Everything you know about inequality is wrong
This is the fourth response to an excerpt from Chrystia Freeland’s Plutocrats: The Rise of the New Global Super-Rich and the Fall of Everyone Else, published this week by Penguin Press. The first response can be read here, the second here, and the third here.
Plutocrats is a provocative, articulate summary of the income inequality crisis having spawned the 1% crowd that “pulls up the ladder” available to others. Honestly, I found myself wanting to read more, like a guilty pleasure. If only it all were true.
There is such broad consensus that income inequality exists that to suggest otherwise feels ridiculous (Please, no global warming analogies). For example, the Obama campaign emphasizes millionaires must pay their fair share. Research by academics
such as Piketty-Saez propose a top tax rate of 70 or even 80%.
Yet, it is surprisingly easy to find non-confirming evidence. For example:
- Most recent IRS data suggests income inequality is not a growing problem
- The 1%, 5% and 10% all do indeed pay their fair share, at least as compared to what they’ve paid for the past two decades
- For every anecdote of bad behavior by the 1%, there are many more counter examples of good, such as their pivotal role with respect to charities.
Media coverage typically compares income and tax data between 1979 and 2007. Indeed, income inequality looks like a growing problem based on it. On the other hand, consider the period from 1997 to 2009. Top 1% and 5% earners had a slightly shrinking share of AGI. That’s right, incomes actually have become more equal over the past 12 years. Alternatively, looking at a two-decade period, from 1988 to 2009, the top earners had a 10% increase in relative income, all which occurred by the year 1997.
A 10%, front-loaded increase in relative inequality over two decades does not seem worthy of all the hysteria. Of course, top incomes do tend to go up or down with stock market performance more so than for others. Why? One reason is that those at top have a much greater share of their investments in taxable accounts, because of the caps on 401-K and IRAs. For a middle class investor, typically much more of their investment income will be tax-protected and therefore not show up as AGI.
This also invalidates direct comparisons between today and the 1970s when 401-Ks and IRAs did not even exist. Changes in the tax code also invalidate such comparisons. Specifically, the tax code changed in 1986, triggering many businesses to report income as an S-corp rather than C-corp. That is, much of the apparent income inequality actually reflects a shift of business income reporting to individual tax returns after 1986.
At the same time, the progressivity of income taxes has actually increased. From 1988 to 2009, those at the top experienced a 33% increase in their relative share of taxes. This more than covered the 10% increase of their relative incomes noted above. Even under Bill Clinton’s higher marginal tax rates of 1997, the top income earners paid a smaller portion of the total tax bill than today.
One might ask, “What about those outrageous tax loopholes exploited by the likes of Warren Buffett?” The simple fact is that lower effective tax rates for the upper class is largely due to capital gains and dividends. What gets lost in the discussion is that these are both a double tax. In the case of Buffett, he owns roughly 25-30% of Berkshire Hathaway. Hence, their corporate tax hits his pocketbook directly, dollar for dollar. The upshot is that Buffett pays a total tax rate closer to 45%.
One can certainly debate whether the rich pay their fair share in absolute terms. However, IRS data suggests they certainly do compared to benchmarks of 10 or 20 years ago.
So, why is there all the outrage? Reactions to both Wall Street’s role in the 2008 worldwide recession and the Bernie Madoffs of the world have fueled much emotion. But a broader view is possible.
Consider the myriad non-profits that could not exist at nearly the same scale were it not for the large charitable donations and board leadership of successful business leaders. The blunt truth is that these organizations could not survive on just $5 or $10 donations. Big money makes it happen.
Misunderstanding these facts has disturbing consequences that raise the specter of class warfare. Much of the 99% is frustrated with rising income inequality; dismayed that the top earners do not pay their fair share; and, angry that it seems the top 1% are achieving success by not following the same set of rules. They have been told this over and over. Is it any wonder that they vilify business executives?
The bottom line: the American public has been duped. This is not to say we should ignore divergence of incomes or threats posed by globalization. But the tragedy is that these discussions are now clouded by ill-informed emotion. Sadly, we now live in a time when many view success with resentment or suspicion.
Now, consider who has been the chief spokesperson for this class warfare narrative? This goes a long way to explaining why many top income earners dislike Obama. Think how different the reaction might have been if his appeal had been along the lines of, “On average, your taxes have more than kept up with your income, you donate more than the typical citizen, and you run businesses that create jobs. You are patriots. Now, we are asking you to do just a little bit more for the good of the country”. Who knows?