Krugman vs Mankiw: The 80-20 Fallacy

Greg Mankiw says:

Lazear vs Krugman: CEA Chair Eddie Lazear in May 2006:

While there is no doubt that some people have been left behind, and that those left behind are certainly a major concern for all of us, there is some good news in this picture. The good new is that most of the inequality reflects an increase in returns to “investing in skills” – workers completing more school, getting more training, and acquiring new capabilities.

NY Times columnist Paul Krugman yesterday:

There's a persistent myth, perpetuated by economists who should know better -- like Edward Lazear, the chairman of the president's Council of Economic Advisers -- that rising inequality in the United States is mainly a matter of a rising gap between those with a lot of education and those without.

I am not sure what other "economists who should know better" Krugman is referring to. ... My understanding is that there is a widespread consensus that the returns to education have risen substantially over the past few decades...

I'll let Krugman speak for himself (this is familiar to many of you, so apologies for the rerun). Here's Paul Krugman on the 80-20 fallacy:

Graduates Versus Oligarchs, Rising Oligarchy, by Paul Krugman, Commentary, NY Times: Ben Bernanke's maiden Congressional testimony as chairman of the Federal Reserve was, everyone agrees, superb. ... But Mr. Bernanke did stumble at one point. Responding to a question ... about income inequality, he declared that "the most important factor" in rising inequality "is the rising skill premium, the increased return to education."

That's a fundamental misreading of what's happening.... What we're seeing isn't the rise of a fairly broad class of knowledge workers. Instead, we're seeing the rise of a narrow oligarchy: income and wealth are becoming increasingly concentrated in the hands of a small, privileged elite. I think of Mr. Bernanke's position ... as the 80-20 fallacy. It's the notion that the winners in our increasingly unequal society are a fairly large group ... the 20 percent or so of American workers who have the skills to take advantage of new technology and globalization...

The truth is quite different. Highly educated workers have done better than those with less education, but ... real earnings of college graduates actually fell more than 5 percent between 2000 and 2004. Over the longer stretch from 1975 to 2004 the average earnings of college graduates rose, but by less than 1 percent per year.

So who are the winners from rising inequality? ... A new research paper by Ian Dew-Becker and Robert Gordon ... gives the details. Between 1972 and 2001 the wage and salary income of Americans at the 90th percentile of the income distribution rose only ... about 1 percent per year. So being in the top 10 percent of the income distribution, like being a college graduate, wasn't a ticket to big income gains.

But income at the 99th percentile rose 87 percent; income at the 99.9th percentile rose 181 percent; and income at the 99.99th percentile rose 497 percent. No, that's not a misprint. Just to give you a sense of who we're talking about: ... the 99th percentile will correspond to an income of $402,306, and the 99.9th percentile to an income of $1,672,726. The ... 99.99th percentile [is] probably well over $6 million a year. ...

The notion that it's all about returns to education suggests that nobody is to blame for rising inequality, that it's just a case of supply and demand at work. And it also suggests that the way to mitigate inequality is to improve our educational system — and better education is a value to which just about every politician in America pays at least lip service.

The idea that we have a rising oligarchy is much more disturbing. It suggests that the growth of inequality may have as much to do with power relations as it does with market forces. Unfortunately, that's the real story.

Should we be worried about the increasingly oligarchic nature of American society? Yes ... Both history and modern experience tell us that highly unequal societies also tend to be highly corrupt. ...

And I'm with Alan Greenspan, who ... has repeatedly warned that growing inequality poses a threat to "democratic society." It may take some time before we muster the political will to counter that threat. But the first step toward doing something about inequality is to abandon the 80-20 fallacy. It's time to face up to the fact that rising inequality is driven by the giant income gains of a tiny elite, not the modest gains of college graduates. [Link to Dew-Becker and Gordon paper]

Update: Krugman explains further, DeLong comments on Mankiw.