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Income Inequality: Too Big to Ignore
October 24, 2010 1:43 AM

Robert Frank, over at the NY Times, wrote a column recently in all its gory detail outlining how large the income disparity in this country has grown in the past few decades. It's actually quite stunning:

During the three decades after World War II, incomes in the United States rose rapidly and at about the same rate -- almost 3 percent a year -- for people at all income levels. America had an economically vibrant middle class. Roads and bridges were well maintained, and impressive new infrastructure was being built. People were optimistic.

By contrast, during the last three decades the economy has grown much more slowly, and our infrastructure has fallen into grave disrepair. Most troubling, all significant income growth has been concentrated at the top of the scale. The share of total income going to the top 1 percent of earners, which stood at 8.9 percent in 1976, rose to 23.5 percent by 2007, but during the same period, the average inflation-adjusted hourly wage declined by more than 7 percent.

Frank, who is a well-known economist, then goes on to tell us why this income disparity is incredibly unhealthy for our country:

Many economists are reluctant to confront rising income inequality directly, saying that whether this trend is good or bad requires a value judgment that is best left to philosophers. But that disclaimer rings hollow. Economics, after all, was founded by moral philosophers, and links between the disciplines remain strong. So economists are well positioned to address this question, and the answer is very clear.

Adam Smith, the father of modern economics, was a professor of moral philosophy at the University of Glasgow. His first book, "A Theory of Moral Sentiments," was published more than 25 years before his celebrated "Wealth of Nations," which was itself peppered with trenchant moral analysis.

Some moral philosophers address inequality by invoking principles of justice and fairness. But because they have been unable to forge broad agreement about what these abstract principles mean in practice, they've made little progress. The more pragmatic cost-benefit approach favored by Smith has proved more fruitful, for it turns out that rising inequality has created enormous losses and few gains, even for its ostensible beneficiaries.

Frank continues:

People do not exist in a social vacuum. Community norms define clear expectations about what people should spend on interview suits and birthday parties. Rising inequality has thus spawned a multitude of "expenditure cascades," whose first step is increased spending by top earners.

The rich have been spending more simply because they have so much extra money. Their spending shifts the frame of reference that shapes the demands of those just below them, who travel in overlapping social circles. So this second group, too, spends more, which shifts the frame of reference for the group just below it, and so on, all the way down the income ladder. These cascades have made it substantially more expensive for middle-class families to achieve basic financial goals.

He cites research conducted my himself and a colleague that shows quite clearly that communities with the greatest income disparity suffer the greatest financial stresses:

For example, even after controlling for other factors, these counties had the largest increases in bankruptcy filings.

Divorce rates are another reliable indicator of financial distress, as marriage counselors report that a high proportion of couples they see are experiencing significant financial problems. The counties with the biggest increases in inequality also reported the largest increases in divorce rates.

Another footprint of financial distress is long commute times, because families who are short on cash often try to make ends meet by moving to where housing is cheaper -- in many cases, farther from work. The counties where long commute times had grown the most were again those with the largest increases in inequality.

It's quite clear that this country is set on an unsustainable path and unless we find a way to reduce this unhealthy gap between the rich and the poor, this story will not have a happy ending.

In short, the economist's cost-benefit approach -- itself long an important arrow in the moral philosopher's quiver -- has much to say about the effects of rising inequality. We need not reach agreement on all philosophical principles of fairness to recognize that it has imposed considerable harm across the income scale without generating significant offsetting benefits.

No one dares to argue that rising inequality is required in the name of fairness. So maybe we should just agree that it's a bad thing -- and try to do something about it.

Unfortunately, it's extremely difficult to see what this "something" will be, especially since the country is about to elect the same officials who espoused this radical shift of income from the poor to the rich. Since we are a nation that is reactive vs. proactive, it's hard to see a way out of this conundrum short of some major calamity that leads to radical change.

Are we really going to wait for that to happen? Or can we get our act together before the revolution begins?

post-script: This essay, entitled, "Who Rules America: Wealth, Income & Power," examines in greater detail this chasm between the wealthy and the rest of America. It's stunning.

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