise and pretend the others are zero -– will that not simply dramatically increase the demand for tax lawyers, lobbyists and loopholes?
If you believe cronyism is the problem, why is the first item on your agenda not to repeal the Dodd Frank act and Obamacare, surely two of the biggest invitations to cronyism of our lifetimes? And move on to the rotten energy section of the corporate tax code.
They don’t, and here I think lies the important and resolvable difference. Stiglitz wrote that “wealth is a main determinant of power.” Stigler might answer, no, power is a main determinant of wealth. To Stiglitz, if the state grabs all the wealth, even if that wealth is fairly won, then the state can ignore rent-seeking and benevolently exercise its power on behalf of the common man. Stigler would say that government power inevitably invites rent-seeking. His solution to cronyism is to limit the government’s ability to hand out goodies in the first place. We want a simple, transparent, fair, flat and low tax system.
Here is where I think Josh Rauh’s masterful collection of data that the upper 1% in the U.S. are making their money fairly, falls flat to left ears. They think even fairly gotten money will pervert politics.
Now we have boiled the argument down to a simple question of cause and effect. They believe that raising tax rates and a large increase in state direction of economic activity will reduce rent-seeking and cronyism. I assert the opposite, which is the rather traditional conclusion of the vast literature on public choice as well as obvious experience. If I were trying to be polite, I might say it’s an interesting new theory to be debated and investigated. But I’m not, and it isn’t. It is the cream on the cake of amateur ad-hoc assertions of cause-and-effect relationships in human affairs, changing the sign of everything we know.
As we look around the world, cronyism, rent-seeking, using the power of the state to deliver riches to yourself and privilege to your family is a huge problem, not just driving inequality, but driving most of poverty, lack of growth, and human misery throughout the world. But Egypt, say, does not suffer because it is not good enough at grabbing wealth, stifling markets and blocking the rise of entrepreneurs. Quite the opposite.
Politics and the agenda.
But let’s go with their argument. At least now the argument makes sense, in a way hat limiting envy-induced spendthrifery does not. But looked at in the light of day, the argument is truly scary. They are saying that the government must confiscate individual wealth so that individual wealth cannot influence politics in directions they don’t like. Koch brothers, no. Public employee unions, yes.
We finally agree on a cause-and-effect proposition. Yes, expanding the power of the state to direct economic activity and strip people of wealth is well-proven way to cement the power of the state and quash dissent.
So now you see why I rebel at the presumption that “inequality” is a problem, and why I rebel at the task of articulating an alternative “solution.” “Inequality” has become a meaningless buzzword, or code word for “on our team,” like “sustainability,” or “social justice.” Should we discuss “free-market solutions” to address “social justice?”
“Inequality” has become a code word for endless, thoughtless, and counterproductive intrusions into economic activity. Minimum wages, stronger teachers unions, even prison guard unions, are all advocated on the grounds of “providing middle class jobs” to “reduce inequality,” though they do the opposite. Mayor Bill de Blasio has already reduced it to farce: As reported in the New York times, the latest energy efficiency standards for fancy New York high rises are bing put in place. Why? To cool the planet by a billionth of a degree? To stem the rise of the oceans by a nanometer? No, first on the list… to reduce inequality. Poor people pay more of their incomes in heating bills, you see.
Finally, why is “inequality” so strongly on the political agenda right now? Here I am not referring to academics. Kevin has been studying the skill premium for 30 years. Emmanuel likewise has devoted his career to important measurement questions, and will do so whether or not the New York Times editorial page cheers. All of economics has been studying various poverty traps for a generation, as represented well by the other authors at this conference. Why is there a big political debate just now? Why is the Administration and its allies in the punditry, such as Paul Krugman and Joe Stiglitz, all a-twitter about “inequality?” Why are otherwise generally sensible institutions like the IMF, the S&P, and even the IPCC jumping on the “inequality” bandwagon?
That answer seems pretty clear. Because they don’t want to talk about Obamacare, Dodd-Frank, bailouts, debt, the stimulus, the rotten cronyism of energy policy, denial of education to poor and minorities, the abject failure of their policies to help poor and middle class people, and especially sclerotic growth. Restarting a centuries-old fight about “inequality” and “tax the rich,” class envy resurrected from a Huey Long speech in the 1930s, is like throwing a puppy into a third grade math class that isn’t going well. You know you will make it to the bell.
That observation, together with the obvious incoherence of ideas the political inequality writers bring us leads me to a happy thought that this too will pass, and once a new set of talking points emerges we can go on to something else.
But if that is our circumstance, clearly we should not fall for the trap. Don’t surrender the agenda. State our own agenda. We care about prosperity. We care about fixing the real, serious, economic problems our country faces and especially that people on the bottom of society face. Globally, we care about the billion on $2 a day, that no amount of tax and transfer will help.
The “solutions,” the secrets of prosperity, are simple and old-fashioned: property rights, rule of law, honest government, economic and political freedom. A decent government, yes, providing decent roads, schools, and laws necessary for the common good. Confiscatory taxation and extensive government direction of economic activity are simply not on the list.