Consider This A Warning: On Income Inequality

Thomas Warns*

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Last month President Obama delivered a speech in which he declared income inequality (along with a lack of upward mobility) as the “defining challenge of our time.” He went onto say that the American Dream was increasingly out of reach for Americans born into poverty, citing statistics that indicate the infrequency with which poor children escape poverty in adulthood. A month later, he unveiled the first of his “Promise Zones,” which are five areas of the country where the administration will work with local leaders to cut red tape and tap existing resources; the goal is to make sure that a child’s success is determined “not by the ZIP code she lives in but by the strength of her work ethic and the scope of her dreams.”

This of course is not the first time “income inequality” has been thrust to the forefront of the national consciousness. The most memorable national discussion on the topic in recent years was undoubtedly during the Occupy Wall Street movement, when the “99%” rallied against the “1%.”

Adding more fuel to the growing flames, the Los Angeles Times this week published an article which contained some surprising statistics about the distribution of wealth globally. The article states in part:

The study found the richest 1% had $110 trillion in wealth -- 65 times the total wealth of the bottom half of the population. That bottom half of the population owned about $1.7 trillion, or about 0.7% of the world's wealth. That's the same amount as owned by the 85 richest people, the report said.

The findings undermine democracy and make it more difficult to fight poverty, the report said. “It is staggering that in the 21st century, half of the world’s population own no more than a tiny elite whose numbers could all sit comfortably in a single train carriage," said Winnie Byanyima, the group's executive director. "Widening inequality is creating a vicious circle where wealth and power are increasingly concentrated in the hands of a few, leaving the rest of us to fight over crumbs from the top table," she said.

Almost any American finds these numbers jarring, and it is easy to see why. America is proud to boast that it is the “land of opportunity,” with a chicken in every pot and a car in every garage; now it seems that the American dream is harder to reach, especially for younger Americans, and prosperity is no longer so broadly shared.

But the real issue is not that the income gap between the top and bottom earners is soaring, it is that income for the bottom earners is stagnant. People can be jealous when a neighbor parks a new BMW in their driveway, but they can’t really complain if they drive an Audi. The problem is when you have to sell your Fiat to make payments on your mortgage; it doesn’t matter what your neighbor is driving.

Causes of Income Inequality and Mismatched Solutions

David Brooks of the New York Times gives an excellent rundown of how the income of the top-end earners and bottom-end earners are widening for different reasons. At the top, Wall Street has a perverse compensation scheme, assortative mating means that successful, well-educated people tend to marry each other and pass their advantages to their children, and the superstar effect means that in the Internet age a few superstars will strike gold and capture all of the fans instead of having the fans spread out amongst several artists like in earlier times. At the bottom end, income is dragged down by broken families and the disappearance of low-skilled middle class factory work. Unfortunately, most of those middle class factory jobs are not coming back.

The real problem is that a sorry situation can make for bad policy. Many people have suggested raising the minimum wage to combat the income gap. However evidence suggests that the problem is not that the poor are not being paid enough, but that the poor are not able to work enough hours or find work at all. Raising the minimum wage would merely price a lot of poor people out of entry level jobs, since many of those jobs would disappear.

Many numbers detailing income inequality in the United States look at pre-tax income, and thus fail to take into account transfer payments from the rich, who pay most of the taxes, to the poor (though taking that into account still shows a wide gap in wealth). Paul Krugman, also of the New York Times writes that it isn’t really the top 20%, or even top 5% that is the problem. It is the top 1%, or even 0.1% - they are undeserving of such wealth.

Identifying Root Causes of Income Inequality

But blaming the rich people seems somewhat misplaced: wealth is a mutable characteristic (and something which most people desire), and the accumulation of wealth itself is morally neutral. Bill Gates may be the richest man in the world but he isn’t all that bad a guy; in addition to revolutionizing the computer industry to the benefit of billions, he also operates a massive charity, the Bill and Melinda Gates Foundation. The Gates’ are not representative of every billionaire, but they also aren’t alone in giving.

Instead of blaming the rich people for being wealthy, some of the blame (and efforts for reform) should be placed on the institutions that penalize the middle and lower class and help the rich. One of the biggest culprits has been the switch from the gold standard to a system of fiat currency. No longer is the value of the dollar relatively certain; in a single decade inflation can skyrocket, commodities like oil and gold can shoot up ten-to twenty-five fold in value, and the dollar can depreciate by 66% against other major currencies.

If you save money, as most low and middle-income Americans do, then you are likely to lose out – inflation will destroy the value of your savings. But high-income earners have the benefit of the sophisticated securities markets which can reap big returns on their earnings. The result is a massive financial sector which serves the rich and leaves the rest of us to see our savings wither and die.

Wealth Concentration Isn’t Evil, and It Can Be Your Friend

Of course, a concentration of wealth in this environment can be beneficial (to an extent). Though one household with $1,000,000 in income won’t buy as many goods as ten households with $100,000 of income each, concentrated wealth has its advantages. It is mainly the wealthy whose capital expands businesses and adds more jobs, while the middle class and poor are more likely to liquidate their income to satisfy immediate material needs. Thus, talking about income inequality as a terrible vice ignores the fact that some income concentration is beneficial (not to mention deserved), and also that the real problem is falling income for the lower and middle class people.

To a certain extent, we need the productive genius of that 1% (or 0.1%), and some of our greatest industrial heroes haven’t been compensated enough. As Ayn Rand stated in Atlas Shrugged:

“In proportion to the mental energy he spent, the man who creates a new invention receives but a small percentage of his value in terms of material payment, no matter what fortune he makes, no matter what millions he earns. But the man who works as a janitor in the factory producing that invention, receives an enormous payment in proportion to the mental effort that his job requires of him…The man at the bottom who, left to himself, would starve in hopeless ineptitude, contributes nothing to those above him but receives the bonus of their brains.”

The fact that even the poorest Americans have access to electricity is due to the incredible talents of inventors like Tesla, Edison, and Westinghouse; they likely could not be adequately compensated with trillions of dollars when one examines the amount of good they have done for every human being that has followed them. And the productive invention has created millions more jobs for others who possess varying degrees of ability.

“The Reports of My Death Were Greatly Exaggerated” - Democracy

So what to make of the shocking report, as well as President Obama’s efforts to fight income inequality? First, the report sounds over-dramatic. It claims the findings undermine democracy, without mentioning that billions have been lifted out of poverty due to free market economics and democracy. There are plenty of tales of rich kings (Louis XIV, Solomon, Mansa Musa) who lived in opulence while their subjects toiled in misery; now even the poorest Americans have a social safety net that probably means they live more comfortably than King Solomon did.

As for President Obama’s plan for “promise zones,” there are some questions mixed in with the opportunity they present. The President pledges that they will not use any additional federal funding for the zones, which is helpful considering the staggering federal deficit. Instead, he will try to cut through the red tape with tax incentives and improve education opportunities in five neighborhoods to produce positive change. It is always uncomfortable when the federal government intervenes in the economy and essentially picks the winners and the losers; why are poor kids in Southeastern Kentucky getting help from this program but not kids from Detroit? (perhaps due to electoral politics – the Senate Minority leader is from Kentucky).

The plan may have some success though. Despite the President sometimes vilifying the rich, the plan itself is aimed at improving opportunities for low and middle class families, without taking aim at those who are more fortunate. Though some might have different policy ideas on how to get there, virtually all Americans can get behind the idea of keeping the American Dream a possibility for all and not a mirage.

*Thomas Warns is a J.D. Candidate, class of 2015, at NYU School of law, Staff Editor on the NYU Journal of Law & Liberty , and author of the weekly column "Consider This a Warning."