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Fixing Income Inequality

There’s no doubt that income inequality is finally getting the attention it deserves.  President Barack Obama assailed it in his second inaugural address saying we can’t succeed “When a shrinking few do very well and a growing many barely make it.” Ben Bernanke decried inequality for “creating two societies.” Pope Francis famously tweeted his opinion.  Even Goldman Sachs CEO Lloyd Blankfein called for “some redistribution” to create a stable and just society. But for all the talk, not much is happening.  Why is that?

It turns out that the solutions to income inequality are difficult and rather long-term.  There are also signs that the population really doesn’t care yet, meaning there is no pressure on our leadership.  But there are a few things that we can do to start improving income distribution and create genuine opportunity today.

It’s a Barataria tradition to not complain without offering solutions.  Don’t like these?  Please suggest your own!

income-inequalityProposed solutions to income inequality typically look at improved development in the working population and thus more equality.  A greater emphasis on education is credited with Brazil’s improvements, for example, as well as how we lifted ourselves out of the worst deprivation of the late 19th century.  The long slide since 1968 is taken as a sign we haven’t been investing enough in education.  This is very much the most popularly suggested solution for fighting income equality around the world, especially in developing nations where this is obviously a problem.  Calls for more and continuous education are common here in the US for the same reason.

But this is probably not the problem we have.

SFFedIncomeIneqThe Federal Reserve of San Francisco published a detailed study in 2007 that included some interesting findings.  In particular, they included this interesting chart that shows the ratio of share of income brought home by the 50th percentile (those in the very middle) divided by the share by those right at 20% (the edge of poverty).  That didn’t change over time.  But the ratio of income brought in by the 95th percentile divided by the median changed dramatically and consistently as long as there has been a problem.

This tells us that the issue is a concentration at the very top, not a growing disparity at all levels.  It also shows how stable this trend has been for a very long time.  Working class people have not been stealing relative shares from each other – the disparity comes from higher pay to executives and higher returns from investments over work.

So what should be done about it?  These are my solutions based on this particular data:

  • Tax executive pay heavily.  If a company really wants to pay its CEOs and VPs millions of dollars, nothing short of a shareholder revolt will stop them.  Encouraging shareholders to take action is also a good idea as well.
  • Tax all income evenly.  FICA taxes take out 7.62% of the first $110k of income, starting with the first dollar.  Income should all be treated equally if we are going to reduce inequality.
  • Reduce employee overhead.  This has been my proposal for creating jobs for a long time, but it can also be very useful for reducing inequity.
  • Implement a tax on stock trades.  A good idea for many reasons, but income equality is an important one.
  • Encourage unions in new fields.  It’s going to be tough to unionize contract employees, but if we are moving to a more artisan-like economy it’s going to be essential.  This was a key feature of the Renaissance, the period when the modern middle class started to rise in income and influence.
  • Encourage savings of all kinds.  The 401(k) model of deferred taxation could be used broadly to encourage everyone to save money in good times and develop their own cushion to encourage resiliency generally.  This means taxing not income but spending for each household, or giving a deduction based on the amount put into any savings account for any reason.

Are these ideas going to improve things right away?  They will all take time, especially the provisions that rely on tax policy.  But that is the only tool our government has at its disposal to influence anything in the economy.  Short of directly taking money for “transfer payments”, which is to say obvious socialism, it’s hard to imagine reducing this decades long trend quickly.

However, we can and should get started today.  Reducing income inequality is very important and needs to be addressed.  This is well understood by nearly everyone at this time.  It’s a matter of doing something about it.

What are your ideas?

24 thoughts on “Fixing Income Inequality

  1. I never thought answering this would be so hard. For one I am going to take a new approach. I might stress equality of autonomy. 3 weeks standard vacation with pay. Card checks for unions across industries so employers can get back to competing with each other on a level playing field.

    • It is a hard topic. I don’t think that you can legislate away problems that are deep in the culture, and given how people really don’t care about this topic it’s not going to go away. We can help on the margins, and we should do what we can, but the big problem is one of culture and attitude, IMHO.

  2. Health care, you have to include that. Not only would taxpayer funded health care take away the biggest ’employee overhead’, it would free up people who are stuck in a job only because they need the insurance. Some of this will be fixed with Obamacare but the more the better. Besides, we spend way too much on this now & a lot of that money is coming from working people who are getting squeezed.

    • Yes, that would be the best way to reduce employee overhead! I can think of a few pieces I didn’t link to inside of this one, and one of them was on the idea that there is a basic overhead of life. Health care is part of that. How employers got stuck with that tab is mind blowing.

  3. I would also delink teacher’s healthcare and retirement costs from education funding. Have the teacher’s in a bigger pool with perhaps other govt. workers or perhaps with ordinary citizens so we can more accurately gauge the cost of education across districts.

  4. Short of absolute socialism, I don’t think there is much you can do. Making all savings tax-free is interesting and I have to think about it and I’m glad you included it this time but wow – that would be a big change.

    • I was thinking about talking about socialism (transfer payments! That’s the new word!) but left that out. We’re accused of that enough without it being real. 🙂

  5. With all the solutions around taxation, just don’t make things more complicated. You can do all of that with a flat tax as we talked about before. A stock trade tax might be a good replacement for business taxes if you want to make things simpler.

    • Absolutely not. Flat taxes are regressive. The poor are taxed more heavily than the rich. Therefore, they are inequitable. A progressive tax could be very simple. Just eliminate deductions and exemptions and preferential treatment for specific groups (e. g., capital gains, earned income tax credits, marriage penalty, etc.). Have the IRS publish an Excel template (make it available in public libraries, downloadable) that would make it easy–enter your income, your W-2, 1099 numbers and the template calculates your taxes, just like that. Forget about stock trade taxes, sales taxes, excise taxes and all other flat taxes. All of this stuff is too easily to manipulate to the advantage of one class or another. Even FICA taxes are a bad idea for this reason and for other reasons.

      If you want to encourage savings, just institute a consumption tax. Use the same 1040 E-Z form, except deduct savings (bank savings, not stocks or bonds or options) from income and tax the remainder according to the tax schedule. Cornell Robert Frank has written about this elsewhere.

      There are solutions that are equitable, efficient, effective and enforceable (the four E’s of taxation) and, if implemented, painless because they affect everyone equally (e. g., eliminating the mortgage interest deduction would change everyone’s wealth at the same time).

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  7. This problem took a long time to become serious and will take a long time to solve. A couple of comments about your proposals:

    First, I am skeptical about the potential for shareholder activism. The deck is stacked against shareholders, especially small shareholders, in part because management controls the information that shareholders have and in part because of the structure of shareholding voting procedures (a very big part).

    Second, the proposal to remove the limit on FICA taxes is sound, Flat taxes are regressive (the argument is not particularly complex, but has eluded the simple-minded completely) and, given the ubiquity of Excel, no simpler in execution than a progressive schedule. That includes FICA-social security and FICA medicare, whether we remove the limit or not. I propose eliminating it on all incomes less than $40,000 per year, if we have to have it at all.

    Third, taxing the wealthy heavily is also a good idea. Marginal income is worth less to the earner and should be taxed more heavily than the dollars we pay for food, shelter (not including the 40,000+ sf – number chosen arbitrarily to represent “excessive” – mansions some people occupy). The data is unequivocal in supporting the narrative that higher marginal tax rates don’t inhibit GNP growth.

    Fourth, eliminate business taxes. This obviates the argument that taxes inhibit business growth and eliminates one obstacle to companies repatriating foreign earnings. It also redirects resources away from lobbying for tax breaks and pursuing tax minimization strategies. It simplifies economic analysis of US projects. There are other reasons. Business taxes are about 18% of tax revenues and have been that ratio for at least 30 years (+/- 2 percentage points). This amount can be compensated for by raising individual tax rates and eliminating all deductions, including charitable deductions.

    Fifth, tax estates aggressively. Tax them as ordinary income to the heirs, using the same rates schedule as the ordinary income tax.

    Sixth, eliminate all tax deductions and require electronic filing and payment. Provide free assistance for those who need it.

    Seventh, eliminate preferred rates for so-called capital gains. Buying stock in the secondary market is not investing in economic terms. It’s merely moving one pile of money to another pile of money. The primary difference is liquidity, although that difference grows smaller as time passes (or marches on, depending on how you view the pace of time change). In other words, tax capital gains, dividends and interest income as ordinary income. That’s what they are. This will not hurt capital formation one iota. There is no evidence that it would.

    Means test social security and medicare/medicaid. Eliminate social security payments to individuals who earn more than, say $75,000 annually (couples $150,000) from all other sources of income. Or, reduce SS payments gradually as other income is larger (the better alternative).

    The fundamental principle to invoke in determining a tax administration/regime/code is, “no regressive or flat taxes and no deductions or exemptions or special status for any particular group of people”. A progressive rate schedule is as simple as a flat rate, practically speaking. A progressive schedule could have as few as 4-5 rates (and corresponding income levels), but, a more gradual schedule with more rates would be fairer. You could just use Excel to calculate your taxes using a template that is downloadable from the IRS website. In the end, gathering revenue for the federal and state governments would be effective (enough revenues), efficient (minimal cost of raising revenues), equitable (treats all classes of people equally) and enforceable (everyone pays and it’s very hard to avoid paying your share).

    • Thank you for your additions. Yes, this will take us a long time to work out of.
      I agree on shareholder activism, but there have to be ways to build a stronger tradition. Executive pay is way out of line by any measure, and over the long haul there is no way to fix it other than a better balance of power between shareholders and board. Exactly what should be done? I don’t know, but if I was in some kind of power I’d sure ask a lot of questions in this area.
      I think we agree on the rest – tax all income equally but progressively and a lot of this will work out over the very long haul.

      • your welcome. yes. the executive pay issue in the U. S. is huge. That’s why we need to tax incomes above fairly low levels very aggressively. In 1954, the top rate was 90% on income above $3,000,000. There were about 15 tax brackets. GNP growth was strong. In fact, from 1946 until 1980, the top tax rate was above 50%. The great Kennedy tax cut of 1961 reduced the top rate from 90% to 70% and was an important factor in the bull market of 1961-1964 and the recovery of this same period. Emmanuel Saez, of Piketty and Saez, the authors of the study that pointed out the severity of income inequality, said in an interview with Boston Review (about a month ago) that, although tax policy is a “blunt instrument” (with which I agree), it would be very effective in compressing incomes. Remember the Roosevelt-Truman-Eisenhower-Kennedy-Johnson presidencies era is often referred to as the Great Compression because the income and wealth disparities of the Gilded Age (a little less than right now) were compressed to reflect disparities found in Europe and Japan (where the CEO salary averages 7.5 times the average worker salary vs. 350 times (I don’t recall the actual number, but it’s in this range) the average worker salary in the U. S.).

        We’re on the same page, clearly. See my first 4 posts at keengrasp.wordpress.com. I’ve looked at the numbers (not included in my posts, though) and it’s doable and would start the compression again and promote economic growth.

      • I reread the first paragraph of your post. Regarding your point about even Lloyd Blankfein calling for some redistribution: it reminded me that H & M, a Swedish company and one of the largest clothing retailers in the world has tried for 2-3 years to enlist other retailers in a consortium that would require minimum safety standards, minimum wage rates, reduction of child labor in the workforce and limitations on work hours at their vendor factories in Bangladesh (among other places). Until the recent disaster/tragedy, they had little success.

        Do we need an armed insurrection? I think not, but, fortunately, the tragedy of inequality in the U. S. is not as acute the tragedy of Bangladesh. But, it is chronic and, long-term, debilitating for all, even the “top 0.1%” (about 15,000 people). Thanks for your continuation of this conversation. It’s crucial to the future well-being of this nation and its population.

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