The Economics of Inequality: Emmanuel Saez and Laura Tyson

It’s no secret that the United States has seen a dramatic increase in the inequality of both incomes and wealth over the past several decades.

The top 10% of earners collected just over 50% of total national income in 2012, up from 32% in 1970. The top 1% more than doubled its share of total income, to 22 percent from 9 percent. The last time that income was this polarized was during the Gilded Age, just before the Great Depression.

Top 1 percent US

Those numbers, and many others, come from Emmanuel Saez, professor of economics and director of the Berkeley-Haas Center for Equitable Growth.

But beyond spurring a general sense of unfairness, what do they mean? Why should we care?
That was the issue posed to Saez and to Laura D. Tyson, professor of economics and director of the Institute for Business and Social Impact, at a recent forum hosted by Dean Rich Lyons on inequality in the 21st century.

Saez, who has meticulously documented income and wealth trends in collaboration with Thomas Piketty, summarized some of his main findings:

*Inequality is at its highest levels in nearly a century. Income gaps peaked during the Gilded Age, then narrowed considerably after the Great Depression. From the 1940’s to the 1970’s, people in the “bottom 99 percent” reaped a substantial share of American growth. But inequality rebounded again after the 1970’s, as “real” or inflation-adjusted incomes surged for those at the top but stagnated for those on the middle and lower rungs.

*Rising inequality can’t be entirely explained by mechanistic economic trends, such as globalization or advances in technology. If that were the case, income gaps would have widened at similar rates in most advanced nations. As it happens, however, the national differences have been stark. For a contrast to the United States, Saez noted that in France the share of income going to top earners has changed little in recent decades.

Top 1 percent France

*The sharply widening inequality in both the United States and the United Kingdom coincide with specific policy changes that began in the 1980’s: big tax reductions in marginal tax rates, financial de-regulation, and reduced power for labor unions. “Concentration in the US and the UK really happens when there are substantial policy changes – the Reagan-Thatcher revolution,” Saez told listeners.

*Financial de-regulation appears to have played a significant role. The increase in inequality, both during the Gilded Age and in recent decades, has coincided closely with financial de-regulation and a dramatic expansion in the financial sector as a share of the total economy.

Does inequality represent a real problem? As Tyson bluntly posed the question: “So what? Why should we care?”

Tyson gave four reasons to worry.

*Weaker economic growth in the future. If real incomes continue to stagnate for the vast majority of Americans, those consumers will not be able to increase spending. Indeed, much of the increase in consumer spending just before the Great Financial Crisis was financed by rising levels of consumer debt. Since consumer spending accounts for two-thirds of economic activity in the United States, the stagnation of most wage earners creates a damper on future growth.

*Inequality of educational opportunity. Children from wealthy families have access to much better schools and to higher education, which sets them up for much higher incomes as adults. Inequality of educational opportunity leads to inequality of education attainment, which in turn leads to even greater inequality of income. It’s a self-reinforcing trend.

*Underinvestment in public goods. The growing concentration of high wealth spurs a “luxury fever” and a “consumption cascade” in favor of high-end goods and services for people at the top. But those same lucky few become increasingly unwilling to share the cost of goods that benefit the broader public – good schools in all communities, accessible health care, good roads, bridges and sanitation systems. “The more stuff you can acquire privately, the less you need to have public goods,” said Tyson. “You have your own gated community, your own security, your own everything.”

*Lopsided political power. Citing the work of scholars such as Lawrence Lessig, Tyson argued that the sharp concentration of wealth is creating a similar concentration in political influence. Candidates for political office heavily depend on campaign contributions from the very rich and from business, and Congress is increasingly dominated by pro-business, pro-wealthy elites – to the exclusion of most others.

Increasingly, economists and even business executives have become worried about the repercussions of inequality. Indeed, the Berkeley-Haas forum dovetailed with two noteworthy news developments.

The first was a major speech on inequality and opportunity by Janet Yellen, chair of the Federal Reserve (and a former longtime professor at Berkeley-Haas). Though she focused primarily on a factual analysis of the trends, Yellen raised a broader concern: “I think it is appropriate to ask whether this trend is compatible with values rooted in our history.”

The second news development was a startling new survey of bank risk managers published by FICO, the credit-scoring company. In that survey, 62 percent of risk managers agreed with the statement that “the wealth gap poses a growing risk to the financial system in North America.”

If bank risk managers are worried, maybe everybody else should be as well.

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