Tag Archives: inequality

Commentary on the “The Road from Serfdom”

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Danielle Allen writes eloquently in the December issue of the Atlantic Monthly in the “The Road from Serfdom” about how too many Americans rightfully feel disenfranchised today and many of the reasons why they feel that way. Her description of how we got here is well worth the read. However, she misattributes the roles of economists (and lawyers) and errors in their recent prognostications on how economic progress would unfold.

Allen blames much of the current economic woes on the rise of economists in policymaking. She talks about how economists superseded lawyers in that role, implying that lawyers were somehow better connected to society. The real transformation happened several decades earlier when lawyers took over from the broader set of general citizenry. Just as she identifies how economists (of which I am one) are trained to think in one fashion, lawyers are similarly taught to think in another way that tends to focus on identifying constraints and relying on precedent. Lawyers are also taught that the available solutions require directives through laws and contentious conflict resolution. Lawyers are rarely instructed in how actual institutions work, contrary to Allen’s assertion–lawyers usually learn that as on-the-job training. In fact, it is economists who developed institutional economics that studies the role of such organizations. Economists arrived to propose solutions that could work through incentives and choice and negotiated solutions. So we traded one set of technocrats for another set. Perhaps we have not done well by either set, but we also should not ignore why we chose those professions guide us.

The mistakes that economists made were not as simplistic as Allen describes. She points to a claim that economists did not understand how disruption would impact specific communities and what two decades of disruption would look like in those communities. As contrary examples, I wrote here about how climate change will impact communities, and about how we need to compensate coal mining communities as part of our reductions in greenhouse gas emissions, and even the shaky foundations of benefit-cost analysis.  Instead economists did not foresee two important transformations since the 1970s. (Economists made a similar mistake after the fall of the Berlin Wall, failing to acknowledge that markets need well functioning institutions and laws to facilitate beneficial transactions.)  The first was that agglomeration of knowledge industries (technological and financial) would be so geographically intensive and that these industries would accrue so much wealth. The second was that Americans would become so much less mobile, both geographically and socially. There are many social and policy factors that have led to these trends, but these stories are much more complex than Allen describes. No one could have foreseen these unprecedented changes that have shattered the lives of too many people that have remained behind in communities emptied of economic purpose.

That said, identifying the rise of the ideologies of Nobel Prize winners Friedrich Hayek and Milton Friedman (who were economists) as a key source of our conundrum is accurate. Allen does not discuss the parallel rise of the fantasies of Ayn Rand that fueled the mythologies of Hayek and Friedman. Rand’s work was a surprising path for spreading those ideologies, particularly given how bad her writing was. We now have a core of elites who believe that they somehow are “self made” with no outside help and even overcoming the “parasites” of society. That will be a difficult self image to overcome.

Why increasing wealth concentration is bad for the U.S. economy

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A recent article in the New York Times by Dierdre McCloskey boldly states that the answer to income inequality is to allow unfettered growth through free market forces. Unfortunately, this thesis comes straight out of the anti-Communist 1950s. McCloskey puts up a strawman that proponents of addressing inequality directly want to redistribute all wealth via grabbing all assets of the wealthy. Her version of how the economy has worked, and the policy proposals to address inequality are incorrect.

As I posted previously, we’ve already run the experiment comparing the performance of a market-based economy (West Germany) to a centrally-planned socialist economy (East Germany), and the market-based more than doubled the output of the socialist one. That said, the past West German (and the current German) is a far cry from a “free market” economy. It was and is heavily regulated with substantial redistributive policies. No one is seriously advocating that the U.S. move to a Communist economy (at least not since the 1950s)–they are suggesting that the U.S. consider policies that could redistribute wealth to improve the welfare of almost everyone.

Increased inequality has been found to decrease economic growth, contrary to McCloskey’s implied assertion. Both the OECD and IMF found negative consequences from increased wealth in the top 20% of households. Other studies show that historic U.S. GDP growth has not been impeded by high marginal tax rates, either for individual or corporate taxes.

She also misses the real reason as to why inequality is a concern. She dismisses it as simple envy. But it’s really about relative political and economic power. The wealthy are able to exert more bargaining power in economic transactions, and their greater influence on the political process is well documented.

As a side note, McCloskey appears to grossly underestimating the share of wealth and income held by the wealthiest segment of U.S. society. Her calculation appears to assume that wealth is distributed evenly across all of the income quintiles (“If we took every dime from the top 20 percent of the income distribution and gave it to the bottom 80 percent, the bottom folk would be only 25 percent better off.”) In fact, a recent estimate by the Federal Reserve Board shows that the top 0.1% of U.S. households hold over 40% of the wealth. That means that redistributing the wealth of just 0.1% will lead to a 40% increase in the wealth of everyone else. I’m not advocating such a radical solution, but it does demonstrate the potential scale of redistributive policies. For example, redistributing just 25% of the wealth of the richest 1% could lead to a 10% increase in the wealth of the remaining 99.9%.

 

An answer to Brexit & Trump: Rebuild our infrastructure

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At the core of the dissatisfaction driving support for Brexit, Donald Trump (and Bernie Sanders) is economic dislocation that reduced the jobs and wages of those who worked in the manufacturing and construction industries. The solution is NOT to return to retail manufacturing, where the U.S. can’t compete with China; nor is it to extract more fossil fuels in a highly volatile energy market or to build houses for another financial bubble. Instead we can address their needs while solving a different crisis–fixing our crumbling infrastructure, and even get some other ancillary benefits. We would have both construction and heavy manufacturing jobs with good wages, aimed right at the Brexit/Trump constituencies. And there would be little foreign competition while we put the U.S. economy on better footing to compete in other sectors.

The American Society of Civil Engineers estimate that America needs $3.6 trillion of investment in replacing our infrastructure such as roads, waterworks, power and gas lines and the rest that makes American go. This sounds like a big number, but it’s only a bit more than half of what all federal, state and local governments spend annually. Of course, we would never pay for all of this at once. In our current low-interest environment, at 3% bond financing over 30 years, the annual cost would be $180 billion, which is less than 3% of total spending.

The key is to use disciplined deficit spending, i.e., bonded indebtedness, to finance this program. Funds should be earmarked specifically for this program at the federal, state and local levels. One source of funds could be a wealth tax. A tax rate of 0.2% (yes, two tenths of a percent) on registered securities and real estate could cover the annual debt repayments.

We could tie this program to two other possible goals:

  • To ensure that the income from holding the bonds accrue to a wider segment of the population, we could limit purchase of the bonds to the Social Security Administration and widely-held municipal bond mutual funds.
  • We could staff the program with young people serving in a compulsory national service. The national service would give 18-20 year olds their first jobs and bring together a mix of different backgrounds and cultures. As the draft did in World War II, they could gain a better understanding of others beyond their current experiences.

 

 

 

Today’s rise of populism and loss of economic opportunity

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Robert Reich, the former Secretary of Labor, now UC Berkeley professor, and Friend of Bill (Clinton) wrote about how he found he agreed with the basic points of Tea Party supporters:

For example, most condemned what they called “crony capitalism,” by which they mean big corporations getting sweetheart deals from the government because of lobbying and campaign contributions…The more conversations I had, the more I understood the connection between their view of “crony capitalism” and their dislike of government. They don’t oppose government per se. …Rather, they see government as the vehicle for big corporations and Wall Street to exert their power in ways that hurt the little guy. They call themselves Republicans but many of the inhabitants of America’s heartland are populists in the tradition of William Jennings Bryan.

Eliana Johnson, a conservative columnist at the National Review, made a similar observation on NPR:

I actually think Donald Trump is really an embodiment of blue-collar frustration with what are really a bipartisan elite consensus on a number of issues that Republicans and Democrats in Washington agree on. One is free trade, and you see Donald Trump and Bernie Sanders taking similar positions there reflecting frustration. Another is immigration, where Donald Trump is an ardent opponent of letting more immigrants into the country. And I think you see the far left and the far right coming together on that issue. And so Barack Obama is certainly an embodiment of elite Washington opinion, but it’s really, I think, frustration among the grassroots of both parties about issues, really, that Republicans and Democrats agree on and where they feel they are not getting a hearing.

The first question is what is at the heart of the frustration among the white middle-class that is at the core of the Tea Party, and support for Donald Trump. Essentially the white middle class sees that the social compact that guaranteed a comfortable life style with little uncertainty by simply working steadily has come apart. The Great Recession accelerated a trend that was already gaining steam as unemployment and underemployment for older white men increased. Job security for a group that historically has enjoyed the greatest job security is disappearing. And they’re angry about it.

The next question is what is at the core of this trend. First a digression into what we do for “work.” Typically we can divide up what we work on into three areas: making things used by other people, directly serving people, and creating ideas and concepts that people can enjoy or use in the other two work areas. There are physical limits on the value that any one worker can create either in manufacturing or in services. A factory worker can produce only one car at a time and a consumer can buy and use only one car. A coffee barista can serve only one customer at a time, who in turn can only drink one coffee at a time. Nobel Prize winner William Baumol identified this “cost disease” 50 years ago, but he was focused only on services versus manufacturing. He observed that technology could help the factory worker make a car faster, but it wouldn’t be much help for a coffee barista.  But he hadn’t considered the role of workers who create ideas and concepts, simply because this wasn’t a big part of the economy then.

With the advent of computers and the Internet, along with other mass media, it’s now possible for a “worker” such as an entertainer, an athlete, an investment banker, or an app programmer, to create a “product” that can be consumed by millions with no limitations on how many can buy and use that product at one time. Distribution of the product is now almost costless. As a result, a single worker can create huge amounts of economic value single-handedly. That’s not the case with either manufacturing or services. The workers in the ideas and concepts industries can now command extraordinary salaries. Bay Area tech workers are earning an average of $176,275!

Who are these tech workers? Not older white middle class men with a high school education or less. Instead economic value is accruing to the younger, college educated (particularly in STEM fields) and the “middle class” is disappearing. The supporters of the populist causes and the demagogues who exploit those opportunities are those being left behind by this radical transformation of the economy.

The same thing happened at the turn of the twentieth century as the nation moved from an agrarian economy with a 38% of its population on the farm to an industrial powerhouse. William Jennings Bryant thrice ran for President as a populist, in his time railing against the gold standard and calling for “free silver.” His supporters were the farmers being left behind by rapid economic change.

As was the case then, the older dominant labor force working in traditional, stable industries today are not well equipped to adapt to the coming of disruptive changes. They have been extolled as the core of a virtuous workforce, as was the case with farmers then, so they have become part of the American pantheon. Just watch any pickup truck commercial. They understood the social compact as putting in a 40-hour week being sufficient to deliver a comfortable lifestyle. These workers understood that they wouldn’t have to change their careers or learn new skills to live the “American dream.” Unfortunately, that was a false promise. (We can’t really expect that everyone should understand how the economy works–at least not without major changes in our education and media systems.)

Now they look for “easy solutions” of the type long offered by politicians, and they are not disappointed by the offerings. Blocking immigration, imposing trade restrictions, and creating opportunity are all buzz word solutions without real substance or a likelihood for success in solving their problems (and may make the problems worse.)

The change a century ago led to economic benefits that few would dispute improved the well-being of most Americans; we would not have wanted to freeze the proportion of the U.S. economy devoted to agriculture. The final question then is what should be the appropriate policy responses to mitigate these harsh effects on a group that long enjoyed a favorable position in our economy while allowing for another beneficial economic transformation?