Is the rise of inequality inevitable? Today’s inaugural World Inequality Report shows that income inequality has increased in nearly every country around the world since 1980 – but at very different speeds.
Comparing the divergent paths of the United States and western Europe, for example, we see that it is possible for institutions and policymakers to tame the unequalising forces of globalisation and technological change. And it is also possible to unleash those forces with renewed vigour, as in the case of the latest US tax plan.
In 1980, both sides of the Atlantic showed similar levels of inequality. Since then, however, the gap between the richest and the rest has surged in the US, while in western Europe it has increased only moderately.
In both regions, the top 1% of adults earned about 10% of national income in 1980. Today that cohort’s share has risen modestly to 12% in western Europe, but dramatically to 20% of all income in the US. The good times have rolled especially fast for those at the very top in the US, with annual income booming by 205% since 1980 for the top 1%, and by 636% for the top 0.001%.
But this boomtime at the very top has not benefited the rest of the American population in any measurable way. The average annual wage of the bottom 50% has stagnated since 1980 at about US$16,000 per adult (after adjusting for inflation and before taking into account taxes and transfers). It’s a tale of two countries: the top half has been growing at roughly the same rate as China, while for the 117 million American adults in the bottom 50%, income growth has been nonexistent for a generation. In western Europe, by contrast, incomes of the bottom half have matched overall economic growth over the last quarter of a century.
What explains this dramatic divergence? The US has experienced a perfect storm of radical policy changes which have all contributed to this surge in inequality. The tax system, which used to be progressive, has become much less so over time. The federal minimum wage has collapsed, unions have been weakened and access to higher education has become increasingly unequal. At the same time, deregulation in the finance industry and overly protective patent laws have contributed to booms on Wall Street and in the healthcare sector, which now makes up 20% of national income.
These forces led to an upsurge in wage inequality in the 1980s and 90s which did, admittedly, stabilise at the beginning of this century. Since then, though, the growing importance of income derived from capital – and the growing concentration of wealth – have been key drivers of inequality. The rich are getting older, and a growing chunk of their income comes from passive capital ownership rather than active work. It’s a second Gilded Age.
The tax bill just passed by the US Senate will not only reinforce this trend, it will turbocharge inequality in America. Presented as a tax cut for workers and job-creating entrepreneurs, it is instead a giant cut for those with capital and inherited wealth. It’s a bill that rewards the past, not the future.
Critically, the bill massively cuts corporate income taxes, mainly by reducing the corporate tax rate from 35% to 20%. Whatever one believes about the long-term effects of cutting corporate taxes, it is clear that in the short and medium term, the cut overwhelmingly benefits shareholders who can reap their additional profits without any extra work. The bill also reduces the estate tax (and even eliminates it in the version of the bill approved by the House of Representatives), and reduces income tax rates for business income that largely accrues to the top 1%. This tax plan makes the US look more and more like a rentier society.
Meanwhile, the tax systems of continental Europe have also become less progressive since the 1980s – but at a much less dramatic rate. Wage inequality has been moderated by educational and wage-setting policies that are relatively more favourable to low- and middle-income groups. Western Europe is not homogenous, of course: in the UK, income inequality has increased more than in a country such as France. But among advanced economies, the US is the great outlier.
But here’s the good news: just as policymakers in the US have made the distribution of income there less equal, they also have the power to make economic growth more equal again. Given the stagnant wages among the bottom 50% since the 1980s, we argue that governments should focus on how to create a fairer distribution of human capital, financial capital and bargaining power – rather than limiting themselves to the redistribution of national income after taxes.
This will involve improving access to education (which may require major changes in how schools are financed and how school admission is organised); reforming labour market institutions to boost workers’ bargaining power; raising the minimum wage; changing corporate governance to give workers a greater say in how profits are distributed; and making tax systems more progressive.
Many observers have been quick to blame globalisation, China and technology for the stagnation of working-class wages in the US. But the global data presented in our report offers a fuller picture. The US has run a unique experiment since the 1980s – and the results have been uniquely disastrous. Bad policy can have a real impact on millions of lives, for decades. But what governments have done, they can still undo.
Report: World’s richest 0.1% have boosted wealth by as much as poorest half