How Much Should We Be Concerned about Income Inequality?

American income inequality is much deplored by many news media and politicians on the left.  And there is little doubt that it has been getting worse in recent years.  The question is what we should, as a society, be doing about it.

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Let’s refer to an excellent book which I highly recommend, Steven Pinker’s “Enlightenment Now.”  In it Mr. Pinker shows that human progress has been slowly but surely increasing ever since the beginning of the industrial revolution started in the late 18th century.

In a chapter on inequality, he points out that “income inequality is not a fundamental component of well-being.  It is not like health, prosperity, knowledge, safety and peace. . . .  Economic inequality should not be confused with unfairness or with poverty.”

How do we reconcile the obvious improvements in living standards in recent decades with the conventional wisdom of economic stagnation?

  • The first point is the difference between relative and absolute prosperity. It is not a sign of stagnation if the proportion of income earned by the bottom fifth does not increase over time.
  • The second confusion is the one between anonymous and longitudinal data. Joe the Plumber has probably moved into a higher pay class by gaining experience or moving to a higher paying job while someone else has taken his place in the bottom fifth.
  • A third point is that low incomes have been mitigated by social transfers. Counting these social transfers, disposable incomes for the bottom four quintiles grew dramatically, and in roughly equal measure, between 1979 and 2010.
  • The fourth reason for the confusion is the difference between income and consumption. “When poverty is defined in terms of what people consume rather than what they earn, we find that the American poverty rate has declined by 90% from 1960, from 30% to just 3%.” The two forces, globalization and technology, which have caused income inequality to increase, have at the same time decreased inequality in what matters most.

Summary.  Inequality as not the same as poverty, and it is not a fundamental dimension of human flourishing.  As societies escape from universal poverty, they are bound to become more unequal.  In short, the world has become less equal but the people have become much better off.

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Why Debt Is Our Most Serious National Problem

Lately on this blog I have been discussing a variety of serious problems faced by our country such as slow economic growth, income inequality, global warming and external threats from major foreign rivals.  These are all big problems which need to be addressed by our political leaders.

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But the biggest problem of all is national debt.  The reason is that it is caused primarily by the growth of entitlement spending, especially healthcare costs such as Medicare and Medicaid.  These rapidly increasing costs (see chart) must be slowed down which will require involvement and some sacrifice from many ordinary, non-wealthy people.  This will be very hard to accomplish by elected politicians.  It may take an extreme fiscal emergency to make the necessary spending adjustments.

The other problems listed above can be solved by less drastic measures and are therefore more readily accomplished.  For example:

  • Global warming.  The evidence for global warming is very strong.  The solution will have to involve more than ad hoc regulatory measures on fossil fuels.  The best approach is to enact a (revenue neutral, i.e. refundable) carbon tax which would apply to all carbon emissions.  Already 70% of the American populace agrees that global warming is man-made and needs to be addressed.  As this percentage continues to increase, I am confidant that our political system will respond in a satisfactory manner.
  • Slow economic growth and income inequality.  Recently the economy has started growing faster and the unemployment rate has dropped to a fifty year low of 3.6%.  Already wages are rising faster at the lower income levels as employers struggle to find enough workers.  This is the best way to address income inequality.
  • Threats from autocratic powers such as China and Russia.  America cannot afford to be complacent about our dominant superpower status but we have many strengths in our favor including demographics, entrepreneurial spirit, and a strong willingness to make sacrifices for freedom.

Summary.  I am an optimist by nature and I am optimistic about the future of our country.  But I don’t see how our democratic political system can solve our debt problem through the usual political give and take.  I’m afraid that it will take a severe fiscal crisis, much worse than the financial crisis of 2008, to somehow get our rapidly increasing debt under control.

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U.S. Strengths in the Coming Struggle for Freedom and Democracy

In my last post I discussed the challenges facing the U.S. from the two strongest autocratic powers in the world: China and Russia.  We simply cannot afford to be complacent about our current status as the world’s strongest superpower.

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But there is also good news on this front.  The American Enterprise Institute’s Nicholas Eberstadt has a report in the current issue of Foreign Affairs about the demographic advantages enjoyed by the U.S.  Consider:

  • With 1.4 billion people and rapid economic growth, China appears headed to surpass the U.S. as the world’s leading power.  But China will likely see its population peak by 2027.  Its total fertility rate of 1.6 and dropping is far below the replacement level of 2.1 children per woman.  By 2040 China will have 325 million people over the age of 65, twice as many as under the age of 15.
  • Despite its high levels of schooling, Russia has low levels of human capital.  With a population of 145 million, it earns fewer U.S. patents each year than the state of Alabama.  It earns less from service exports than Denmark and has less privately held wealth than Sweden.
  • United States. By maintaining our current net (legal) immigration rate of one million per year, our population will increase to 380 million by 2040.  It will be a younger population than almost any other rich democracy and our working age population will still be expanding.
  • Indonesia, Philippines and India. These emerging democracies are growing rapidly.  All three countries have increasingly young and well educated populations.  The U.S. should court these rising powers.

Summary.  “It would be a geopolitical tragedy if the postwar economic and security order that the United States built really were to fade from the scene: no alternative arrangement is likely to promise as much freedom and prosperity to so many people.”   We can win this struggle if we do not succumb to complacency.  Demographics are in our favor.

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The Biggest Threat to the American Way of Life: Complacency

This blog “It Does Not Add Up” focuses primarily on U.S. fiscal and economic issues such as massive debt and slow economic growth.  But lately I have also been discussing other serious threats to our comfortable and prosperous way of life such as global warming  and challenges from rival powers such as China and Russia.

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The Hoover Institution’s Larry Diamond well describes these growing foreign policy threats in his new book, “Ill Winds.  According to Mr. Diamond it is imperative that we:

  • Stand up to Putin. “Putin is like a burglar walking down a corridor of apartments, testing to see which doors are unlocked.  When he gets the chance he breaks in; when he cannot, he moves on.”  We need to continue pressuring regime elites where it hurts: their assets and their ability to enjoy them.  Targeted sanctions are effective because they punish corrupt and abusive individuals, not the Russian people at large.
  • Stand up to Xi. The most important thing to do here is to continue to insist that China stop stealing our intellectual property and that it provide fair access to Chinese markets for American products. We need to keep the trade pressure (i.e. tariffs) on China as long as necessary while reducing it on our longtime allies around the world as well as well as neutral countries with whom we do business.
  • Continue to support freedom and democracy around the world.  Remember that no two democracies have ever gone to war with each other.  We need to support not only established democracies but struggling and developing democracies as well.  We should try to pressure authoritarian regimes to stop abusing the rights and stealing the resources of their citizens.  We should continually update and reboot our public diplomacy – our global networks of information and ideas – for today’s fast-paced age of information and disinformation.

Summary.  We are still the leading superpower in the world, both economically and militarily, but we cannot afford to rest on our laurels.  Our continued success is not automatically assured.  We must never forget that “freedom is not free.”

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Solving the U.S. Immigration Problem

The United States and Mexico have just announced an agreement to limit the flow of illegal immigrants from Central America, especially Guatemala, into the U.S.  Mexico has agreed to accept and hold more immigrants seeking U.S. asylum inside Mexico until their claims have been adjudicated.

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The U.S. now has an estimated 11,000,000 illegal immigrants and also a huge labor shortage indicated by our currently very low 3.6% unemployment rate.  In fact there are currently 7.5 million unfilled job openings including, for example, 360,000 in construction and 1.4 million in trade and transportation.

The key to fixing our broken immigration system and simultaneously providing the workers needed by the American economy is to adopt a comprehensive guest worker visa program so that American businesses can legally hire and bring in immigrants from other countries.

Along this line, President Trump has recently announced a new immigration proposal.  Highlights are:

  • Fully secure the border. This would involve strategic barrier construction as well as combatting visa overstays through legal and infrastructural enhancements.
  • Protect American workers. The number of legal immigrants selected based on skill or merit would increase from 12% to 57%.
  • Promote national unity. Green card applicants must pass a U.S. civics exam and demonstrate English proficiency.
  • Prioritize the immediate families of U.S. citizens. Spouses and children of U.S. citizens will have priority for receiving a green card.
  • Current levels of legal immigration would not be reduced. This includes letting more students educated in American universities stay to work in the U.S.

Summary.  We not only have a border crisis caused by a huge influx of illegal immigrants, we also have an acute labor shortage as indicated by our very low unemployment rate.  This provides an opportunity for comprehensive immigration reform.  Is our broken political system capable of performing this task?

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Ending the Tariff Wars

Some analysts are complaining that the Trump Administration is endangering free trade around the world by picking trade fights with, for example, China, Japan, Mexico, Canada and Europe.  Even some of President Trump’s strongest supporters complain that the U.S. is bearing down too hard on our own allies and thereby likely to hurt the overall world economy.

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But there is another way to look at the worldwide trade situation.   According to Peter Navarro, Director of the Office of Trade and Manufacturing Policy, “American exporters face systematically higher tariffs in the markets of more than 100 U.S. trading partners.”  Consider:

  • The U.S. tariff rate on automobiles is 2.5%. The European Union’s tariff is 10% and the EU exports more than three times as many autos to the U.S. as the U.S. exports to the EU.
  • India applies higher tariffs 90% of the time and China 85%, thereby blocking many American exporters from selling goods to these countries at competitive prices.
  • The World Trade Organization requires member states to apply the lowest tariffs it applies to the products of any one country to the products of every other country. WTO members may, however, charge higher tariffs if they apply those nonreciprocal tariffs to all countries.
  • President Trump has asked Congress to pass the U.S. Reciprocal Trade Act which would allow the President to bring to the negotiating table any trading partner that applies higher nonreciprocal tariffs. If such partner refuses to lower its tariffs, the President would have the power to impose reciprocal duties on that country.
  • Just because the U.S. is the strongest and wealthiest nation in the world, it cannot be expected to sacrifice the welfare of its own citizens with trade practices which treat them unfairly.

Summary.  Free trade among nations enhances overall prosperity because countries are able to specialize in what they do best.  But free trade should also be fair trade so that all parties have the opportunity to benefit from the increased exchange.

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Faster Economic Growth Is Likely to Continue

The U.S. unemployment rate is down to 3.6%.  Economic growth was 2.9% in 2018.  This is very good news but how long will it last?

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According to Nancy Lazar, the CEO of Cornerstone Macro, the good news is likely to continue indefinitely.  Here is why:

  • Manufacturing started to shift back to the U.S. from China in 2010 due to higher construction costs in China. Investment in the U.S. started to pick up in 2016 and then gained strength in 2017 and 2018 due to the cut in the corporate tax rate.
  • Year over year productivity accelerated to 2.4% in the first quarter of 2019, the strongest in over eight years. For example, productivity growth averaged only .6% from 2011 – 2014.  During the 1990s, productivity growth grew from zero in 1993 to 4% in 1999.
  • Today with roughly 2% productivity growth and 1% labor force growth, maximum potential GDP growth is 3%. Ms. Lazar expects 2.8% growth in 2019.
  • Long term, interest rates will likely stay lower for two reasons: 1) inflation is going to be lower for a longer period, and 2) expectations for the lack of Federal Reserve tightening will hold down long term yields.
  • How long can the good news last? A deterioration in productivity growth started in 2002 as companies shifted investment away from the U.S., with a 40% tax rate which was one of the highest in the world.  All of this has now been reversed.
  • Income inequality is a serious problem. But real median family income is up 15% since 2011 and is now a record high.  Consumer income expectations are now at the same record high levels as in the 1990s.

Summary.  Our current economic expansion is robust and is therefore likely to continue indefinitely.

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