Saturday, October 09, 2010

Changes in Income Inequality

In case you haven't heard the news, income inequality is growing. Also when polled, Americans grossly underestimate how unequal it is. My initial response is that this is the trade off between capitalism and socialism. The pie gets bigger, but a larger percentage of the increase goes to the already wealthy. However,  it's important to note that because income is reported through taxation, and tax rates have decreased in the last 30 years, that the data may be exaggerated. It's also important to remember that high tax rates do inhibit economic growth. That's not to say taxes are total losses. Here's a great NPR story about a hard working single mother, and millions like her, use transfer payments (Medicaid, welfare, food stamps, etc) to meet their needs and in the long run create more overall economic production (because of human capital improvements). Surprising however, we find that inequality can actually cause the poor to support policy that allows for more inequality. Either way, economic freedom will create more wealth, but even small difference in skills can create huge differences in wealth.

Another important thing to understand is that global income inequality is shrinking. It's often phrased that "America’s dominance of global wealth is slipping", which is technically true. But a more accurate way to put it, as Hans Rosling does, is that the last 200 years has seen the biggest increase in global wealth and the last 50 years has seen the biggest equalization in global wealth (and will most likely continue to do so). Income equality is an important issue. Fairness does matter. But the fact remains that capitalism has been shown to be the best way to end poverty and extend life. It's also important to remember that even if the top tier is gaining more (which can cause problems of its own), small changes in income of the bottom tier can have much larger impacts on overall satisfaction.

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