When I look you in the eyes, something deep inside me dies, ’cause I know you won’t get better, better, better. You’d rather be right than be loved. The only thing I’ve understood, nothing’s ever good enough. So opens the song Different by English singer-songwriter Robbie Williams. America is a nation where differences are celebrated, even feted. The Special Olympics is about to open in New Jersey, where people with all sorts of differences use sport to highlight their unique abilities. We have streets, buses, taxicabs all designed so that people with different capacities can travel about the city and country. Colleges and Universities set admission policies to ensure that student bodies are diverse. And while I am definitely no fan of political correctness, I celebrate living in a city that is one of the most ethnically and nationally diverse in the world. Differences are good – except, it seems, in the case of income.
In this current political cycle, certain politicians have tied their horse to the concept that diversity in income – what they call inequality – is a bad thing. They use the word inequality to tie differences in income to civil rights. In a country founded on the subjugation of Indian tribes, on the use of slavery as an economic tool and where citizens of Japanese descent were placed in concentration camps, ensuring civil rights is extremely important. But by linking the idea of diversity of income to the idea of separate bathrooms for people of different races, these politicians are doing a disservice to the fight for civil rights while at the same time promoting a bizarre economic concept.
We wrote back in the winter about income distribution in the United States, and how it is not a measure of poverty. In fact, we showed that Botswana, with one of the world’s most unequal income distributions has a poverty rate of about 31 percent, which is virtually the same as that in Ethiopia, a country with one of the most equal income distributions. In other words, while poverty is related to the ability of a family to purchase necessities, income distribution has more to do with history, the structure of the economy or demographics. What we did not discuss is if income inequality even matters in a fairly open market economy like the United States.
First, we need to look at what income inequality actually means. Families, individuals or households earn income as a result of working, renting land or structures, or from investments. Based on their relative assets and choices some people earn more money than others. But income is a flow variable in that it changes over time. Nobody would doubt that Bill Gates has accumulated billions of dollars of wealth over his lifetime. But if Mr. Gates chooses to stop working and investing altogether his income would fall to zero and he would be at the bottom end of the income distribution continuum. Similarly, as Hillary Clinton recently discussed, while her husband was President their family income was quite limited, while today, they can make $200,000 or more each in just one evening on the speakers’ circuit. In other words income is not necessarily tied to wealth, but is rather a flow of funds germinated by investment and work.
Income inequality refers to the fact that all households or individuals in an economy do not earn exactly the same amount each year. The idea of income equality would therefore suggest that all participants in the economy earned the same amount no matter their choices or efforts. As Karl Marx popularized in 1875 in his Critique of the Gotha Program, From each according to his ability, to each according to his need.
This brings us to the second question. Should we be concerned that a surgeon earns more than a cashier, or that an accountant with 30 years of experience earns more than a freshmen sociology student? Is this somehow a bad thing? Of course not.
In a market based economy, prices are an important signal that show producers what is in demand and allow consumers to make choices. If the price of beef is rising, I can substitute chicken, or fish or for some people tofu. For farmers, when they see beef prices rising, they know that they can profit by shifting resources from producing hogs to producing cattle. In this way, the economic market works to ensure that consumers have access to the most stuff at the lowest prices, and ensure that producers make the most profit by creating what people actually want. Compare this to the system in North Korea where a small cabal of psychopaths and sycophants make all production and consumption decisions.
Income is a type of price. It is some combination of the price for labor and the price for capital. In an economy where capital is in high demand, interest rates rise, and in one where labor is in high demand, wages rise. Of course all capital and all labor is not equivalent and interest rates for different types of capital (say capital at risk for loss vs. capital with little risk for loss) will differ, and wage rates for different types of labor (for surgical skills vs. cash register handling skills) will also differ. In a world with perfect income equality this cannot be the case, particularly when it comes to labor. For there to be no diversity in income, all sellers of labor (which is basically all of us) would need to work the same number of hours in a day, and basically all do the same thing.
For there to be income equality we would need to pay President Obama, Beyonce, you, me, and Merle the cashier who works in my local supermarket, exactly the same amount each day. Now Merle and the President may work for $10 an hour, but I doubt either you or I would work for that amount. In a world where everyone makes the same amount there is simply no incentive to work, to invest, to take risk, to learn or to do anything much. Once our basic needs are satisfied we might just as well sit around and stare at the dirt. The economy would not grow, there would be no iPods, no Internet, no airplanes, no medicine and in fact, we would all – every one of us from Bill Gates, to Merle, to you and to me live in abject poverty.
To those promoting an end to income diversity nothing is ever good enough. Income equality in a market economy was not even something that Karl Marx would have promoted. When I look you in the eyes, something deep inside me dies, ’cause I know you won’t get better, better, that is exactly what would happen without income diversity.