Inequality and Social Mobility Econ 101
Much of the following is taken from Capital in the Twenty-First Century by Thomas Piketty Special Thanks
Key Concepts Wealth (stock, savings) Inequality The richest 10% of people own 50% of wealth Everyone has equal savings. Mobility The child of someone with high wealth has a 75% of also having high wealth as an adult Parental savings have no impact on their children s savings. Income (flow, earnings) 50% of earnings go to the richest 10% of people Everyone is paid the same amount. The child of someone earning in the top 10% has a 75% of also earning in the top 10% Parental earning has no bearing on the earnings of children.
Wealth and Capital Capital (Wealth) is the sum of Non-financial Assets land, dwellings, commercial inventory, other buildings, machinery, infrastructure, patents, and other directly owned professional assets Financial Assets bank accounts, mutual funds, bonds, stocks, financial investments of all kinds, insurance policies, pension funds, etc. Minus Debt
Capital in Britain
Capital in France
What Happened in 1910? Wars and Depression Destruction of physical capital Collapse of foreign portfolios as colonies became free Very low savings rate to finance war capital is always rotting away and needs replacing People sell of capital in order to maintain living standards Bankruptcies Stock collapse Inflation after the wars
Capital in the USA
How the USA Differs No physical destruction, but Great Depression arrested upward trend Has not had centuries to accumulate wealth Population rose from 3 million to 300 million (capital less important relative to size of economy)
Capital on the Rise Everywhere
Who Owns the Wealth? Scandinavia (1970s-1980s) Europe (2010) USA (2010) Europe (1910) The Top 10% (Upper Class) 50% 60% 70% 90% The Top 1% ( Dominant Class) 20% 25% 35% 50% The Next 9% ( Well-to-do class) 30% 35% 35% 40% The Middle 40% (Middle Class) 40% 35% 25% 5% The Bottom 50% (Lower Class) 10% 5% 5% 5%
Wealth Inequality in Britain
Wealth Inequality in France
Wealth Inequality in USA
Wealth Inequality Key Points In every country (for which we have data), the top 10% and top 1% own a substantial share of all wealth The disruptions of the wars and depressions disproportionately devastated wealth of the top 1% The top 1% have been recovering since Compared to 1900s, there is now a substantial, propertied Middle Class
Size of Annual Inheritances
How Many People Get a Big Inheritance (in France)?
Wealth Inheritance Key Points Total amount inherited declined alongside the destruction of capital in 20 th century Total amount is now recovering More people receive a sizable inheritance than before (relevance for democracy?)
Income Income: Amount earned in a year There are two main sources of income Earnings from labor (wages and bonuses) Earnings from capital (rents, dividends, profits, etc.)
Income From Labor and Capital in early 20 th Century Among the Rich France - 1932 USA - 1929
Income From Labor and Capital in early 21 st Century Among the Rich France - 2005 USA - 2007
Better to Marry Well or Climb the Career Ladder?
Income from Labor and Capital The rich disproportionately earn income from capital, but to a much lower extent than in the past In the past, it really was better to try and marry well (obtain an inheritance) than to work hard at a career Today, top careers do nearly as well as top inheritors
Inequality of Income (Labor & Capital) Scandinavia (1970s-1980s) Europe (2010) USA (2010) The top 10% (upper class) 25% 35% 50% The top 1% ( dominant class) 7% 10% 20% The next 9% ( well-to-do class) 18% 25% 30% The middle 40% (middle class) 45% 40% 30% The bottom 50% (lower class) 30% 25% 20%
Inequality of Labor Earnings Scandinavia (1970s-1980s) Europe (2010) USA (2010) The top 10% (upper class) 20% 25% 35% The top 1% ( dominant class) 5% 7% 12% The next 9% ( well-to-do class) 15% 18% 23% The middle 40% (middle class) 45% 45% 40% The bottom 50% (lower class) 35% 30% 25%
Wage Growth Largely Confined to Top
The Top 1% Share of Income I
The Top 1% Share of Income II
The Top 1% Share of Income III
The Top 1% Share of Income IV
Income Inequality Key Points The US has relatively unequal distribution of income, including income from labor alone Most US growth over the last 40 years has flowed to top earners Income inequality among the top 1% has declined over the first half of the 20 th century Income inequality among the top 1% has largely recovered in English-speaking countries and Emerging markets Top income inequality was largely arrested in Europe and Japan
Social Mobility Two societies may have the same distribution of income and wealth, but very different mobility If you will always earn the exact same as your parents there is zero mobility If your parents status has no bearing on your own earnings, there is perfect mobility Neither is necessarily desirable
What Determines Social Mobility Social Mobility depends on a host of factors Endowments to children Money/Inheritances Education Health Genes Social Connections Flexibility of Society Is society meritocratic? Is society corrupt and based on connections? Is society rigidly defined by occupation/class/caste? Does society discriminate against groups? Luck
Cross-Generational Income Elasticity The % rise in income due to a 1% rise in parents income Sons Daughters Denmark 0.07 0.03 Finland 0.17 0.08 Norway 0.16 0.11 Sweden 0.26 0.19 UK 0.31 0.33 USA 0.52 0.28
Probability of Jumping from One Quintile to Another in the USA Father/Son 0-20% 20-40% 40-60% 60-80% 80-100% 0-20% 0.42 0.25 0.15 0.10 0.08 20-40% 0.19 0.28 0.21 0.17 0.14 40-60% 0.19 0.19 0.26 0.20 0.16 60-80% 0.13 0.18 0.20 0.25 0.24 80-100% 0.10 0.12 0.19 0.23 0.36
Probability of Jumping from One Quintile to Another in the UK Father/Son 0-20% 20-40% 40-60% 60-80% 80-100% 0-20% 0.30 0.24 0.17 0.17 0.12 20-40% 0.24 0.23 0.18 0.19 0.16 40-60% 0.19 0.20 0.23 0.21 0.18 60-80% 0.16 0.18 0.23 0.20 0.24 80-100% 0.11 0.17 0.20 0.23 0.30
Probability of Jumping from One Quintile to Another in Denmark Father/Son 0-20% 20-40% 40-60% 60-80% 80-100% 0-20% 0.25 0.23 0.19 0.19 0.14 20-40% 0.21 0.25 0.22 0.19 0.14 40-60% 0.19 0.21 0.22 0.21 0.17 60-80% 0.17 0.18 0.20 0.22 0.23 80-100% 0.15 0.12 0.16 0.21 0.36
Social Mobility Key Points Across one generation, US has lowest mobility, followed by UK, and then the Scandinavians Much of the low US mobility described by a poverty trap
Explaining Trends in Wealth Inequality: r > g r : interest rate/return on capital g : economy s growth rate The return on capital has historically stayed near 4-5% for centuries (with exceptions around world wars) If the growth rate is below 4-5%, wealth grows faster than the economy If enough wealth is reinvested, rather than consumed, wealth gets larger and larger relative to economy Growth has been and is likely to remain 1-3% for the foreseeable future
Explaining Trends in Wealth Inequality: Increasing Returns to Wealth Mo money, mo money The wealthiest can often earn 6-7% With sufficient wealth, most can be reinvested, since consumption needs are easily met With high wealth, nearly all can be put in risky assets Large fortunes can pay more people to manage and invest money Harvard has a $30bn endowment, pays $100mn per year to money managers (0.3% of endowment) North Iowa College has a $11.5mn endowment, can only pay $115,000 to a manager (1% of endowment)
Explaining Trends in Wealth Inequality: Estate Tax Rates
Explaining Trends in Income Inequality: From Capital to Labor Capital has not recovered to previous rates The potential returns to top careers has risen dramatically
The Role of Unions Unions much more prevalent in Europe Europe has held back inequality more But can this explain rise in top 1%?
Explaining Trends in Income Inequality: Educational Attainment I
Explaining Trends in Income Inequality: Educational Attainment II More education can explain the top few quintiles Those without education fall further behind However, seems to explain little of the rise of the top 1%, which is a large share of rising income inequality
Explaining Trends in Income Inequality: Top Tax Rates
Explaining Trends in Income Inequality: Superstars Globalization means the best product can win in every market, rather than its home market alone Technology extends the reach of entertainers, musicians, athletes to every household However, only 5% of the top 0.1% in the USA are athletes, actors, artists Instead, 60-70% are top managers
Explaining Trends in Income Inequality: Supermanagers Marginal productivity theory breaks down Managers set their own salary in many cases Extremely difficult or impossible to estimate marginal productivity of top managers Studies show manager pay rises with profit, even when due to random chance or luck Decline in top tax rate creates incentives to fight for higher pay Social norms are self-reinforcing Transparency rules increased, rather than decreased top incomes
The Case Against Inequality The market allocates goods through the price mechanism Demand is derived from tastes and income Income has a major impact on what goods are produced by society Rawlsian Reasoning Income is largely due to luck either in life, or in birth and gene endowment We should insure against luck Utilitarian Reasoning The marginal utility from a dollar is higher to low incomes Total utility can be improved by reallocating wealth from rich to poor Politics Subverting Democracy Fostering revolution
The Case for (going easy on) Inequality Incentives There must rewards to taking risks and working hard The world has gotten much richer over the period under discussion Rights-Based Reasoning Right to property is absolute There is no moral principle capable of justifying intervention Positional Goods Should Not be Emphasized Human happiness should not depend on relative status Human happiness should come from the self Low Social Mobility Reflects A Meritocracy Suppose genes, education, health, family values, etc., determine earnings If these are passed down from parent to son, social mobility will rightly be low