Poverty, Inequality, and the Stages of Grief

February 19th, 2012 at 4:33 pm

Just like Homer Simpson—though not nearly as quickly—conservatives continue to work through the stages of grief regarding the increase in income inequality.

You still see some denial—“the numbers don’t include this or that!”  But the inclusion of this/that doesn’t change things much, and the most important inclusion, realized capital gains, very much lifts the share of income accruing to the wealthiest (and, as a colleague points out, you don’t hear the deniers complain about the exclusion of unrealized gains, yet that is very much a part of their wealth; h/t CCH).  For the record, a recent meme is that including employers’ contributions to employees’ health care makes a big difference.  Sorry—nope…see figure C-1 here.

You then arrive at the next stage: acceptance with rationalization.  They tried raising the issue of income mobility as an offset to high inequality, but that just made things worse for them.  We’ve got less economic mobility than other advanced economies and if anything, the rate of mobility has slowed over the period when inequality’s growth accelerated.

Here’s the next stage:  “OK, there’s a lot of inequality and not enough mobility to offset it.  But there’s no relationship between the unequal distribution of growth and the well-being of middle-income or poor families.  Bill Gates’ gains are not some poor families’ losses.”

Actually, they are.  When growth increasingly bypasses lower income families, then for any given level of GDP growth, they end up less well off.  Take, for example, the disparate growth between income classes, as shown in this CRS study.  On average, between 1996 and 2006, real income grew about 20%.  But the real income of the bottom 40% grew about 4%, while that of the top fifth grew about 30%, and the top 1%, about 60%.

Well, it’s perfectly legitimate to ask how incomes would have trended differently if each family experienced the average growth rate.  And yes, you would very much have winners and losers under that simulation.

A more careful simulation was introduced by researchers Danziger and Gottschalk in a book from a few years back called America Unequal.  They derived a useful decomposition of changes in poverty rates that answers the question: just how much did inequality contribute to changes in poverty, controlling for a bunch of other factors, including growth in the economy, demographics, and (added by yours truly in later work), education.

Essentially, you hold each factor constant and see how poverty rates change by altering one factor at a time.  EG, the impact of inequality is determined by assigning average growth to each family while holding demographics and education constant, and comparing the simulated poverty rate to the actual.

The result, from an earlier edition of the book State of Working America, is shown below.  In fact, inequality is the single largest factor in the chart, adding six percentage points to the change in poverty rates over this period.  Economic growth subtracted close to that same amount, showing that absent the wedge of higher inequality, growth would have subtracted twice as much from poverty over these years.

Source: State of Working America, Economic Policy Institute

There are good questions about why inequality matters.  What are the channels through which it affects living standards?  What are the roles of educational effects, neighborhood effects, health effects?  To what extent does inequality reduce mobility-enhancing opportunities?

But whether it’s happening at all or whether its existence has an impact of the incomes of the middle class and poor…those are no longer good questions.  Unless, that is, your goal is to blow smoke and fog in which case they’re still bad questions, though they may be effective ones.


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2 comments in reply to "Poverty, Inequality, and the Stages of Grief"

  1. Jamison Kuhle says:

    Excellent post, Mr. Bernstein!

    When I do look at the statistics presented, however, it does seem as if there might still be room for criticism in terms of a third-variable bias. Although there does seem to be increases in per capita earnings at the higher quintiles paralleled with increases in income inequality, the data does not suggest where the causal relationship between the two statistics lays. What is it specifically about the wealthy becoming wealthier that is causing lower incomes to grow at a slower rate: how is their gain another’s loss? I would find it compelling to hear your analysis on how productive capacities might bridge the causal gap. Since real average wages, which affect lower classes at higher rates than the upper classes, have been decreasing since the 1970’s, all the while productive capacity has been on the rise, the link may be that higher incomes are siphoning the excess of productive increases in some way. Other ideas and more well carved out ideas are out there as well, but too much information for one comment! Thanks!

  2. davesnyd says:

    Defenders of income inequality have one goal and one goal only: protect the checkbooks of the wealthy.

    What you’ve failed to point out is that their end argument ends up being, eventually: “let them eat cake”.

    We know how that turns out in the end and it isn’t pretty. But maybe it is a cycle that can’t be stopped: fundamentally, their individual self interests overwhelm any sensible realization that the greater good has a more stable, long term benefit.