"Income Inequality, Spending Inequality, Wealth Inequality"

Lane Kenworthy, with another informative post, has useful additions to the discussion over the Cox and Alm claim that consumption inequality is less pronounced than income inequality.

Here's a key section of his post, but prior to this he also discusses of the poor quality of the underlying data used by Cox and Alm in coming to their conclusions:

...There is a more fundamental problem with Cox and Alm’s argument. I agree that it is helpful to consider consumption in addition to income, but the point applies more to our assessment of poverty ... than to our assessment of inequality. After all, the portion of their income that high earners don’t spend gets saved. It is therefore available for later spending. And income saved becomes an asset that provides financial and psychological security.

While there is less inequality of consumption than of income, the flip side — because those with high incomes are able to save and invest much more — is that inequality of wealth is much greater than inequality of income. The following chart shows the shares of income and wealth of the bottom two quintiles (fifths) and the top three quintiles of households in 2004 (the most recent year for which wealth data are available). The calculations are by Edward Wolff (here), using data from the Federal Reserve’s Survey of Consumer Finances. The bottom two fifths of households have just 0.2% of the total household wealth. The top fifth have 85%.

If we focus on spending, we miss this key part of the inequality story.

Comments

[Lafayette]

Article: The bottom two fifths of households have just 0.2% of the total household wealth. The top fifth have 85%.

Pareto would be soooo pleased. He proposed, without too much background data, that 20% of the European population owned 80% of its wealth.

He was only 5% off a hundred years later and on the wrong continent. I suspect that the breakdown is closer to 40/60 in Europe.

[Lafayette]

Mountains and Canyons

Article: If we focus on spending, we miss this key part of the inequality story.

Do we? If so, how?

Consumption inequality and income inequality are two parts of the same beast. One cannot consume without income. That's simple enough.

And, yes the rich spend more but not as a fraction of their total income. In fact, the more that they spend (for all those big-ticket items), the less of a fraction of their income is consumed.

The important point is not to remain at that conclusion. A further step is in thinking is needed. What do they do with the rest of their wealth? They save it? They invest it? They give it away philanthropically?

In fact, they do all three. The philanthropy bit is huge admittedly. For every dollar a European contributes to benevolence, the Americans give 12. As well they should, the American rich are much wealthier than the European rich. (Though the EU gives more Foreign Aid as part of its GNP than does Uncle Sam.)

Still, after all the philanthropy is said and done, a humongous amount remains. And, most of it, when invested, returns even further revenues, thereby exacerbating Income Inequality . Time-wise, we will see in America a special class of the Super-Rich living juxtaposed with the Super-Poor. With the middle class tugged both ways ... some going further up the escalator and others slipping back down. Why does this happen?

Because middle-class incomes stagnate, especially in periods of economic subsidence. Real wages of the middle class have grown only modestly, barely beating the inflation rate, in the past five years. The economic escalator that moved the poor up to a middle-class existence has all but shut down. Whilst those of the Upper middle-class (highly skilled professionals and/or top management) and the Super-Rich have seen incomes burgeon.

This creates the Social Fraction (or divide). With time, this Fraction can create Friction. A population can understand differences in income and accept them, due to diverse talents or even luck. But, when the Income Inequality is reserved for a particular class of individual in a particular industry, namely Finance, then people start to question why.

Why is it that the Super-Rich in Finance should be benefiting so much from the Cup of Munificence? Or, why is it that the Super-rich Entrepreneurs do the same? Because, wealth is also a burden, one cannot just let it sleep.

Governments are there to make sure the level playing field remains level. Of course, incomes are not a level playing field. But Mountains and Canyons are not either a morally acceptable incomes landscape either.

Only taxation can right that wrong. And, that taxation existed before the Right did away with it after the ascendancy to the White House throne of Ronald Reagan in 1980. America has always had millionaires, which is necessary.

But billionaires? Who needs them? They are economic dinosaurs.

[Icarus]

Lafayette...

You say income inequality leads to friction, but, over the past 30 years, we've seen the opposite. As wealth inequality has increased in the US, so has political apathy. We have almost no class consciousness, and, even the economically challenged often vote republican.
Why?

Perhaps it's because wealth isn't the right measure of one's social life. Products are now more inexpensive than ever. What that wealth will bring you, "utility", is perhaps a better measure of society, and now, we have cheaper products. That wealth the middle class earns now buys them flat screen tvs. 30 years ago, it would have been impossible to imagine consuming like that.

[nocountry]

the portion of their income that high earners don’t spend gets saved. It is therefore available for later spending

Laneworthy is missing the point of the Cox and Alm study. Their point is that income inequality is misleading because income may fluctuate a lot from year to year, whereas individuals tend to smooth their consumption based on their long-term earnings prospects.

Besides, if some high earners are saving a large part of their income for later consumption, wouldn't we expect to see prior-period high earners consuming a lot, which would make consumption inequality closer to income inequality?

[Denis Drew]

Not perfectly on topic, but relevant -- I just came up with this:
38% of American families living below a more accurately drawn poverty line?

50 percentile (technically, mean third-quintile) family income for 2005 was $56,277.

A plausible poverty line for a family of three (on the "minimum needs" table on p.44 of the 2001 book Raise the Floor) is $33,345 in 2008 dollars -- if health care is otherwise covered. Add $10,000 for a 2008 family health policy and we get a plausible poverty line (as opposed to the implausible federal line computed at 3X the price of a super cheap diet) for a family of three of $43,345.

(Raise' supplies extensive explanations for its minimum needs numbers in Appendix B -- its budget tables cite Solutions for Progress as their source.)

The difference between second and third quintile mean family income ($35,000, $56,000) is about $1,000 per percentile. That computes ($35,000 is 30 percentile + $8,000 more is 8 more percentile) to 38% of American families living below a believable poverty line (at least without food stamps and other helps -- average family size is 3.13 persons).

I have been touting 25% as a realistic poverty line -- just doubled the 12.5% official line -- made a conservative fit with Raise the Floor's doubling of official criteria (was more than doubling -- $17,000 being the official criteria for a family of 3) -- conservative because, if anything, I expected the low income curve to be flatter than 45 degrees. It seems it was flatter than I even guessed.

Assuming I can't find something wrong with 38% in poverty, I will email this startling stat to media all over the country. The media continuing to report 12.5% poverty without qualification is like reporting in Columbus' time that the world is flat -- it makes no waves; but informed people know otherwise.

[paine]

lovely post doc t

20 % have 85% of net worth
let us hammer this home
when we talk tax burden shares
and this ....40% effectively zero
when we talk safety net

yup
actual households bounce around among
income quintiles
from year to year
and
over the life cycle wealth arc patterns
would be optimal

still its obvious
if absolute or relative consumption
may be a relief guide
if you're
for lowering household
inequality and attendent levels of household
financial insecurity
by our noble fed transfer system

its household wealth that remains
the proper target
for progressive tax extraction
not income or consumption either
---as much as a luxury tax would be great sport---

[don]

Ultimately, income is a better measure than consumption of what an individual contributes to society, and consumption is a better measure than income of what he takes away. Should you be jealous of someone who has more income over his lifetime but consumes less? Suppose in the past, income had been distributed more evenly. One natural result is that aggregate saving would have been smaller. In this alternative world, we would have less total wealth than we do now, and lower wages, too.
The more you redistribute to guaranty equality of result, the more you reduce the incentive to save (or even to work). These are adverse effects of policies like graduated income taxation, social security and medicare. There is a happy medium somewhere, but I'm not sure if we are north or south of it in the United States today. Certainly, the national saving cannot continue to be negative, let alone at the current rate.

[Patricia Shannon]

don says...

Ultimately, income is a better measure than consumption of what an individual contributes to society,

So, Paris Hiltn and certain rap stars contribute more to society than most medical researchers?

[ken melvin]

Don's not big on thinking.

[Lafayette]

Those sensate enough

IC: You say income inequality leads to friction, but, over the past 30 years, we've seen the opposite.

That's a bit strange coming from someone who is, ostensibly, a citizen of a country born of just the sort of friction I had in mind.

The English were bleeding the colonies white. What the English failed to appreciate, and the French as well, was that the colonies were constituted of property-owners. The English aristocracy took them for indentured servants or expatriated criminals, just a notch above slaves.

In fact, the reason the colonists came to America is because the land in the UK was all held by titled gentry. America was, indeed, in the 18th century the "land of opportunity" compared to England. (To today's immigrants, it is that land as well.)

Presently, property-ownership is not the issue since it is well-established amongst our fundamental cultural values. What is an issue, nonetheless, is the fact that people participate within a collective society/market/economy (call it what you will) as full-fledged members and, regardless of the extent of their property/net worth, they end up left behind whilst a great many others spurt over the horizon.

This division between the haves and the have-nots is widening daily and it is beginning to burn into people's minds. That is, those sensate enough to realize its importance.

As wealth inequality has increased in the US, so has political apathy. We have almost no class consciousness, and, even the economically challenged often vote republican. Perhaps it's because wealth isn't the right measure of one's social life.

It needn't be and, if you had stayed in Europe, you would have appreciated its cultural diversity -- and that does not mean nationality-wise. It means the sorts of activities that interest people, that consumes them, that impassions them and especially that brings them together.

The diversity is very wide indeed, because the notion of collectiveness is as ingrained in Europe as that of individualism is embedded in the consciousness of Americans

By contrast, one would think Americans are fixated on wealth and what it can buy -- "keeping up with the Joneses". Frankly, I think Europe's greatest menace is the nascence of just the same myopic attitude amongst its young. This generation of Europeans was born of parents who never knew WW2, so they take a great many things for granted. And, the young all want a Brad Pitt/Angelina Jolie dripping off their arms.

[Lafayette]

A pissing contest

don: Should you be jealous of someone who has more income over his lifetime but consumes less?

Facile argument. Why should I be jealous, when I can get angry.

How many Ferraris can your giga-billionaire put in how many garages of how many houses around the world?

One can only spend so much, so anything beyond that which is necessary to assure yourself and your family a comfortable life-style forever and ever is ... well, just greedy accumulation of capital.

It's like to boys in in a pissing contest seeing who can piss furthest. And equally utilitarian to society.

[improbable]

"I just came up with this: 38% of American families living below a more accurately drawn poverty line?"

And you came up with it from the average household size and the percentiles household income, on a blog post commenting on an article whose whole point is that those numbers are a little misleading? I smell irony.

The point, to repeat, is that those households aren't all 3.13 person families living exactly in equilibrium. Some sold a house last year, so earned much much more than they can spend. Some are single people who've gone back to study for a bit, so spend more than they earn.

Looking at what they spend, per person, is a way of avoiding this problem with income stats. And the answer is that annual income figures lead you to over-estimate inequality.

To put that another way: if everyone lived an almost identical middle-class existence, their annual incomes would still show substantial inequality, because some people sold a house, some people saved up and went back to school.

[Real Person from the Real World]

I live in an older, but well2do US suburb. I have a masters, and I can barely make ends meet working for a 3rd world entrepreneur. My house is very modest, in my area. I work with a sales person in a two income family. Husband is well paid but seasonal. She has some college. They are big spenders, and hobnob with even bigger spenders. They make more money and they also have trouble making ends meet. Well educated or not, living in affluent areas, big spenders or not, the middle class is in trouble. I think the economy needs to emphasize fewer jobs with casino incomes, like some sales jobs, in favor of jobs that actually do something besides sell things to companies and people already overwhelmed with sales. Ideally, economics says some should fall off, and go into the void, but reality is, that no one likes to disappear, so you have all this fancy innovation or paybacks under the table, or the network of hindi-speaking buddies to get you in where you ain't suppose to. We need real jobs that actually mean something. No, I am not saying salesmen/women are bad, just that we need a better balance of sales to other types of jobs, and more realistic prices on goods and services, not a greed take all attitude.

[Steve Roth]

So here's a question: does inequality promote or prevent economic growth and prosperity? For wealth inequality (the most significant and consistent of the three), it looks like it correlates with less growth in the short term, more growth in the long term:

http://trueconservative.typepad.com/trueconservative/2008/02/wealth-equality.html