Missing Pieces To The Inequality Puzzle

Between us, we did a pretty good job of identifying the main causes of growing income inequality highlighted by Timothy Noah in his 10-part series on Slate.com. My theory, the growth of trade, has been a contributing factor, particularly in recent years as imported goods have become a significantly large part of the economy.

Government policy has also had a role to play, but not in the way we probably thought. Tax rates, it seems, make no difference whatsoever. But there has been a strong correlation between which party was in the White House and the growth of income inequality.

In Democrat-world, pre-tax income increased 2.64 percent annually for the poor and lower-middle-class and 2.12 percent annually for the upper-middle-class and rich. There was no Great Divergence. Instead, the Great Compression—the egalitarian income trend that prevailed through the 1940s, 1950s, and 1960s—continued to the present, albeit with incomes converging less rapidly than before. In Republican-world, meanwhile, pre-tax income increased 0.43 percent annually for the poor and lower-middle-class and 1.90 percent for the upper-middle-class and rich. Not only did the Great Divergence occur; it was more greatly divergent.

Having already ruled out taxation policy, Noah failed to nail down any specific policy differences that might be the cause, but did highlight an interesting study citing the growth of lobby groups as a cause of growing income inequality.

Jacob Hacker and Paul Pierson, political scientists at Yale and Berkeley, respectively, take a slightly different tack. Like Bartels and Krugman, they believe that government action (and inaction) at the federal level played a leading role in creating the Great Divergence. But the culprit, they say, is not so much partisan politics (i.e., Republicans) as institutional changes in the way Washington does business (i.e., lobbyists). "Of the billions of dollars now spent every year on politics," Hacker and Pierson point out in their new book, Winner-Take-All Politics, "only a fairly small fraction is directly connected to electoral contests. The bulk of it goes to lobbying…." Corporations now spend more than $3 billion annually on lobbying, according to official records cited by Hacker and Pierson (which, they note, understate true expenditures). That's nearly twice what corporations spent a decade ago.

The demise of organised labour was a fairly obvious one we missed but most interesting, for mine, was a significant contributor that none of us on Bristlemouth proposed. The declining relative standards of US education, Noah claims, contributed as much as 30% to the Great Divergence over the past few decades. This theory makes a lot of sense.

The abrupt halt and subsequent slowdown of gains in educational attainment began at about the same time as the Great Divergence. Before the Great Divergence, the country enjoyed at least three decades of growing income equality, an epoch that Goldin and Boston University economist Robert Margo have termed "The Great Compression." Between 1900 and the mid-1970s, U.S. incomes became dramatically more equal while educational attainment climbed. But starting in the mid-1970s and continuing to today, incomes became dramatically less equal while educational attainment stagnated. Katz and Goldin believe this is not a coincidence.

A modern economy outsourcing most of its manufacturing to the developing world needs an educated workforce. In an economy failing to deliver enough suitably qualified workers, the few who are graduating with the necessary skills are going to procure an outsized portion of the pie. In the US, today more so than ever, a quality education depends largely on whether you can afford to pay for it or not.

High school graduates aren't receiving a significantly better education, on average, than their parents did, partly because elementary, middle, and high schools are inadequate, and partly because the cost of a college education is increasingly prohibitive.

Back home, it seems we too face the issue of growing income inequality (thanks Chris). The top quintile of Australian income earners have increased their share of the overall pie from 37.8% in 1994/5 to 39.4% in 2007/8. When you consider that the top 10% of US income earners take home 50% of the spoils, though, we still live in a reasonably egalitarian country.

But some of the factors driving the growing divergence in the US also exist here: the influence of political lobbyists; the demise of organised labour; and, in particular, an increasingly elitist education system, where those who can afford it are getting a better education that those who can't.

As Noah points out in his final instalment, we're not all created equal. As a society, we enjoy a high standard of living largely because of an economic system that rewards and incentives those with specialist skills to do what they do best. Some people get more than others, but we all end up better off (many studies have shown that higher incomes don't translate into increased happiness, but the political obsession with GDP growth doesn't look like it's going to disappear any time soon).

So you need some degree of inequality to make the system work, that much is clear. I, for one, would prefer to live in a society where it doesn't get too far out of whack.

You can download a PDF of the full Slate series here.