See America’s income inequality grow during 1979-2011, a driver of Campaign 2016

Summary: To understand this election we must see the accumulated stresses which produced the insurgencies in both parties. Rising income inequality — “the hollowing out” of the middle class and rise of the 1% — is probably the biggest, yet still poorly understood (until recently conservatives denied it). This great study by one of our top economists describes the dismal picture, essential for us to understand if we are to begin the reform of America.

Income growth by quintile — and by percentile for the top quintile

Income Growth 1979 - 2011

Growth of income and welfare in the U.S, 1979-2011

By John Komlos. Published by the NBER, April 2016
Excerpts. Red emphasis added.

Conclusions

{These} estimates have to be considered preliminary. Nonetheless, there are a few consistent patterns in which we have confidence that they will survive successive improvements.

These include most vividly what in the colloquial is referred to as the “hollowing out” of the middle class. The lower-middle class 2nd quintile and the middle class 3rd quintile fared the worst in all specifications: their income increased at a rate of between 0.1% and 0.7% per annum (Figure 1). In contrast, the only group whose income grew remarkably was the 5th quintile and especially the top 1% whose income registered an astonishing growth rate of between 3.4% and 3.9% per annum, reaching an average value of $918,000 by the end of the period under consideration.

Somewhat surprising is the consistently positive growth of the income of the lowest quintile. The poorest group registered an income growth estimated to be between 0.5% and 1%, i.e., consistently above that of the 2nd and 3rd quintiles, and equaling that of the 4th quintile (Figure 1). This is all the more surprising insofar as their net transfers decreased over time while those of the three middle class quintiles increased by as much as $9,000 per annum (Table 4).

… However, it is astounding that the relative income of the rest of the 5th quintile besides the top 1% did not experience such humongous growth. Only the top 1% increased enormously from a factor of 21 to a factor of 51, a surge of no less than 144%.

… Another recurring pattern is that the income of the 2nd and 3rd quintiles consistently lagged behind the other quintiles. This is referred to in conventional parlance as the “hollowing out of the middle class”. … According to the low estimates, it would take about 600 years for incomes in the 2nd quintile to double and on the order of a millennium for welfare to double. These are growth rates that are reminiscent of those that prevailed prior to the Industrial Revolution.

Role of government transfers of income (benefits minus taxes)

Transfers - Taxes in 2011

Not surprisingly government transfers minus taxes were the largest in percentage terms in the 1st quintile (Table 3). Their market income was increased by 31% by net transfers. The share declines with higher incomes until it became negative in the 4th quintile. For them taxes were greater than the transfers they received, so that their net income was smaller than their market income by 8%. Only the 5th quintile (including the top 1%) was in a substantially negative position, i.e., only they paid more taxes than the transfers they received. …

Change in Transfers - Taxes over 1979-2011

Another question is the extent to which transfers net of taxes have increased or decreased during this 32-year period (Table 4). Here we stumble upon the unexpected result that net transfers of the 1st quintile have actually decreased over time while that of the three middle-class quintiles increased markedly. The taxes on the 5th quintile (and on the top 1%) increased substantially. The implication is that the hollowing out of the middle class occurred in spite of the increases in government transfers.

…Consequently, the net transfers made up a substantial portion of the increases in total incomes of the three middle classes.

About life on the bottom

…{T}here are many products and services today that did not exist in 1979 which makes it challenging to compare the cost of living across generations. For instance, in 1979 we did not have to pay at all for watching television while now we do. Aside from introductory offers, basic cable services cost about $64 per month or $768 per year.

If we were to subtract this single expenditure from the annual disposable income of the bottom quintile of $17,948 the growth rates would decline by 0.1%… In other words, such expenses did not exist in 1979 but they make it much more difficult for the poor to maintain the living standard that is considered normal for the times in which they live.

Another inaccuracy creeps into the estimates on account of the way households are defined insofar as the 2.3 million people in prison or the 0.5 million homeless, for example, are left entirely out of consideration without explanation why this should be the case.

The number of people in prison today is about 1.7 million more than in 1979. Suppose that they were all from the first quintile and let us add their presumably zero incomes to those of the 1st quintile. …  all of their gains barely sufficed to pay for cable service if one also considers increases in the number who are inexplicably not accounted for in these statistics. …the average income of the bottom quintile in 2011 was just $32 above the poverty income of a three-person household.

The illusion of rising income created by rising health care costs

Although Medicare and Medicaid payments did increase from 2.5% to 8.8% of total income, the actual benefits most likely have not increased meaningfully over time. Moreover, these increases were most likely caused by the aging of the population which necessitates greater Medicare expenditures. This consideration points to one of the more serious shortcomings of all of these estimates, namely that they are not standardized for the age structure of the population which changed obviously over time and the demand for medical services is particularly age-sensitive. As a consequence of all these issues, it seems appropriate to leave these items out of consideration until these uncertainties are resolved.

About the data

…{T}he measurement of income and its growth remains somewhat controversial. Most estimates are based on pre-tax pre-transfer incomes collected by the Census, which are, of course, important in themselves insofar as they reveal market outcomes; however, they fail to reveal accurately actual purchasing power… However, post-transfer incomes calculated by the Congressional Budget Office (CBO) has its own problems, namely that much of it is financed through government debt so the burden of the transfers will be born, in the main, by generations yet unborn and consequently cannot be netted against government liabilities. This, of course, introduces a difficult-to-calibrate bias into the calculations insofar as the accumulated debt is not accounted for anywhere in these statistics. Hence, the post-transfer incomes leave the impression that the accumulation of government debt could be income and welfare enhancing.

An additional formidable challenge is posed by a litany of intractable problems associated with the estimates of the rate of inflation which introduce measurement errors upon which the whole exercise might well turn and which might affect various income groups differently.

… {T}he high estimates use the modified CBO data (deflated with the PCE price index) while the low estimates use the same data deflated with the CPI.

————————– End excerpt ————————–

About the study

Growth of income and welfare in the U.S, 1979-2011
By John Komlos
National Bureau of Economic Research, April 2016

We estimate growth rates of real incomes in the U.S. by quintiles using the Congressional Budget Office’s (CBO) post-tax, post-transfer data as basis for the period 1979-2011. We improve upon them by including only the present value of earnings that will accrue in retirement and excluding items included in the CBO income estimates such as “corporate taxes borne by labor” that do not increase either current purchasing power or utility. We estimate a high and a low growth rate using two price indexes, the CPI and the Personal Consumption Expenditure index.

The major consistent findings include what in the colloquial is referred to as the “hollowing out” of the middle class. According to these estimates, the income of the middle class 2nd and 3rd quintiles increased at a rate of between 0.1% and 0.7% per annum, i.e., barely distinguishable from zero. Even that meager rate was achieved only through substantial transfer payments.

In contrast, the income of the top 1% grew at an astronomical rate of between 3.4% and 3.9% per annum during the 32-year period, reaching an average annual value of $918,000, up from $281,000 in 1979 (in 2011 dollars). Hence, the post-tax, post-transfer income of the 1% relative to the 1st quintile increased from a factor of 21 in 1979 to a factor of 51 in 2011. However, income of no other group increased substantially relative to that of the lowest quintile. Oddly, the income of even those in the 96-99 percentiles increased only from a multiple of 8.1 to a multiple of 11.3.

We next estimate growth in welfare assuming diminishing marginal utility of income. A logarithmic utility function yields a growth in welfare for the middle class of roughly 0.01% to 0.07% per annum, which is indistinguishable from zero. With interdependent utility functions only the welfare of the 5th quintile experienced meaningful growth while those of the first four quintiles tend to be either negligible or even negative.

John Komlos

About the author

John Komlos is professor emeritus of economics and of economic history at the University of Munich, Germany. Born in Budapest during the Holocaust (1944), just as the Soviet army began its assault on the city, he became a refugee 12 years later during the revolution of 1956, and grew up in Chicago. He received PhDs in both history and in economics from the University of Chicago where Nobel-Prize winning economic historian Robert Fogel introduced him to the field of anthropometric history in 1982. Komlos devoted most of his academic career developing and expanding this research agenda, which culminated in his founding the field of economics and human biology with the journal of the same name in 2003.

Defying disciplinary boundaries, Komlos is among the very few scholars to publish in major journals of five disciplines: the American Economic Review, the American Historical Review, the American Journal of Human Biology, Statistical Methodology, and Mathematical Population Studies. Komlos was the first to explain why populations of the then-developed world became shorter at the onset of modern economic growth. He also discovered that after being the tallest in the world for 200 years, Americans became shorter than Western Europeans after the Second World War.

This is from his bio at the Harvard website. See his website for more information about his background and publications.

NBER

About the National Bureau of Economic Research (NBER)

Founded in 1920, the NBER is the nation’s leading nonprofit economic research organization, a private, non-profit, non-partisan organization dedicated to conducting economic research.

The Bureau’s associates concentrate on four types of empirical research: developing new statistical measurements, estimating quantitative models of economic behavior, assessing the economic effects of public policies, and projecting the effects of alternative policy proposals. The NBER is supported by research grants from government agencies and private foundations, by investment income, and by contributions from individuals and corporations.

For More Information

The study cites a wide range of sources. These of are of special interest…

If you liked this post, like us on Facebook and follow us on Twitter. See all posts about increasing income inequality and falling social mobility, especially these…

  1. Why Americans should love Tolkien’s Lord of the Rings – we live there,
  2. Why Elizabeth Bennet could not marry Mr. Darcy. Nor could your daughter.
  3. Learning not to trust each other in America, and not to trust America.
  4. Our future will be Jupiter Ascending, unless we make it Star Trek.
  5. Complaints about air travel are the cries of a dying middle class.
  6. When marriage disappears: rising inequality as the threat to the family.

14 thoughts on “See America’s income inequality grow during 1979-2011, a driver of Campaign 2016

    1. Bernie,

      Follow-up note: America would be in much better shape today if we had given more thought to the understanding problems before starting crusades to solve them. From the War on Poverty and the War on Drugs to our mad post-9/11 wars –slap-dash expensive foolishness has been our modus operandi. Let’s try something different this time!

    2. I strongly agree that we need more care in determining the nature and scope of an issue and we also need to separate out cause from effect.
      Personally, my skepticism around the “inequality” meme is because it is typically tied to a implicit or explicit solution (i.e., higher taxes on higher incomes and great wealth) that I believe is a misdiagnosis of the underlying issues. So my question as to the author’s solution is more of a litmus test as to the extent to which he is thinking through what is going actually on.
      As a consultant, I was pretty familiar with salary trends for executives in general and for professionals in the finance sector. Personally I think they are outlandish and that was ten years ago.
      I am reluctant to accept any diagnosis or solution that does not present a deeper understanding of the factors that contribute to this “distortion” of the distribution of compensation. Do the same factors that explain these compensation levels also explain the pattern of compensation in sports and entertainment industries? How about 6 figure salaries for newly minted STEM graduates from top schools? Or $250K packages for graduates from top law schools?

    1. Bernie,

      It’s a complex issue. Changes in taxation (the mass flattening of all taxes, including all levels) since 1980. The evolution of “winner take all” star systems in many fields. The rise of the finance system. Globalization. The development of methods by which CEOs now control their Boards. The divorce of business ownership from management. It’s a long list.

      Inequality is linked to the related but distinct issue of falling social mobility — as the rich develop a class consciousness and less allegiance for the nation.

      There are a wide range of methods to address this, but no “magic bullet”. On the other hand, the growing power of the 1% limits the available methods. I suspect we’ll be forced to do what we can, not what would be optimal in the best of all possible worlds.

      The bottom line is that today this “fight inequality” is a rallying cry in a losing war. Implementing solutions is far down the road; mobilization and coalition building are the present tasks. Unless conditions change radically, in which case any plans we have today would become moot.

    2. Bernie,

      Discussions today about solutions are largely fantasy football, or playing “If I were King”. I get frequent requests to describe methods to reform America. I point to these posts. These are practical steps, requiring work and risk. They get very few hits. The Outer Party of America’s professionals and managers wants entertainment, not political involvement.

      When that changes then reform will become possible.

    3. I am not sure we differ in principle on this. As an owner/partner in a professional services firm, I was always very sensitive to the ratio of average partner compensation to average non-partner compensation. I wanted it constrained. But that was my preference.
      As you say, it is a complex set of variables that has brought us to this point. I am not sure that the 1% have that much power – as this election cycle is in part demonstrating. They do certainly have some power and some of them are really, in the words of Spike Milligan, “very unsympathetic men”. On the other hand, there is a lot of pot banging over excessively simplistic solutions like dramatically increasing the taxes of those making more than a certain amount. .
      I will check out the links you provided.

    4. Bernie,

      “I am not sure that the 1% have that much power”

      Considering the public policy changes during the past 30 years, if you’re not convinced yet — it’s difficult to image what would convince you.

      “as this election cycle is in part demonstrating.”

      You must be joking. A member of the 1% (inherited wealth) running against a 1%-sponsored candidate.

    5. The way I read Trump’s candidacy is that it is as a populist candidacy – though obviously the candidate himself is of the 1%. Although, like Teddy Roosevelt, he is a bit of a maverick. Populist candidacies are like Pandora’s box – the future is uncertain and not simply because Trump is bumptious and boorish but because like Pandora’s box there are are contradictory forces that may well be hard to control once released – e.g., nativist, minimalist, statist and leveling
      I am not sure that the 1% can be viewed as monolithic from a policy perspective – except for a presumption of a right to lead. In that regard, they are no different than the highly educated, the highly righteous or the highly ideological.

    6. Bernie,

      Trump has zero time in office and has made a vast body of contradictory statements during his many campaigns. Assuming he would break with his past requires quite a bit of faith.

      I suggest caution when predicting what Trump would do in office. US candidates have a long history of doing very different things than they said when campaigning. FDR ran to the right of Hoover in 1932 (condemning Hoover’s deficits) and as peace candidate in 1940 (while strongly supporting the UK with de facto acts of war). As for Obama.…

      Trump has tapped American populism. With what sincerity we can only guess. We have a long history of electing candidates on whom we project our hopes and fears as a blank screen. Carter in 1976 and Obama 2004 were clear examples. I suspect 2016 will add to that sad list, no matter who wins.

      “I am not sure that the 1% can be viewed as monolithic from a policy perspective”

      The evidence is overwhelming that they are acting in aggregate to further their class interest, although some individuals act otherwise. They have published plans (expertly execucted) and built a large infrastructure (think-tanks, recruiting and training people). I have documented this in dozens of posts like this: Why the 1% is winning, and we are not.

      Ignoring their coherent and powerful efforts since the early 1960s is equivalent to the “the civil war was about tariffs theory. Pleasant to contemplate, but their actions and documents say otherwise.

    7. Bernie,

      Trump gives another example of his support for the 1%.

      Asked “should the federal government set a floor” – a national minimum wage – Trump replied: “No, I’d rather have the states go out and do what they have to do.
      “And the states compete with each other, not only other countries, but they compete with each other.”

      We have seen this at work in many aspects of public policy. It creates a race to the bottom among the States, as they compete against each other — each manipulated by their own 1%.

    8. I am no Trump supporter. I certainly do not see him as being consistent or predictable or coherent in his pronouncements. However, I am no fan of Federally mandated dramatic changes in minimum wages either. We have a federal system. States have rights and responsibilities. There may or may not be a race to the bottom. I see nothing automatic in that at all. I like the idea of each State being a laboratory when it comes to most public policy issues. I am also concerned about the desire to raise taxes by inducing inflation via massive and permanent deficit spending.

    9. This was not a sudden brainstorm by Trump. In a November debate Trump said: “Taxes too high, wages too high, we’re not going to be able to compete against the world.” He then told Fox News: “We were talking about the minimum wage, and they said ‘Should we increase the minimum wage?’ And I’m saying that if we’re going to compete with other countries we can’t do that because the wages would be too high.”

      Being a consciousness liar, he then denied he said this.

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