The Fool on the Hill

February 9th, 2012 at 12:22 am

Going back up to Capitol Hill tomorrow to testify before the Senate Budget Committee on a great topic: Inequality, Mobility, and Opportunity.

I’ll post the testimony later, wherein I elaborate details and evidence, but here’s the breakdown as I see it.

There a lot more income inequality than there used to be.  That means growth is less likely to reach the middle class and especially the poor.  This blocks their opportunities to move up and out, and that shows up as stagnant mobility.


Putting together the findings suggests a hypothetical causal chain or even a negative feedback loop: from higher inequality, to reduced opportunity, to diminished mobility.   Reduced opportunity —say, less educational access for children from lower income families — both reinforces high levels of inequality and further diminishes mobility.

This loop is particularly likely to occur when inequality diverts overall growth from low-income families, leading to high and persistent child poverty.  Causally, this chain of events is likely to operate through everything from diminished access to quality education, starting with preschool (early educational interventions have been shown to have lasting positive impacts on later earnings and mobility), to inferior public services, like poor quality libraries and parks, to lack of health care, inadequate housing in underserved communities, and even a polluted physical environment.

To the extent that higher inequality and less mobility lead more children to be exposed to these risk factors, we may well find that as society grows ever more unequal, those falling behind are losing access to the ladders that used to help them climb over the mobility barriers they faced.

Policy Implications:

In the interest of avoiding further damage to the ability of disadvantaged families to escape the vicious cycle I elaborated, we mustn’t seek to get on a sustainable budget path by spending cuts alone.  Such cuts will be part of the mix.  Thus far, however, they have been the only ingredient in the mix.

In fact, discretionary programs that serve low- and moderate-income families—programs with the potential to promote income mobility, like Pell Grants—have already been the target of budget cuts.  Head Start, Title I, and job training—programs that can also help families overcome mobility barriers—are also at risk.  In the spirit of breaking the cycle of inequality, diminished opportunity, and immobility, Congress should avoid these cuts.

Turning to tax reform, allowing the high-end Bush tax cuts to expire at the end of this year, as President Obama has proposed, is consistent with both the balanced approach I advocate above and the reduction of after-tax inequality.

Ending the preferential tax treatment of income from capital and dividends is also consistent with the goals of both deficit reduction and moderating inequality.  According to the JCT, for example, the cost of the tax breaks for capital gains and dividends is $450 billion over five years.

I’m aware that policy makers need to be mindful of behavioral responses to tax changes, but I assure you that the historical evidence of this point is very consistent.  The main response to tax changes among high income or high wealth households appears largely unrelated to “supply-side” effects, like greater capital investment leading to higher productivity, wage, or job growth.  Instead, beneficiaries of these tax cuts are more likely to rearrange their taxable income in ways to avoid taxation, such as the strategic timing of realization of capital gains.

In closing, I reiterate two points.  First, by protecting those parts of the budget that offset poverty and promote opportunity, members can push back on the negative cycle I described above.  Second, through expiration of the high end Bush tax cuts and ending preferential treatment of capital incomes, members of this committee can return progressivity to a tax code that has become considerably less effective as a levee against rising inequality.

More to come tomorrow…


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6 comments in reply to "The Fool on the Hill"

  1. foosion says:

    Those who would cut spending that provides opportunities for the middle class and poor while lowering the tax rates on the best off are weakening the economy today and for the future.

    Demand is reduced today, lowering economic growth, because the best off have a lower marginal propensity to spend. Lower demand means less money to our businesses. Growth is hurt tomorrow because we’ll have a sicker, less educated population.

  2. Feifan Chang says:

    A well written article posted.
    The on going economy issue make a huge difference for the poor & middle class families too to get the equal opportunity for them / their child to take part in the nation building resources, They can’t able to get high education or we can say quality education that build them a good supportive one person for the nation.

  3. D. C. Sessions says:

    Putting together the findings suggests a hypothetical causal chain or even a negative feedback loop

    Thats’s not negative feedback, that’s positive feedback in an undesirable direction.

    The definition of “feedback” is the relationship between the response to a perturbation and the perturbation. Negative feedback is a marble in the bottom of a bowl: move it from the bottom and there will be a response (gravity) opposing the perturbation — the perturbation and the response are in opposite directions.

    Positive feedback is a marble balanced on top of a beach ball. Perturb it even slightly from its equilibrium point and there will be a response in the same direction as the perturbation, causing a rapidly (literally exponential) increasing displacement.

    Your mobility example is a classic positive feedback pattern: power (income, in this case) leads to more power and conversely those who lose power for whatever reason become more subject to forces that reduce their power even further.

    Brought to you by your friendly neighborhood electrical engineer, who does feedback systems for a living and often wonders whether economists actually consider the vast literature on the stability of complex feedback systems.

  4. comma1 says:

    Good luck. No stress, but… only the entire nation is counting on you.

  5. Fred Donaldson says:

    Lower tax rates for workers and higher tax rates for the non-working wealth holders, may eventually lead society to value workers higher than investors. At least, it might offset some of the propoganda of recent years against the so-called working class and the odd reverance of those involved in finance.

    By itself investing does not produce anything. Machines and labor create items of value – cars, houses, and other products and services that people need or enjoy. Business can survive without investors, but not without profits.

    Any working person invests more effort and talent into the economy than someone who does nothing but enjoy the wealth that has previously been created. Taxing work, especially low pay work, only reduces the plight of the worker, and then requires society to pool its money to subsidize those affected by such onerous levies.

  6. readerOfTeaLeaves says:

    A few anecdotes to support the argument that government spending can be extremely cost-effective:

    In an earlier phase of my life, I taught reading to young children. I encountered children who could not distinguish between the following sets of sounds: p/f, t/d, s/z, and other combos.

    Significantly, these children generally also had trouble repeating nursery rhymes and simple songs, which is a sign of ‘impaired auditory acuity’. Some had histories of untreated ear infections that negatively impacted their auditory acuity.

    This placed them at risk of not learning to read: if you can’t interpret the symbols in: ‘the fat rat sat on the mat’ when you aren’t sure whether the letters ‘sound like’:
    ‘the pad rad zad on the mad’ or
    ‘the fad rat zat on the mad’
    because every single time you hit a p, t, d, s, z, f, or other letter you have to ‘guess’ at its sound — then learning to read becomes an activity fraught with wild guesses, and the odds are heavily stacked against your becoming a skilled reader.

    My students disliked school, and were generally the offspring of parents who also had not liked school (and who also had trouble reading). So the negative feedback loops cross generations. But in their own way, my students were funny, great kids.

    Middle class children who complain of earaches are rushed to their pediatrician for antibiotics, and it’s been my experience that pediatricians take earaches seriously and treat them aggressively.

    But when school and early learning budgets are cut, then some kids don’t get help for their earaches, and they don’t get the hearing tests and assessments they need. This compromises their chances of becoming skilled readers, and the longer they lag, the farther they fall behind.

    When a society decides that cutting taxes on the uber-wealthy is more ‘cost effective’ than paying for school nurses to make sure that children’s hearing is protected, then society is basically eating its seed corn.

    I have nothing against yachts, nor wealth.
    But a nation of skilled readers would create more genuine, long-term wealth than a thousand yachts or any Cayman Island tax haven will ever produce.