The Myth of Rising American Inequality

Hardly any claim has been repeated as often in the media as the one that inequality between the poor and the rich has grown massively year after year – all over the world and especially in the USA. For my book In Defense of Capitalism, I commissioned a survey on perceptions of capitalism in 33 countries: We presented respondents in all 33 countries with a list of 18 statements about capitalism – positive and negative. The notion that capitalism leads to growing inequality is among the top five most frequently selected statements in 30 out of these 33 countries. 

Researchers have now confirmed that in the U.S., this thesis is based on statistics that do not take into account two-thirds of the transfer payments the government makes to low earners. At the same time, federal, state, and local taxes, 82 percent of which are paid by the top 40 percent of American income earners, are not taken into account in the official statistics on inequality. 

“The net result is that in total the Census Bureau chooses not to count the impact of more than 40 percent of all income, which is gained in transfer payments or taxes,” write Phil Gramm, Robert Ekelund, and John Early in their excellent book The Myth of American Inequality. They show: “There are now a least one hundred federal programs that each spend more than $100 million annually providing transfer payments to households, as well as an uncounted number of smaller programs. Of that total number, Census counts only eight in its measure of income and chooses not to count the others as income to the recipients.” 

This may not have been a problem when this statistical method was introduced 75 years ago and these payments played only a minor role. If the high taxes paid by high earners are not taken into account in the statistics and the substantial transfer payments received by low earners are also largely disregarded, then this logically leads to the data on growing inequality being wrong. If taxes and transfers are taken into account, then the relationship between the income of the lowest and the top 20 percent of Americans is 4.0 to 1 rather than the 16.7 to 1 ratio found in the official Census data.

The left-wing French economist Thomas Piketty is a leading proponent of the thesis of growing inequality. He claims that inequality has risen sharply in many countries since 1990. According to the data Piketty and economists Emmanuel Saez and Gabriel Zucman present in the World Inequality Database, the share of U.S. income held by the richest 1 percent of Americans increased from 10 percent to 15.6 percent between 1960 and 2015. Even before Gramm, Ekelund, and Early, other scientists had pointed out that this data was wrong. U.S. economists Gerald Auten and David Splinter have shown that these data are skewed upward and, in fact, the share of U.S. income held by the richest 1 percent increased more moderately, from 7.9 percent to 8.5 percent between 1960 and 2015. 

The same is true of the share of U.S. wealth held by the richest 1 percent, which Piketty and colleagues claim rose from 22.5 percent to 38.6 percent between 1980 and 2014. According to the calculations of Smith, Zidar, and Zwick, however, it actually rose from 21.2 to 28.7 percent during this period – more about these and other studies can be found here

This does not even take into account the fact that the data on wealth excludes the present value of defined benefit pension plans and social security programs, which distort the comparison to the disadvantage of the poorer sections of the population. When calculating asset values, it is also important to remember that they depend above all on how much house prices have risen in relation to share prices. In times when share prices grow much faster than house prices, wealthy people benefit more because they have a higher share of securities than less wealthy people.

Has redistribution alone made the poor better off? At first glance, it may seem so. But if there had been less redistribution and if the poor had not been made dependent on the "drug" welfare, then there is much to suggest that they would even be better off in the long run. Don't forget: BEFORE the "war on poverty" began in the Johson era, the rate of the poor fell much faster. No wonder. People who earn their own money are more self-confident and motivated than people who have been accustomed to transfer payments by the state for years.

Another problem is that many of the studies into wealth are methodologically weak because they lack the “dynamic element”: The movement between income or wealth cohorts over time, which is also called social mobility. It makes a big difference – economically, ethically, and morally – whether the bottom 10 percent of the population in terms of income distribution in country X in decade 1 are still the same people in decade 2, or whether this “decile” in decade 2 is now composed of completely different people. The overall problem is that many people who have strong opinions about inequality also have little or no understanding of statistics. This leads to grossly inaccurate numbers time and time again. 

Rainer Zitelmann, is a German historian and sociologist and author of the book In Defense of Capitalism.


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