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Saturday, October 16, 2010

"Income Inequality: Too Big to Ignore"

Robert Frank says rising inequlaity is "a bad thng," and that economists shouldn't be so reluctant to say so:

Income Inequality: Too Big to Ignore, by Robert Frank, Commentary, NY Times: ...During the ... last three decades..., all significant income growth has been concentrated at the top of the scale... Yet many economists are reluctant to confront rising income inequality directly, saying that whether this trend is good or bad requires a value judgment that is best left to philosophers. But that disclaimer rings hollow. Economics, after all, was founded by moral philosophers...
Adam Smith, the father of modern economics, was a professor of moral philosophy... “Wealth of Nations,”... was ... peppered with trenchant moral analysis. Some moral philosophers address inequality by invoking principles of justice and fairness. But because they have been unable to forge broad agreement about what these abstract principles mean in practice, they’ve made little progress. The more pragmatic cost-benefit approach favored by Smith has proved more fruitful, for it turns out that rising inequality has created enormous losses and few gains, even for its ostensible beneficiaries. ...
The rich have been spending more simply because they have so much extra money. Their spending shifts the frame of reference that shapes the demands of those ... below them... These cascades have made it substantially more expensive for middle-class families to achieve basic financial goals.
In a recent working paper based on census data for the 100 most populous counties in the United States, Adam Seth Levine..., Oege Dijk ... and I found that the counties where income inequality grew fastest also showed the biggest increases in symptoms of financial distress. ...
The middle-class squeeze has also reduced voters’ willingness to support even basic public services. Rich and poor alike endure crumbling roads, weak bridges, an unreliable rail system, and ... poorly maintained dams that could collapse at any moment.
Economists who say we should relegate questions about inequality to philosophers often advocate policies, like tax cuts for the wealthy, that increase inequality substantially. That greater inequality causes real harm is beyond doubt.
But are there offsetting benefits? There is no persuasive evidence that greater inequality bolsters economic growth or enhances anyone’s well-being. Yes, the rich can now buy bigger mansions... But this appears to have made them no happier. ...
In short, the economist’s cost-benefit approach — itself long an important arrow in the moral philosopher’s quiver — has much to say about the effects of rising inequality. We need not reach agreement on all philosophical principles of fairness to recognize that it has imposed considerable harm ... without generating significant offsetting benefits.
No one dares to argue that rising inequality is required in the name of fairness. So maybe we should just agree that it’s a bad thing — and try to do something about it.

According to this research, the political consequencs of widening inequality will make it more difficult to "do something about it":

A “one dollar, one vote” explanation of the welfare state, by Loukas Karabarbounis, Vox EU: Why do Europe and the US, both affluent regions, differ so much in the size of their welfare state? To answer this question, this column examines OECD countries between 1975 and 2001, finding that countries with wealthier rich- and middle-classes are associated with a smaller welfare state while those with a richer poor class are associated with a larger one – supporting the “one dollar, one vote” explanation. ...
In the one dollar, one vote equilibrium, when a group of voters becomes richer (relative to the mean), redistributive policies tilt closer to its most preferred size of redistribution. Thus, for instance, when the rich become even richer, redistribution decreases which is line with the preference of the rich because with a progressive system of taxes the rich are the ones who pay more taxes. On the other hand, when the poor become richer, redistribution increases which is in line with the preference of the poor because the poor are the ones who are more likely to benefit from increased social transfers like unemployment insurance and pensions.
The one dollar, one vote theory of the welfare state contrasts sharply with the widely used ‘‘one person, one vote’’ institution (where the median class is the decisive voter) and the ‘‘utilitarian’’ model of redistribution (where the government chooses redistribution to maximize a weighted average of citizen’s welfare). A natural explanation for the one dollar, one vote result is that political influence is not uniform across groups of voters and that political participation is increasing in income. Indeed,... I show that in all countries of the sample income is strongly correlated with various indices of political participation ranging from signing petitions to discussing politics with friends and from participating in demonstrations to becoming affiliated with political parties. Since money is associated with more power, income inequality has sharply different implications for redistribution than postulated by the median voter theory and the utilitarian model.
The one dollar, one vote result provides an explanation for the increasing difference in the size of the welfare state in Europe and the US. From 1980 to 2001, the growth of European redistribution exceeded the US by approximately 2.7%. According to my estimates, this may be because the European poor did not become relatively as poor as the American poor while the US increased redistribution relative to Europe because the American median voter became poorer. These two opposing effects cancelled each other off. However, the growth of the rich’s income relative to the mean in the US exceeded the growth of rich’s income relative to the mean in Europe. According to the one dollar, one vote theory of the welfare state, the faster growth of the rich's income in the US allowed the rich to increase its political influence and tilt policy closer to its most preferred redistribution which involves a smaller welfare state. As a result, the growth of redistribution in the US lagged Europe’s.

    Posted by on Saturday, October 16, 2010 at 06:02 PM in Economics, Income Distribution, Politics | Permalink  Comments (59)


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