Is higher inequality the price America pays for faster growth?
THINK ABOUT income inequality in America and some archetypes easily come to mind. Start with a rich corporate lawyer, earning above the roughly $1m annual income (before taxes and transfers) that places a household in the top 1% of earners. At the other end of the scale, in the bottom 20%, a single mother with a fast-food job might have an income of $25,000. Between them, a home with a mechanic and a part-time teaching assistant might have annual earnings of $80,000, around the median.
The skew towards the top is sharp. America ranks as the most unequal big rich-world country (see chart). Combined with lower average incomes elsewhere, the pay of America’s top workers looks astonishing to European eyes. For comparison, it takes the equivalent of a mere $250,000 or so to enter the top 1% of two-person households in Britain.
It would be natural to conclude that high inequality is merely the flipside of America’s wealth. That is probably true to an extent. Yet America has grown more redistributive over the period examined by this special report, expanding the earned-income tax credit, a wage top-up for low earners, in the 1990s, and subsidies for health insurance in the 2010s. And it is not clear that tolerance for inequality is powering its economic outperformance over the past decade.
Take the corporate lawyer. Even after taxes and transfers, the average real income of households like his grew by 110% from 1990 to 2019, according to the Congressional Budget Office (CBO). But most of that growth took place early in the time period: in 2019 he was probably doing worse than his equivalent in 2007, before the global financial crisis.
By contrast incomes in the lowest 20% of households, in which the fast-food worker resides, surged in the tight labour market of the late-2010s. By 2019 she was enjoying after-tax-and-transfer household income 25% higher than those like her in 2007, in part thanks to “Obamacare”. Even over the full period since 1990, the bottom quintile’s after-tax-and-transfer income growth was 77%, the same as for the highest quintile—thus, excluding the highest-earning 1% from the top 20% would show the poor enjoying faster income growth than the upper-middle-class. In the 2020s the burger-flipper probably had a boost from the tight post-pandemic labour market, which lifted wage growth the most at the bottom end of the income distribution.
It is the mechanic and teaching assistant in the middle who have the best claim to having missed the party: median real income rose by 57% from 1990 to 2019. But that is still a healthy 1.6% per year—a far cry from the stagnation in median earnings that is sometimes alleged, based in part on an inflation index, the CPI, which is biased upwards.
Some argue that things are different. The CBO numbers are in the middle of the range of income-inequality estimates. Calculations by economists Thomas Piketty, Emmanuel Saez and Gabriel Zucman show a rise in after-tax-and-transfer inequality that is sharper, while those by Gerald Auten and David Splinter, published in July in the Journal of Political Economy, show a much smaller increase (see chart). Income inequality is also only one type of inequality: nobody disputes that wealth inequality has risen this century (even if most estimates wrongly ignore the value of the single mother’s future entitlement to social security payments in old age). America faces other social problems which can exacerbate a sense of inequality.
The striking thing is how little these problems seem to have exacted an economic toll. Once inequality reaches very high levels, rent-seeking by elites imperils economic growth. America’s experience suggests that it remains on the right side of this threshold. ■