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Income Inequality in America – Definition, Causes & Statistics

Warren Buffett, number two on the Forbes 400 list of the richest people in America, said, “There’s class warfare, all right – but it’s my class, the rich class, that’s making war, and we’re winning.” Certainly, the disparity between the wealthy minority and the rest of Americans has widened considerably over the past 40 years. In 1973, the top 1% of earners collected 7.7% of all U.S. income; by 2013, their share had grown by two and a half times to 19.3%. Even more astounding, the top 10% of earners collected almost half of the nation’s total income (48.2%), the greatest disparity between the rich and the rest of the American population since the Roaring Twenties.

That decade, following the close of World War I, ended in the worldwide Great Depression. It also saw curbs on immigration with the passage of the Immigration Act of 1924, the rise of radical political movements including communism and fascism, and the reemergence and national spread of the Ku Klux Klan.

Clearly, the social contract between the governed and the governors is being strained now, as then, in many parts of the world, as well as in the United States. Harlan Green, editor and publisher of, wrote in a Huffington Post article that he believes, as a result of the growing disparity of income today, that “we are returning to a society of violence and deprivation and record inequality that are the earmarks of a broken social contract.”

The Great Divergence

A term coined by economist and New York Times columnist Paul Krugman to describe the growing income gap between the small minority and the vast majority, the “great divergence” is widely recognized by Americans as the source of conflicts between the rich and poor, according to a 2012 Pew Research poll. Despite their claim of understanding the problem, Nobel Prize-winning economist Joseph Stigletz says that Americans generally underestimate the following:

  • The magnitude of inequality that exists
  • The rate at which it has occurred
  • Its economic effects upon society
  • The ability of government to affect it

In addition, the average citizen believes social mobility is more possible than it actually is, and overestimates the financial cost of remedial action. These misperceptions exist because, despite the fact that inequality is so pervasive in the United States, it has become less noticeable, probably because the “haves” and the “have-nots” do not regularly mix. A recent study from OECD found that the U.S. had the largest income inequality in the developed world, trailing only Chile, Mexico, and Turkey.

The lack of awareness and efforts to reduce the disparity are further complicated by the adeptness of the super-wealthy to shape public perception in their favor. For example, there is a general belief that free markets are always efficient (that markets can do no evil), and that government only interferes with that efficiency (that government can do no good). This perception has led to the belief that the 2009 global financial meltdown was solely due to the United States Government trying to put poor people into housing they could not afford, rather than deregulation of the financial markets, widespread speculation, and the greed of Wall Street.

Some observers believe that America is already on a path of no return, and inequity is only going to become more common, not less. Writing in Salon on June 14, 2012, Stiglitz concluded that America is a country “too constrained to provide the public goods – investments in infrastructure, technology, and education – that would make for a vibrant economy, and too weak to engage in the redistribution that is needed to create a fair society.”

Growing Income Gap

A Belief in Fairness and Justice

Since 1985, Gallup polls have consistently shown that about 6 of 10 Americans believe that the distribution of money and wealth is unfair in America. Contrary to popular political claims, however, almost half of those polled believe that the government should not redistribute wealth by heavy taxes on the rich. But as the gap between the rich and the majority continues to expand, a growing percentage of Americans have begun to favor higher taxes as a last resort. It should also be noted that the typical American differentiates between wealth (the top 1% of the population own 35% of its assets while the bottom 90% own 23%) and income – the disparity in wealth not eliciting the same strong reaction as that of income.

Even the wealthiest Americans are concerned about the fairness of the income disparity in the U.S. A 2012 poll of “one-percenters” – those with at least $8 million in net worth –  showed that 62% of those polled thought that the “differences in income in America are too large.” However, rather than raising taxes, they favored cutting compensation of mutual fund managers and CEOs while raising salaries for skilled and unskilled factory workers.

Causes of Inequality

The fundamental causes of the gap are not primarily political, but technological and economical. However, government policies have accentuated and exaggerated the consequences of the underlying sources of income disparity.

1. Technology

Computerization and automation have eliminated many of the jobs upon which Americans have historically relied. The largest employers in the 1960s were manufacturers such as the auto companies, U.S. Steel, General Electric, and Firestone. By 2010, retailers such as Walmart, Target, and Kroger had replaced the manufacturing firms as employment leaders – Walmart alone employs as many Americans as the largest 20 manufacturers combined.

The percentage of American workers engaged in manufacturing peaked in the mid-1940s and has steadily declined, while service industry employment has exploded. At the same time, there has been a consistent attack upon union membership, a major force for protecting and raising workers’ wages. This shift dramatically lowered personal incomes of workers and reduced employee tenure.

According to a study by the University of Michigan Ross School of Business, the median average hourly wage for vehicle manufacturing in May 2008 was $27.14, while the median hourly wage for a retail position was $9.33. In short, more people are making less money.

Percentage of U.S. Labor Force Employed in Manufacturing and Services, 1938-2008
Percentage of U.S. Labor Force Employed in Manufacturing & Services, 1938-2008, Source: Ross School of Business

2. Globalization

Technology also spurred the export of jobs to other countries, as trade barriers dropped and the world became a general marketplace. The growth of multinational corporations with allegiance to no particular government and their transfer of intangible assets such as business knowledge, management practices, and training has resulted in hundreds of thousands of jobs moving from America to workers in lower-cost countries. Offshoring has become a common practice enabled by technology that eliminates experience and expertise barriers, as well as by competing governments that impose minimal regulations and offer extravagant tax benefits.

According to the Bureau of Labor Statistics, there is no reliable data base to determine how many American workers have lost their jobs to offshoring. In an article of the April-June 2009 issue of “World Economics,” Princeton economist Alan Binder estimated that up to 30 million jobs were “offshorable” at that time, including highly technical jobs such as computer programmers, systems analysts, machine operators, and software engineers. Certainly, the threat of offshoring is a deterrent to wage and salary increases for American workers.

3. Government Policy

One of the biggest falsehoods fostered upon the American people is that lowering personal tax rates stimulates investment and growth of the economy. For example, Peter Sperry, writing for The Heritage Foundation, claimed in 2001 that Reagan’s “deep across-the-board tax cuts, market deregulation, and sound monetary policies” resulted in the “largest peacetime economic boom in American history.”

His view was echoed by Peter Ferrara, who served in the White House Office of Policy Development under Ronald Reagan, and as associate deputy attorney general under George H.W. Bush. Writing in Forbes, Ferrara claimed that Reagan’s tax cuts restored incentives for economic growth.

But however influential their view is, it is not shared by economists in general – not even by Martin Feldstein, who was Reagan’s chief economic adviser when the tax cuts were initiated. A 1989 report (subsequently updated in a 2012 Congressional Research Service report) by Feldstein and Douglas W. Elmendorf (current director of the Congressional Budget Office under Speaker of the House John Boehner), states that there is not conclusive evidence to substantiate a clear relationship between the 65-year steady reduction in the top tax rates and economic growth. The authors also state that “reduction in the top tax rates have had little association with saving, investment, or productivity growth. However, the top tax rate reductions appear to be associated with the increasing concentration of income at the top of the income distribution.”

What Senator Russ Feingold called the “unholy alliance of Wall Street and Washington” has created a cycle where tax cuts and deregulation help the rich; the rich, in turn, use their money to buy more tax cuts and deregulation, and the gap in income distribution thereby continues to widen.

4. Polarization and Political Dysfunction

Due to years of gerrymandering in which Republicans have been far more effective on state levels than Democrats, and low-turnouts in non-Presidential election years, elected representatives in the House don’t always reflect the majority of their constituents. For example, President Obama won 51% of the vote in Ohio in 2012, but its House delegation is 75% Republican and 25% Democrat.

Writing in the New York Review of Books, author and political observer Elizabeth Drew states that Republican-controlled state legislatures have “cut taxes for the wealthy and corporations and moved toward a more comprehensive sales tax; slashed unemployment benefits; cut money for education and various public services; and sought to break the remaining power of unions.” These efforts further exacerbate the income disparity between the wealthy and the majority, fostering disillusionment with both government and the value of voting. In fact, according to a 2008 study, as income inequality grows, democratic political involvement falls.

Polarization Political Dysfunction

Possible Actions to Reduce Income Disparity

Income disparity has always existed, and it is going to continue in the future. While Americans generally agree that exceptional people and effort should be rewarded, the existing trend must be halted and reversed for the good of all citizens, rich and poor alike. As it has in the past, continuing on the same path is ultimately going to end in social unrest. It is also going to produce unacceptable levels of government deficit as more and more of the population is forced to rely upon safety nets.

Steps to reduce disparity include the following:

  • Expansion of Nonpartisan Citizens Redistricting Commissions. Congressional districts are predominately drawn by the political party in power in each state, resulting in “safe” districts for the incumbent political party. As a consequence, candidates for office depend upon the majority political party in their district for election, rather than the interests of the majority of citizens as a whole. This consequence is widely cited as the reason for the excessive partisanship, extreme positions, and political stalemate that exist today. Eliminating political bias when redrawing Congressional district lines can create more responsive, less partisan nominees for office. This was done successfully in California through the Voters First Act in 2008. Eric McGhee of the Public Policy Institute of California says the independent commission has drawn new lines in a process that “was far more open to the public than when the job was done by lawmakers.”
  • Comprehensive Tax Reform. Personal income taxes should continue to be progressive, with higher taxes on incomes over $1 million. Loopholes in the form of exemptions and deductions such as the home mortgage interest deduction or the capital gains tax rate should be eliminated or limited to end the extraordinary benefits to the highest earners. According to a 2012 study by USA Today, about one in four take advantage of the mortgage interest deduction, predominately those who make more than $100,000 per year. Rather than an impetus to buy a home, it is an incentive to buy bigger homes. The discrepancy between the earned income tax rate of up to 35% and the 15% capital gains rate predominately benefits the most wealthy.
  • Increased Infrastructure Investment. While people earning the most have recovered from the 2008-2009 financial crisis, the country continues to suffer from high unemployment and under-employment. Rebuilding infrastructure such as roads, bridges, airports, and the Internet can create jobs and encourage new investment. The Federal-Aid Highway Act of 1956 created the national interstate highway system in place today. As President Eisenhower predicted in his book “Mandate for Change 1953-1956,” that single action changed the face of America and had incalculable impact on the nation’s economy. Many believe a massive infrastructure project is not only needed today, but would ensure America’s competitiveness through the 21st century.
  • New Education Policies. Education, particularly technical training, has long been the vehicle of upward mobility. The Federal Government should revise its educational programs – with appropriate safeguards – to ensure every American has an affordable, quality education and the job skills to compete and excel in the new technologically intense, flat-world economy where jobs and products move unimpeded across national borders. According to a 2013 report by Pearson, the United States educational system ranks behind such countries as Finland, South Korea, and Germany when comparing student performance on mathematics, science, and reading. The report also links higher scores with future economic growth.
  • Strengthening of the Social Safety Net. Social Security, Medicare, and Medicaid should be amended to ensure that they are available to all Americans in the future. This would include such changes as means testing for payments, increased contributions during working years by eliminating future income caps (the limit is $113,700 for 2013), and continued modifications of the Medicare and Medicaid healthcare systems to help reduce costs and improve outcomes. Some changes to be considered include program negotiation with pharmacy drug manufacturers, higher co-pays and deductibles to ensure participants value their benefits, and end-of-life counseling – according to the Dartmouth Atlas of Health Care, “patients with chronic illness in the last two years of life account for about 32% of total Medicare spending, much of it going toward physician and hospital fees for repeated hospitalizations.”

Reduce Income Disparity

Final Word

According to a recent study, wealthy Americans wield an extra measure of influence over policy making. They believe that “government jobs programs don’t work, that education is more likely to be improved by market-oriented reforms than by major increases in spending on public schools or college scholarships, that citizens can provide for their own healthcare, that economic markets can mostly regulate themselves efficiently, and that budget deficits currently present a greater danger to the United States than joblessness does.” It is these beliefs and their impact upon government policies that have led to the historic income disparity we have today. Whether these beliefs can be changed remains to be seen.

What is not in dispute is the adverse effects of a wide income disparity. According to Richard Wilkinson, professor emeritus of social epidemiology at England’s University of Nottingham, such social ills as crime, teenage pregnancy, school dropout rates, and mental illness are directly correlated with wide income disparity. Sir Michael Marmot, as a result of his studies of inequality and health, claims greater disparity drives illness incidence.

Additionally, Dr. Jong-Sung You of the University of California, San Diego, has correlated income disparity with increased political corruption. And Steven Pressman, professor of economics at Monmouth University in New Jersey, states that income disparity lowers production and reduces efficiency: “If a CEO’s salary is going through the roof and workers are getting pay cuts, what will happen? Workers can’t outright reject the offer – they need to work – but they can reject it by working less hard and not caring about the quality of what they are producing. Then the whole efficiency of the firm is affected.”

Hopefully, the wealthy can recognize that a “winner take all” philosophy ultimately threatens society as a whole – including their favored status – and take the necessary steps to reduce the gap between rich and poor.

What do you think represents the greatest threat to American life as we know it: income disparity or fiscal deficits? What would you do?

Michael Lewis
Michael R. Lewis is a retired corporate executive and entrepreneur. During his 40+ year career, Lewis created and sold ten different companies ranging from oil exploration to healthcare software. He has also been a Registered Investment Adviser with the SEC, a Principal of one of the larger management consulting firms in the country, and a Senior Vice President of the largest not-for-profit health insurer in the United States. Mike's articles on personal investments, business management, and the economy are available on several online publications. He's a father and grandfather, who also writes non-fiction and biographical pieces about growing up in the plains of West Texas - including The Storm.

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