Government can reduce inequality, but chooses not to
This essay is a response to the Reuters special report The Unequal State of America.
Income inequality is a difficult story to get your arms around, and I think Reuters has done a splendid job. I was particularly intrigued to read about the hollowing out of middle-class jobs within the federal government in D.C. I wasn’t aware that the government had so thoroughly followed the private sector’s lead in this regard.
It is important to acknowledge that while government has played an enormous role in creating the trend toward growing income inequality in the U.S., surprisingly little of that role has involved the most obvious ways government affects income distribution, i.e., taxes and benefits. Overall, the federal government redistributes about one-quarter less today than it did in 1979. But the inequality trend is more pronounced when you look at changes in income before taxes and benefits are taken into account. For example, the share of the nation’s income going to the top 1 percent of households more than doubled from 1979 to 2008. For years economists concluded that such findings meant that income inequality was market-driven. But they failed to ask whether government policies might be shaping the course of the market.
Today, economists and political scientists tend to agree that government was a factor in this story, but they have an incomplete picture of precisely how government drove this wedge. Financial deregulation certainly played a central role. So did the decline of private-sector labor unions, which was largely driven by government policies, starting as early as the late 1940s and reaching a moment of maximum impact in the 1980s. After the Great Inflation of the 1970s, the Federal Reserve started placing more emphasis on inflation fighting than on job creation in setting monetary policy. The rise of corporate lobbying during the 1970s and 1980s helped steer government policies toward the interests of the rich. The failure to keep the minimum wage rising in real terms probably exacerbated the problem, too.
The final installment of your series, “The Undeserving Poor,” is heart-wrenching, and poverty is an enormous, under-covered story. But over the past three decades poverty has had very little to do with growing income inequality. We have seen a spike in poverty since the 2008 financial crisis, but before that the relationship between incomes at the bottom and incomes at the middle had not changed much since 1979. It was rotten to be poor in 1979 and it remained rotten to be poor in 2008, but there is little evidence to suggest it was significantly more rotten — even after welfare reform put time limits on cash assistance — until the bottom fell out of the economy four years ago.
It was not rotten to be middle class in 1979. From the early 1930s through the early 1970s, income gains for the middle class matched or exceeded those for the rich. Incomes became more equal. Then, starting in the 1980s, middle-class income stagnated, rising far less rapidly than it had in the postwar years, far less rapidly than incomes for the affluent and sometimes — for instance, during the past dozen years — not rising at all (indeed, declining slightly). During the same period, incomes at the very top — the top 1 percent, but especially the top 0.1 percent and the top 0.01 percent — grew much more quickly than all incomes below these levels. These are the two threads of the Great Divergence — the gap between middle class people and the affluent, and the gap between the super-rich and everybody else. These trends must be reversed.