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Saturday, June 24, 2006

The Costs of Inequality and the Opportunity Cost of Policy Choices

From the NY Times Economic View, the economic and human costs of income inequality followed by Gene Sperling on the opportunity cost of tax cuts and spending on the war:

Income Inequality, and Its Cost by Anna Bernasek, Economic View, NY Times: Inequality has always been part of the American economy, but the gap between the rich and the poor has recently been widening at an alarming rate. ... The social and political repercussions of this disparity have been widely debated, but what about the effects on the economy?

Oddly, despite its position in the political debate, the question has received little attention from economists. Mostly, they have focused on measuring income inequality and establishing its causes. Some research has been done, however, and the results, including insights from related disciplines like psychology and political science, are disturbing.

Start with recent findings in the field of public health. Some scientists believe that growing inequality leads to more health problems in the overall population — a situation that can reduce workers' efficiency and increase national spending on health, diverting resources away from productive endeavors like saving and investment.

Sir Michael Marmot, a professor of epidemiology and public health at University College London ..., has spent most of his career studying the link between inequality and health around the world. In a much-publicized paper ..., Sir Michael and three colleagues ... found that at various points throughout the social hierarchy, there was more illness in the United States than in Britain. Sir Michael theorizes that a reason for the disparity was the greater inequalities in the United States and heavier stresses resulting from them.

Other researchers have focused on how income inequality can breed corruption. That may be especially true in democracies, where wealth and political power can be more easily exchanged, according to a study of 129 countries by Jong-Sung You, a graduate student at ... Harvard, and Sanjeev Khagram, a professor ... at the University of Washington... Corruption, of course, can hurt growth by reducing the efficient allocation of public and private resources and by distorting investment. ...

Unchecked inequality may also tend to create still more inequality. Edward L. Glaeser ... of ... Harvard, argues that as the rich become richer and acquire greater political influence, they may support policies that make themselves even wealthier at the expense of others. ...

In the United States, there is plenty of evidence that this has been occurring. Bush administration policies that have already reduced the estate tax and cut the top income and capital gains tax rates benefit the well-to-do. It seems hardly an accident that the gap between rich and poor has widened.

There may be other ways in which growing inequality hurts the economy. Steven Pressman, professor of economics at Monmouth University ...[says] "If a C.E.O.'s salary is going through the roof and workers are getting pay cuts, what will happen?" he said. "Workers ... need to work — but they can [protest] by working less hard and not caring about the quality of what they are producing. Then the whole efficiency of the firm is affected."

The effects of income inequality aren't entirely negative. Without some inequality, there would be little economic incentive to earn more. And some researchers, particularly advocates of supply-side theories, predict that as the rich get richer, their increased wealth will be used for greater savings and investment, thereby bolstering growth. The latest data on the American economy, though, do not seem to support this prediction.

Savings among top income earners have actually declined. ... And this was during a period when President Bush cut top marginal income tax rates and taxes on capital gains and dividends. The trend of growing income inequality may eventually be reversed, but at the moment, current policies appear to be worsening the situation. ...

Gene Sperling assesses the cost of the $330 billion in tax cuts, the $320 billion spent on the war in Iraq so far, and other policies by looking at what we have given up in spending hundreds of billions of dollars in pursuit of these policies:

How Else Would You Spend $320 Billion?, by Gene Sperling, Sunday Outlook, Washington Post: ...Unfortunately, when it comes to the most expensive choices our nation faces -- highlighted most recently by the growing cost of the war in Iraq, but also by tax cuts... -- we have made many spending decisions ... with little regard for the possible tradeoffs.

For all the talk of how much government spending has increased, the reality is that for many policies that should top our agenda -- such as health insurance and preschool for low-income kids; funding for science and basic research; and port security -- we have decided that the money simply isn't there. ... [But] tax cuts will cost $330 billion... And ... the war in Iraq has cost $320 billion so far and is projected to reach $800 billion by 2016. Even if one solidly supports each of these policies, the lack of national debate over what ... the costs might mean for deficit reduction or other programs we have squeezed, or neglected, is striking.

War and security: The decision to go to war is not primarily a fiscal one. We should go to war when we have to, go it alone if we must, and pay whatever costs are necessary to protect ourselves. But that does not excuse us from understanding the tradeoffs that we have made by spending $320 billion on the war...

For $7 billion a year we could reverse the recent controversial homeland security cuts for cities such as New York, Washington and Boston, and create a $6 billion initiative to safeguard our public transportation systems. For $15 billion a year we could double the size of our Special Forces to 50,000, reset the Army's essential field equipment and fund 30,000 more peacekeepers to promote democracy and deny sanctuary to al-Qaeda in key fragile states. And for $3 billion a year, we could be the unquestioned champions of universal education for the 100 million children in poor nations who are not in school. This would show the developing world that we care about the health and economic well-being of all children...

Drug-bill costs and health care: When it became clear, belatedly, that the projected costs of the prescription drug bill had ballooned to $100 billion a year, shouldn't that have provoked questions about what even a small fraction of that money could have done if used elsewhere? For $5 billion we could create a system of refundable health insurance tax credits for small businesses, reducing health insurance costs for 13.3 million Americans. With an additional $15 billion a year, we could offer health insurance to nearly all of the 9 million American children who lack it.

Tax cuts and competitiveness: There is no question that the right type of tax cuts can help the economy. But with recent tax cuts scheduled to cost more than $300 billion a year -- with $100 billion of them going to the wealthy -- shouldn't we at least ponder what some of that money could do if put elsewhere? For instance, without altering the size of the tax cut one penny, but by just shifting a small portion of it, we could create tax incentives to encourage Americans with no pensions or meager resources in the bank to save more. Shifting $25 billion a year could cover the cost of creating portable 401(k) accounts for 50 million Americans in which they could receive as much as $1,000 in federal matching money every year.

Consider four other areas where, with less than 10 percent of the eventual tax cut -- meaning about $30 billion -- we could help our economic competitiveness.

Science: ...[F]unding for the National Institutes of Health -- the lifeblood for U.S. scientific research -- is scheduled to be cut in inflation-adjusted terms for the third consecutive year. Such cuts have led to reductions in grants, layoffs in research labs and declining morale. For an average of $7.5 billion a year, we could gradually increase NIH funding by 40 percent over the next four years, expand available grant money proportionately and keep scientists on the cutting edge.

Quality preschool: ...[F]federal cutbacks mean that there are fewer children enrolled in Head Start now than there were in 2002. For about $10 billion a year, we could offer quality preschool to all 3- and 4-year-olds from low-income families and expand what we do for those even younger.

Research and technology: Having helped spur the development of such U.S. technological achievements as the Internet, the personal computer, GPS technology and the algorithms that helped spawn Google, the Defense Advanced Research Projects Agency is a true success story. Yet we spend only $3 billion a year on it and its open-ended research, and there's some pressure now to de-emphasize basic research in favor of short-term projects. With an additional $5 billion a year we could double DARPA's budget and create an Energy DARPA to get us beyond our oil dependency.

Assistance for displaced workers: Virtually everyone agrees that we need to do more to help displaced workers. Yet recent initiatives have imposed such narrow, outdated restrictions that only 1,400 workers received help from a new wage insurance program in its first 15 months. There are no easy solutions for worker anxiety, but for $8 billion a year we could at least offer all displaced workers temporary health insurance and modest wage insurance.

The annual costs for all such programs are well below the costs to date of the Iraq war, or the projected cost of the drug plan or the tax cuts. ... Let's examine the tradeoffs and make sure we fund our greatest priorities.

    Posted by on Saturday, June 24, 2006 at 03:53 PM in Economics, Income Distribution | Permalink  TrackBack (0)  Comments (5)

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