Some Nice Curves

October 26th, 2011 at 12:18 am

In my previous post I noted a fascinating new study from the CBO, focusing on the increase in household income inequality over the past few decades.

This figure is particularly elucidating.  As noted earlier, the increase in inequality has largely stemmed from the increase in the dispersion of market outcomes, or what I called above the primary distribution of income (before taxes and transfers kick in).

The figure shows “Lorenz Curves”—pictures of how income is distributed across the distribution of households for different sources of income.  Since the curve plots cumulative income against cumulative households (hh), ranked from poorest to richest, if every hh had the same income, the curve would hug the 45-degree line (20% of hh’s would have 20% of income, 30% would have 30%, etc.).   The more space between the 45-degree line and the income lines, the greater the dispersion (the area therein is the Gini coefficient, if you’re still with me).

The figures show that income dispersion has increased for each income type—the 2007 line is further from the 45-degree line in each figure.  But there’s something else going on here too.

The CBO also finds that there’s been a shift in the composition of hh income from labor, to capital and business income.  Since, as you can see, these latter sources are more unequal income than labor income, that shift in the composition of income is another reason for the increase in inequality.

The first factor—increased concentration within each income source over time—accounts for about 80% of the growth in the Gini index (the inequality measure in this study), 1979-2007.  The rest is due to the composition shift toward more unequal income sources.

I’ll try to write about what I think this all means throughout the week.


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10 comments in reply to "Some Nice Curves"

  1. Dan Furlano says:

    Everything you say is totally incorrect according to this report by two acclaimed economists Bruce D. Meyer of University of Chicago and NBER, and James X. Sullivan of University of Notre Dame.

  2. Geoff Freedman says:

    These are all interesting points. For some time, my belief has been that increasing wealth and income inequality has played a much bigger role in our current economic condition than most people (including most economists) realize.

    In fact, the various economic bubbles,which fueled consumption over the last twenty years, have just masked many of the symptoms caused by wealth inequality.

    My observation is that until we recognize the fundimental causes and mechanisms that have contributed to the growing inequality(and it’s happening worlwide), that we will not be able to introduce measures that will effectively create higher levels of consumption, and we will not get out of our current economic malaise. Perhaps we need to fundimentally change the nature of global commerce

    Reducing and restructuring levels of debt and changing tax rates will not effectivly change current economic conditions if my basic premise (about inequality) is correct.

    I am very interested in what you think the causes of this are. I have read some of Joseph Stiglitz ideas about this, but I am beginning to believe this just scratches the surface of this topic.

  3. Jeff says:

    I think I would give more credence to a Congressional Budget Office study than to a study produced by the American Enterprise Institute. I think the AEI has a dog in this fight over income inequality.

    • Dan Furlano says:

      You know that but does the average person? All they know is that they are two credible economists.

  4. perplexed says:

    This is great stuff Jared! This story needs to be told if we are to have any hope of breaking out of this gridlock. The Lorenz curves are a great way to communicate the reality of what’s going on here (although we made need to add shading of the areas of inequality and their proportion to the whole area so our non-millionaire republican friends can understand them too; and understand how their support of republican agitprop leads to making this worse and undermining opportunity for all but the wealthiest). Who knows, maybe they almost make it simple enough for the media to understand as well?

    Most U.S. citizens understand that some inequality is what creates incentives to work harder, find better solutions, and take calculated risks, but few really understand how far we really are from the “provide incentive” stages and into the “destroy opportunity and undermine growth” stage. If people start to understand that our wealth concentration of .84 means that wealth is so highly concentrated in this country that we are 84% of the way to “perfect inequality” and that there is only “16% of the area left” between where we are now and one single person, out of over 300 million, having all of the wealth in the country, they’ll also begin to understand how really destructive these tax policies of the last 30 years have been. They may also then understand how proposals like Cain’s and Perry’s are recipes for almost certain disaster.

    What Keynes was trying to get us to understand is that our failure to manage these outcomes through progressive tax policies that redistribute “arbitrary and inequitable distribution of wealth and incomes” and manage the “marginal propensities to consume,” will result in the concentration of incomes in the “primary distributions of income” which will lead to more wealth concentration, more income concentration, and slower growth. It seems he was right on all accounts; its precisely what he predicted would happen. As I’ve mentioned before, there is no better time than right now to find out if he was

  5. Jim Edwards says:

    I think one more graph would have added to the story. We see the difference in each graph being fairly small from 1979 to 2007, but the biggest missing data is how the wealthy have shifted from a significant portion of income coming from fairly equitable sources to those extremely inequitable sources. It’s one thing to say cap gains have shifted 5% or whatever it is and quite another to say there is a 40% (again whatever the number is) shift from payroll income to cap gains income.

    I often wonder why macro economists spend so little attention to GINI and wealth distribution since it is nearly impossible to find major economic meltdowns that don’t include a significant and sudden concentration of wealth. Can you recommend further reading on the macro effect of wealth distribution? I know the excellent work regarding the happiness of society, but is there work that studies what it does to the free flow of goods and services?

    Thank you,

  6. Dan Carroll says:

    Wait a minute. What about the internationalization of the labor force that has been going on since the 1960’s and ’70’s. This trend should have been fully expected. American labor has been competing with labor in the third world and of course their income rates have declined. At the same time, we have been reducing the tax rates on returns from capital. While the results should not be surprising, the real question is what, if anything, can and should be done to mitigate the situation. Should we be looking for ways to encourage the profitable deployment of more capital in this country, or should we be talking about the have’s and have-not’s. The wealthy are not the villians here. They have just tried to deploy their capital efficiently.

    • perplexed says:

      Keynes told the answer to this was redistribution through progressive tax policies that redistribute “arbitrary and inequitable distribution of wealth and incomes” and manage the “marginal propensities to consume.” Would the wealthy pursue policies that undercut the middle class if they knew they faced increased redistribution of their incomes due to the damage they caused to the rest of the country?

      We have to tie the acquisition and maintenance of enormous amounts of wealth to the success of our country as whole and not let it continue unimpeded to the detriment of the country.