'Inequality and Redistribution during the Great Recession'

This Economic Policy Paper is from the June 2012 issue of the Minneapolis Fed's The Region. It examines how inequality changed during the Great Recession, and illustrates the value of government intervention (i.e. social insurance) to households in the bottom 20% of the income distribution (though keep this in mind):

Inequality and Redistribution during the Great Recession, by Fabrizio Perri - Consultant, and Joe Steinberg - Research Analyst: Introduction Although there is little doubt that the Great Recession constituted a watershed for overall business cycle dynamics in the United States, the jury is still out on its distributional consequences. Did economic inequality change significantly during the recession? If so, which dimensions—income earnings, wealth and consumption—saw the largest changes? And what impact did government policies, such as taxes and transfer programs, have over this time period on both inequality and economic well-being?

Analyses focused on the first two years of the downturn seem to find no increase in economic inequality; indeed, some report a decline. For example, a recent comprehensive volume (Jenkins et al. 2011) that analyzes income distribution in 21 Organisation for Economic Co-operation and Development (OECD) countries (including the United States) across the Great Recession sees “little change in household income distributions in the two years following the downturn.” Heathcote et al. (2010b) and Petev et al. (2011) study inequality in consumption expenditures in the United States up until 2009 and also find little change (if anything, they find a decline).

A longer-term view, however, suggests that high levels of unemployment and the large drop in housing prices, both of which started during the Great Recession but persisted well after, might have had longer-term adverse distributional consequences. In particular, the recession may have left a significant fraction of the U.S. population with very little wealth (due to the fall in asset prices) and poor labor market prospects (due to high unemployment).

The goal of this paper is to paint a more complete picture of the distributional impact of the Great Recession, including more recent data from 2010 and part of 2011. Most importantly, this paper considers inequality in a wide array of variables, such as earnings, disposable income, consumption expenditures and wealth, and looks at inequality for all of these variables at different sections of the economic distribution.

Our first finding is that during and after the Great Recession, the bottom of the U.S. earnings distribution has fallen dramatically. This is the result of historically high unemployment and nonparticipation. In terms of earnings, the bottom 20 percent of the U.S. population has never done so poorly, relative to the median, during the whole postwar period. We also show that this group experienced rapidly declining wealth.

Despite this, we find that inequality in disposable income and consumption did not increase at either the top or bottom of the distribution, confirming the findings of other studies. In other words, the same bottom 20 percent of the earnings distribution that fared so poorly during the Great Recession in terms of earnings and wealth is in pretty much the same relative position in terms of disposable income and consumption in 2010, after the recession officially ended, as it was in 2006, before the start of the recession.

Such a divergence of trends in earnings and disposable income at the bottom of the distribution is unprecedented in U.S. history, and we show that it is mainly due to government transfers and taxes, as opposed to private components of unearned income.

We conclude our study using panel analysis (i.e., following a specific set of households through time) to better assess the role of government taxes and transfers. This allows us to distinguish between the experience of a given section of the income distribution (e.g., the bottom 20 percent of the distribution, whose members change each period) and the experience of a fixed group of households (e.g., those households that were at the bottom 20 percent of the distribution in 2006 but whose position may have changed by 2010. If the “Smiths,” say, were in the bottom fifth in 2006, we use panel analysis to understand where the Smiths ended up later on).

Our main finding is that although the bottom 20 percent of the earnings distribution experienced constant disposable income or consumption expenditures despite earnings losses, individual households that face earnings losses and enter the bottom 20 percent group do suffer significant losses in disposable income and small losses in consumption.

Our main substantive conclusion is that government redistribution in the Great Recession was at historical highs and partially shielded households from experiencing large declines in disposable income and consumption expenditures. The same households, though, have experienced losses in net wealth, and this might make them more vulnerable to further or more persistent earnings declines in the future.

We believe our analysis provides useful data to inform the policy debate about whether or not, looking forward, the government should take a more aggressive role in providing assistance for households that experience earnings losses. ...