Tag Archives: income inequality

The Great Wage Slowdown and How to Fix It

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With a new Congress just elected, this is a good time to reflect about what changes should be made in public policy. Our biggest economic problem is to speed up growth in order to provide more and better paying jobs.  In addition, a faster growing economy would bring in more tax revenue which would help pay our bills and reduce the deficit.
CaptureA column in today’s New York Times, “The Great Wage Slowdown, Looming over Politics,” by David Leonhardt, proposes a cut in the marginal tax rate for the middle class as a way of boosting their incomes.  As can be seen in the above chart, median household income has been flat since the year 2000, and even lower since the 2008 recession.  Mr. Leonhardt goes on to say that any tax cut for the middle class should be balanced by a tax increase for the wealthy.
It so happens that I proposed such a plan several months ago as a way of boosting the economy and reducing inequality at the same time. The idea is to enact broad-based tax reform whereby tax rates are lowered for all, offset by shrinking tax deductions.  The 64% of taxpayers who do not itemize deductions will receive a big tax cut.  But these are the very middle-class wage earners with stagnant incomes.  So they will likely spend their tax savings, thereby giving the economy a big boost.
More specifically:

  • Individual tax deductions total about $1 trillion per year.
  • Let’s suppose that these deductions are cut in half to $500 billion per year.
  • Let’s further suppose that half of this amount, or $250 billion per year, is cut from the taxes of the 64% who do not itemize deductions.
  • If these 64% spend just 2/3 of their new income (instead of saving it or paying off debt), this will total $170 billion which is 1% of GDP.
  • This would increase the rate of growth of GDP from the 2.2% average, since the end of the Great Recession, to 3.2%. This represents an enormous boost to the economy and would return average GDP growth to about its 3.3% average since 1947.

    Mr. Leonhardt suggests that presidential contenders in 2016 would greatly benefit from proposing a tax rate cut for the middle class. Here’s a specific plan they can use!

The Problem of Soaring World Population

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As I remind readers from time to time, this blog is focused on the fiscal and economic problems of the U.S. Our biggest fiscal problem is not having enough tax revenue to pay our bills.  Our biggest economic problem is a stagnant economy which leaves too many people unemployed or underemployed.
My last three post have been on the subject of climate change. This is a worldwide problem which has a huge effect on the U.S.  There’s going to be a cost in cutting way back on carbon emissions.  But there will soon be a much greater cost if we don’t cut back and therefore suffer the growing adverse environmental effects.
Now there is another looming problem.  The journal Science has just published the article “World population stabilization unlikely this century,” reporting that world population, now 7.2 billion, is likely to reach 9.6 billion by 2050 and 10.9 billion by 2100.  Much of the increase will take place in Africa due to higher fertility rates because of a recent slowdown in the pace of fertility decline.
CaptureThe implications of a growing world population are huge:

  • First of all, it will add even more stress to an environment which is already being increasingly stressed by global warming.
  • Secondly, it will aggravate a slowdown in middle-income wage growth throughout the developed world. This is very evident in the above chart. What is happening is that the force of globalization is shifting lower skilled work to lower paid workers in the developing world. A larger population in the developing world will simply exacerbate this trend.

The noted economist, Tyler Cowen, has a different perspective on this problem, “A Strategy for Rich Countries: Absorb More Immigrants,” in today’s New York Times.  But Mr. Cowen’s approach is untenable for the long run.  The idea that you can offset an increase in the elderly population with an even bigger increase in the younger population will lead to an ever-growing overall population.
What then is the answer to over-population?  It is either more birth control or less sex.  Take your pick!

Income Inequality and Rising Health-Care Costs

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There seems to be a general consensus on the reality of increasing income inequality in the U.S. and even some agreement on its two main causes: globalization and the rapid spread of technology. The slow growth of the economy since the end of the recession has made the inequality problem that much worse.
CaptureNot surprisingly, slow economic growth in the past five years has led to stagnant wages for many workers.  My last post addressed this problem.  The above chart from the New York Times shows that incomes for top wage earners have been rising in recent years while they have been stagnant for middle- and lower-income workers.
But there is more to it than this.  In yesterday’s Wall Street Journal, Mark Warshawsky and Andrew Biggs point out that, “Income Inequality and Rising Health-Care Costs,” in the years 1999 – 2006, total pay and benefits for low income workers rose by 41% while wages rose by only 28%, barely outpacing inflation.  For workers making $250,000 or more total compensation rose by a lesser 36% while wages grew by a greater 35%.  This apparent anomaly is explained by the fact that health insurance costs are relatively flat across all income categories, thus comprising a much larger percentage of the total pay package of low-income workers than for high-income workers.
Capture1In fact, the Kaiser Foundation has shown that low-wage workers tend to pay higher health insurance premiums, as well as receiving lower insurance benefits, than higher paid workers (see the above chart).
Overall, what this means is that employer provided healthcare is taking a huge chunk out of the earnings of low-income workers which makes income inequality much worse than it would be otherwise. Of course, the cost of healthcare is a huge burden for the entire U.S. economy, currently eating up 17.3% of GDP, twice as much as for any other developed country.
For both of these reasons it is an urgent matter for the U.S. to get healthcare costs under control.  Avik Roy of the Manhattan Institute has an excellent plan to do just this as I have discussed in several recent posts.

How Bad Is Income Inequality and How Do We Fix It?

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The latest news on the American economy is mixed. The unemployment rate fell to 5.9% in September but the labor force also fell by 97,000 last month.  The labor participation is now down to 62.7%, a level last seen in 1978.  On the plus side 248,000 new jobs were created but the share of the population employed stayed at 59%, less than its 59.4% level at the end of the recession in June 2009.  In other words, job growth is definitely picking up but not fast enough.
CaptureHow about income inequality?  One simple way of describing and understanding the degree of income inequality in the U.S. is to look at median household income and how it changes over time.  The above chart from the WSJ shows how the median U.S. household income fell from an all-time high of $56,895 in 1999 to $51,939 in 2013.  However it also climbed back up to $56,436 in 2007 before dropping precipitously until 2012.
Capture1The Global Strategy Group discovered in a recent survey that registered voters overwhelmingly rate economic growth as a higher priority than economic fairness.  This means that any policy designed to speed up economic growth is likely to receive favorable support by the electorate.
In a recent post I describe a plan for broad-based tax reform specifically designed to speed up economic growth.  It would involve an across-the-board cut in tax rates totaling about $500 billion per year, but completely paid for by closing loopholes and deductions which primarily benefit the wealthy.  The 64% of taxpayers who do not itemize deductions would receive a tax cut.  And they would likely spend this extra money in their pockets because they are precisely the middle- and lower-income wage earners with falling incomes.
An income tax redistribution like this would greatly reduce inequality but in a way which is designed to give the economy a big boost!

Which Is More Important: Increasing Growth or Decreasing Inequality?

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The progressive Global Strategy Group has recently released a new survey report “Focus on Growth to Frame Priorities” with a valuable message for all political candidates, left, right and center.
CaptureGSG surveyed 3000 registered voters earlier this year and discovered that they overwhelmingly rate economic growth as a higher priority than economic fairness, economic justice, expanding the middle class, increasing wages or decreasing income inequality.  In fact, economic growth trumped all of these alternative policy strategies by wide margins as shown below.
Capture1GSG then goes on to list various possible growth strategies in order of voter popularity such as making college more affordable, modernizing infrastructure, improving K-12 education and others (see below). This list of possible growth strategies is made up mostly of new spending programs.  The less costly might be doable by reforming existing spending programs.  But expensive new programs simply will not fly in today’s high deficit environment.
Capture2What is needed is a growth strategy which does not require new spending.  The obvious choice is tax reform.  For example, the fourth item in the above chart, reduce outsourcing by American companies, could be addressed by reforming corporate taxes.
But an even better growth strategy is individual tax reform whereby tax rates are lowered across the board, paid for by shrinking the many loopholes and deductions which primarily benefit the wealthy.
I described such a plan in detail in a previous post, but here is a brief summary: 64% of taxpayers do not itemize their deductions.  This means that any reduction in tax rates will put money in their pockets.  Since these are primarily the same middle- and lower-income workers with stagnant incomes, they will likely spend most of their increased pay, thus giving the economy a big boost.
In summary, the GSG report provides ammunition for political candidates of all ideological stripes.  Let’s have a contest to see which party can be the most pro-growth.  The winner will be the American people!

How to Increase Growth and Decrease Inequality at the Same Time!

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The Department of Commerce has just reported basic economic data for the second quarter of 2014.  As the chart below shows, the economy gradually lost steam from 2004 – 2008, sunk badly in 2008 and 2009, and has now grown at a slow but steady rate of about 2% during the period 2010 – 2014.
CaptureOne of my favorite journalists, the New York Times’ economics reporter Eduardo Porter, has just written again on the topic of inequality, “Income Inequality and the Ills behind It.”  He quotes the economist Tyler Cowen as saying “The right moral question is ‘are poor people rising to a higher standard of living?’  Inequality itself is the wrong thing to look at.  The real problem is slow growth.”  The economist Gregory Mankiw is quoted as saying that “Policies which address the symptom (of inequality) rather than the cause include higher taxes and a more generous safety net.  The magnitude of what we can plausibly do with these policy tools is small compared to the size of the growing income gap.”
What Mr. Cowen and Mr. Mankiw are both suggesting is that we can’t effectively attack income inequality without also increasing economic growth.  I believe that it is possible to address both problems at the same time by implementing broad-based tax reform as follows:

  • Individual income tax rates should be lowered across the board, paid for by closing loopholes and shrinking deductions, in a revenue neutral way.
  • The 64% of all taxpayers who do not itemize deductions will get a significant tax cut. Since they are largely the middle and lower-income wage earners with stagnant incomes, they will tend to spend their tax savings, thereby giving the economy a big boost.
  • At the same time the 36% of taxpayers who do itemize their deductions will, on average, see their income taxes go up. But these are, on the whole, the wealthier wage earners who can afford to pay higher taxes.
  • A plan such as this represents a shift of net after-tax income from more wealthy people to the less wealthy. It therefore reduces income inequality.

If we can cut tax rates, increase economic growth and reduce income inequality all at once, why can’t our national leaders come together and act along these lines?

The Resurrection of Karl Marx II. Let’s React But Not Overreact!

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This morning’s Wall Street Journal has a book review by the New York fund manager, Daniel Shuchman, “Thomas Piketty Revives Karl Marx for the 21st Century” of Thomas Piketty’s new book “Capitalism in the Twenty-First Century.” As I recently discussed, Piketty makes the simple observation that income from wealth, i.e. investment income, grows faster than income from wages or GDP.
CaptureHe then provides a large quantity of data showing how this has played out since the end of WWII.  He plausibly predicts that the value of private capital as a percentage of national income will continue to grow indefinitely into the future.
CaptureThis much is straightforward.  The question is how we should react to a steadily increasing and very large concentration of wealth in the hands of a small percentage of people.  Mr. Piketty’s own idea is, for example, to establish an 80% tax rate on incomes starting at “$500,000 or $1,000,000” in order “to put an end to such incomes.”  Mr. Shuchman attempts to discredit Mr. Piketty by focusing in on such socialistic views for dealing with the problem rather than discussing the intrinsic merit of Piketty’s basic thesis about the buildup of great wealth in the first place.
My own view is that Mr. Piketty has clearly identified a weakness of capitalism and that it behooves supporters of free markets and private initiative to address this problem in a constructive way, for example, as follows.
We need fundamental broad-based tax reform, i.e. lower tax rates in exchange for closing loop-holes and lowering deductions, in order to boost the economy and create more jobs.  As part of a major tax overhaul, we could also establish a relatively small wealth tax, of about 1% or 2%, on assets over $10,000,000, which would raise as much as $200 billion per year.  This much money could be used to begin a large scale program of infrastructure renewal as well as leaving a lot left over to make significant payments on reducing our annual deficit.
Such an overall plan would address both income inequality and wealth inequality in a highly visible manner while simultaneously helping our economy.

Wealth and Taxation

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As I reported in my last blog post a few days ago, wealth inequality in the United States and the rest of the developed world is growing rapidly and is likely to get much worse in the foreseeable future.   This is happening because income from wealth, i.e. the return on investment, typically grows faster than wages and GDP.  As income inequality also grows, and top wage earners have more and more money to invest, then the gap between investment income and wage income will become even wider.  There is nothing wrong with this and the more money that is reinvested in our economy, the faster it will grow and the more jobs that will be created.
At the same time that huge new wealth is being created we have an archaic tax system in the U.S. which is not only incredibly complicated and inefficient, but also discourages investment because the top individual and corporate rates are so high.  And it doesn’t collect enough tax to pay our bills.  We have huge deficits already and the CBO says that they’ll just keep getting worse.
Making government operate more efficiently with less spending is highly desirable but will only go so far.  Every government program has a constituency of supporters who complain when their own program is targeted for cuts.  And the biggest and most expensive, the entitlement programs of Social Security and Medicare, have the largest constituency of all, over 50 million retirees at the present time and growing rapidly as the baby boomers retire at the rate of 10,000 per day.
This huge crunch can only be resolved by fundamental tax reform.  Several different ways have been proposed to do this:

  • Reform the current income tax system by broadening the base, lowering rates and eliminating deductions and loopholes to pay for it.  The problem with this approach is that no one wants to give up their own deductions (for mortgage interest, charitable contributions, employer provided healthcare, state and municipal taxes, etc.)
  • Introduce a consumption tax such as the Graetz Plan which I described in my January 7, 2014 post.  It would establish a 14% Value Added Tax on consumption, supplemented by a lower but still progressive tax on incomes over $100,000.  It would avoid being regressive on low wage workers by using an Earned Income Tax Credit to offset the Payroll Tax.
  • Introduce a wealth tax.

Sorry, I’m over my (self-imposed) word limit already.  I’ll describe a possible wealth tax in my next post!

Poverty, Inequality and the Minimum Wage

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Poverty and income inequality are getting increasingly worse in the United States and need to be seriously addressed by our political system.  In my last post on February 16, I presented data from the Heritage Foundation which shows that the War on Poverty has been quite successful in eliminating destitute poverty in the U.S.  What this means is that most low-income families have the basic necessities of enough food to eat (96%), a refrigerator (99%), a telephone (96%), air conditioning (81%), a car (74%), etc.  Of course, these “amenities” are provided at a great cost to society of about $1 trillion per year in social transfer payments.
CaptureCan we do a better job in helping the poor in the near term?  The conservative writer and political activist, Ron Unz, thinks we can.  He has just written a perceptive blog post “The Conservative Case for a Higher Minimum Wage”, proposing a national minimum wage of $12 per hour.  His reasoning is as follows.  Low wage jobs are primarily in the non-tradable service sector and so these jobs are hard to outsource and also hard to automate.  Therefore the unemployment effects of such a minimum wage increase would be minimal.  Mr. Unz estimates that, Walmart could accommodate a $12 per hour minimum wage with a one-time price hike of just 1.1%.  The grocery prices of home-grown agricultural products would rise by less than 2%.
A $12 per hour wage for a full time 40 hour per week worker would mean an annual salary of $25,000 per year or $50,000 per year for a couple.  At this income level, the family would be paying more in taxes and receiving fewer government benefits.  This would turn many net tax recipients into net taxpayers and thereby raise their stakes in the American way of life as well as lowering the deficit.
I emphasize that this is a program to alleviate poverty in the U.S.  It will not do anything to help the middle class worker whose wages have been stagnant ever since the recession started six years ago.  This is a much harder problem which will require politically charged changes in U.S. economic policy.
Stay tuned!

The Economic Outlook: 2014 – 2024 II. How Can We Grow Faster?

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Last week I summarized the latest economic report from the Congressional Budget Office which very clearly describes both the slow rate of growth of our economy since the end of the recession, the enormous buildup of our national debt in the past five years and also the likelihood that it will continue getting worse for the foreseeable future unless big changes are made.
CaptureAbout a week ago the two economists Edward Prescott and Lee Ohanian had an Op Ed in the Wall Street Journal, “U.S. Productivity Growth Has Taken a Dive”, pointing out that the productivity of U.S. workers has grown at an average annual rate of only 1.1% since 2011, much lower than the average annual rate of about 2.5% since 1948 (see the above chart).  They also point out that the rate of new business creation is 28% below where it was in the 1980s (see the chart just below).  Growth of worker productivity and growth of new business formation are the two main forces which drive economic growth.
Capture1“Why is the startup rate so low?  The answer lies in Washington and the policies implemented in the wake of the 2008 financial crisis that were, ironically, intended to grow and stabilize the economy.” Mr. Prescott and Mr. Ohanian continue that it is the “explosion in federal regulation, intervention and subsidies (which) has retarded productivity growth by protecting incumbents at the expense of more efficient producers, including startups.”
It is easy to be pessimistic about the prospects for change in the government policies which are retarding economic growth.  Unfortunately, many political and social leaders have the point of view that it is income inequality which is “the defining issue of our time.”
The best response to this pervasive attitude is to shift the conversation towards equality of opportunity rather than dwelling on income inequality.  By far the best way to increase opportunity for those who desire it and are willing to work for it is to grow the economy faster in order to create more and better jobs. If we are able to do this, we’ll all be much better off.