Obama is right to be worried about income inequality — it’s gotten a lot worse under his watch

Americans today are very worried about income inequality.

A Gallup poll this month found that 67 percent of Americans are unhappy with the distribution of income and wealth in the U.S. The disappointment goes across party lines — 54 percent of Republicans are dissatisfied, as well as 70 percent of Independents and 75 percent of Democrats:

And a growing number of people are worried that they can no longer get ahead simply by working hard, suggesting that inequality is becoming more entrenched.

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Obama Talks Bubbles & Bubble Avoidance

obama-bubble-final

Barack Obama is focusing his economic rhetoric on the dangers of bubbles:

President Barack Obama, who took office amid the collapse of the last financial bubble, wants to make sure his economic recovery doesn’t generate the next one.

Obama this month spoke four times in five days of the need to avoid what he called “artificial bubbles,” even in an economy that’s growing at just a 1.7 percent rate and where employment and factory usage remain below pre-recession highs.

“We have to turn the page on the bubble-and-bust mentality that created this mess,” he said in his Aug. 10 weekly radio address.

In the long run, this goal — of avoiding inflating economic bubbles that change the structure of production both as they inflate and deflate — is laudable. The best manner in which to achieve it is through the teaching and discussion of history. A key qualitative factor in most bubbles seems to be the forgetting of history, the sense that this time is different, the sense that we may have reached a new stable plateau upon which asset prices can only rise. With the rise and popularisation of notions like the Great Moderation or the end of speculation, investors put down their guard and increasingly engage in riskier behaviours, like flipping condominiums, or buying stocks with leverage. The bubble is a mentality — risks will remain at bay, sentiment will remain high, externalities won’t disrupt activity. This is fine if the risks that investors have begun to ignore never materialise, so not every asset that soars in price is a bubble. Many asset classes including treasuries and junk bonds today are at record high prices, but the Fed is determined to do whatever it takes, and so sentiment has held in spite of naysayers like Marc Faber and Peter Schiff talking of the inevitability of a crash since the recovery began in 2009. The risks have so far remained at bay. But very often the risks that are assumed to have gone away reappear, and all it takes for the market to go into freefall is for sentiment to turn and investors to start selling. Asset valuation is not a question of fundamentals. It is a question of abstractions away from fundamentals. As John Maynard Keynes noted:

[Investing] is not a case of choosing those [faces] that, to the best of one’s judgment, are really the prettiest, nor even those that average opinion genuinely thinks the prettiest. We have reached the third degree where we devote our intelligences to anticipating what average opinion expects the average opinion to be. And there are some, I believe, who practice the fourth, fifth and higher degrees.

What this means, as Minsky noted, is that avoiding the possibility of economic bubbles is really, really difficult (if not impossible by definition). Each stabiliser leaned upon to stabilise markets becomes another assumption lulling investors into assuming that this time is different and thus into riskier behaviours. Keynes and Minsky both recommended fiscal policy as the stabilisation lever, but fiscalism has become unfashionable and politically challenging.

Obama’s chosen mechanism for avoiding bubbles is decreasing income inequality. In fact he sees income inequality and economic bubbles as being intimately connected:

Even though our businesses are creating new jobs and have broken record profits, nearly all the income gains of the past 10 years have continued to flow to the top 1 percent. The average CEO has gotten a raise of nearly 40 percent since 2009. The average American earns less than he or she did in 1999. … This growing inequality not just of result, inequality of opportunity – this growing inequality is not just morally wrong, it’s bad economics.

Because when middle-class families have less to spend, guess what, businesses have fewer consumers. When wealth concentrates at the very top, it can inflate unstable bubbles that threaten the economy. When the rungs on the ladder of opportunity grow farther and farther apart, it undermines the very essence of America – that idea that if you work hard you can make it here.

It’s not sustainable to have an economy where the incomes of the top 1 percent has skyrocketed while the typical working household has seen their incomes decline by nearly $2,000. That’s just not a sustainable model for long-term prosperity.

This is all true. But it’s also all rhetoric. In his nearly five years in office, Obama has totally failed to get income inequality under control. According to Pew Research, since Obama came to office:

Mean net worth of households in the upper 7% of the wealth distribution rose by an estimated 28%, while the mean net worth of households in the lower 93% dropped by 4%

Research from the Bank of England shows that the main transmission mechanism used by central banks — specifically, reinflating asset prices — disproportionately favours the richest in society; those who already have assets whose prices can be lifted. The policies that Obama and Bernanke have pursued for the past 5 years have been tilted toward assisting the wealthy. The recovery has been a recovery from and for the top, while the poor have continued to experience greater social fragmentation, weakened social programs, and long-term unemployment. This has all been cemented by Obama’s own policies.

So while avoiding asset bubbles and reducing income inequality are laudable goals it is highly questionable that Obama — who has embraced an austerity agenda — will come close to achieving either.

UPDATE: Miles Kimball on Twitter points me toward Anat Admati’s suggestion of implementing bank capital requirements to make bubbles less damaging. This is a very fair suggestion, because it is a stabiliser that does not lean on the idea of eliminating bubbles, but the idea of limiting their impact. Obviously, rules can be gamed, but if implemented properly it could systematically limit the size of bubbles, by cutting off the fuel of leverage.

Of Wages and Robots

There is a popular meme going around, popularised by the likes of Tyler CowenPaul Krugman and Noah Smith that suggests that recent falls in worker compensation as a percentage of GDP is mostly due to the so-called “rise of the robots”:

For most of modern history, two-thirds of the income of most rich nations has gone to pay salaries and wages for people who work, while one-third has gone to pay dividends, capital gains, interest, rent, etc. to the people who own capital. This two-thirds/one-third division was so stable that people began to believe it would last forever. But in the past ten years, something has changed. Labor’s share of income has steadily declined, falling by several percentage points since 2000. It now sits at around 60% or lower. The fall of labor income, and the rise of capital income, has contributed to America’s growing inequality.

In past times, technological change always augmented the abilities of human beings. A worker with a machine saw was much more productive than a worker with a hand saw. The fears of “Luddites,” who tried to prevent the spread of technology out of fear of losing their jobs, proved unfounded. But that was then, and this is now. Recent technological advances in the area of computers and automation have begun to do some higher cognitive tasks – think of robots building cars, stocking groceries, doing your taxes.

Once human cognition is replaced, what else have we got? For the ultimate extreme example, imagine a robot that costs $5 to manufacture and can do everything you do, only better. You would be as obsolete as a horse.

Now, humans will never be completely replaced, like horses were. Horses have no property rights or reproductive rights, nor the intelligence to enter into contracts. There will always be something for humans to do for money. But it is quite possible that workers’ share of what society produces will continue to go down and down, as our economy becomes more and more capital-intensive.

So, does the rise of the robots really explain the stagnation of wages?

This is the picture for American workers, representing wages and salaries as a percentage of GDP:

WASCURGDP

It is certainly true that wages have fallen as a percentage of economic activity (and that corporate profits as a percentage of economic activity have risen — a favourite topic of mine).

But there are two variables to wages as a percentage of GDP. Nominal wages have actually risen, and continued to rise on a moderately steep trajectory:

WASCUR_Max_630_378

And average wages continue to climb nominally, too. What has actually happened to the wages-to-GDP ratio, is not that America’s wage bill has really fallen, but that wages have just not risen as fast as other sectors of GDP (rents, interest payments, capital gains, dividends, etc). It is not as if wages are collapsing as robots and automation (as well as other factors like job migration to the Far East) ravage the American workforce.

It is more accurate to say that there has been an outgrowth in economic activity that is not yielding wages beginning around the turn of the millennium, and coinciding with the new post-Gramm-Leach-Bliley landscape of mass financialisation and the derivatives and shadow banking megabubbles, as well the multi-trillion dollar military-industrial complex spending spree that coincided with the advent of the War on Terror. Perhaps, if we want to look at why the overwhelming majority of the new economic activity is not trickling down into wages, we should look less at robots, and more at the financial and regulatory landscape where Wall Street megabanks pay million-dollar fines for billion-dollar crimes? Perhaps we should look at a monetary policy that dumps new money solely into the financial sector and which has been shown empirically to enrich the richest few far faster than everyone else?

But let’s focus specifically on jobs. The problem with the view that this is mostly a technology shock is summed up beautifully in this tweet I received from Saifedean Ammous:

The Luddite notion that technology might render humans obsolete is as old as the wheel. And again and again, humans have found new ways to employ themselves in spite of the new technology making old professions obsolete. Agriculture was once the overwhelming mainstay of US employment. It is no more:

farmjobs

This did not lead to a permanent depression and permanent and massive unemployment. True, it led to a difficult transition period, the Great Depression in the 1930s (similar in many ways, as Joe Stiglitz has pointed out, to the present day). But eventually (after a long and difficult depression) humans retrained and re-employed themselves in new avenues.

It is certainly possible that we are in a similar transition period today — manufacturing has largely been shipped overseas, and service jobs are being eliminated by improvements in efficiency and greater automation. Indeed, it may prove to be an even more difficult transition than that of the 1930s. Employment remains far below its pre-crisis peak:

EMRATIO_Max_630_378

But that doesn’t mean that human beings (and their labour) are being rendered obsolete — they just need to find new employment niches in the economic landscape. As an early example, millions of people have begun to make a living online — creating content, writing code, building platforms, endorsing and advertising products, etc. As the information universe continues to grow and develop, such employment and business opportunities will probably continue to flower — just as new work opportunities (thankfully) replaced mass agriculture. Humans still have a vast array of useful attributes that cannot be automated — creativity, lateral thinking & innovation, interpersonal communication, opinions, emotions, and so on. Noah Smith’s example of a robot that “can do everything you can do” won’t exist in the foreseeable future (let alone at a cost of $5) — and any society that could master the level of technology necessary to produce such a thing would probably not need to work (at least in the sense we use the word today) at all. Until then, luckily, finding new niches is something that humans have proven very, very good at.

Wealth Inequality in America

Plenty of talk has gone into the rising income inequality that America has experienced since the early 1970s. But income is merely a wealth flow, and the truer measure of equality is the distribution of net worth and financial wealth (the wealth stock).

The historical change is clear: the bottom 80% have gotten considerably poorer both in financial wealth and in terms of total net worth:

This widening gap between the rich and everyone else is not a case of people being rewarded for their talents. Some income and wealth disparity is an inevitable effect of the market process. But the reality of today is more of a case of oligarchs harnessing the power of government bailouts, monetary policy, corporate subsidies, pork, quantitative easing, barriers to entry, favourable regulation, SuperPACs, Citizens United, lobbyists, market-rigging (etc, etc, etc) to get whatever they want.

The Burden of Government Debt

There has been an awful lot of discussion in recent months about whether government debt is a burden for future generations. The discussion has gone something like this: those who believe government debt is a burden claim that it is a burden because future generations have to repay taxes for present spending, those who believe that it is not claim that every debt is also credit, and so because the next generation will inherit not only the debt but also the credit, that government debt is not in itself a burden to future generations, unless it is largely owed to foreign creditors.

It is relatively easy to calculate what the monetary burden of government debt is. Credit inheritance and debt inheritance are not distributed uniformly. The credit inheritance is assumed strictly by bondholders, and the debt inheritance is assumed strictly by taxpayers. Each individual has a different burden, equalling their tax outlays, minus their income from government spending (the net tax position).

For an entire nation, everyone’s individual position is summed together. In a closed economy where the only lenders are domestic, the intergenerational monetary burden is zero. But that is by no means the entire story.

First, debts to foreign lenders are a real monetary burden, because the interest payments constitute a real transfer of money out of the nation. Second, while there may be little or no debt burden for the nation as a whole, interest constitutes a transfer of wealth between citizens of the nation, specifically as a transfer payment from future taxpayers to creditors. This adds up, at current levels, to nearly half a trillion of transfer payments per year from taxpayers to creditors. So while the intergenerational burden may technically add up to zero for the nation, it will not for individuals. The real burden is huge transfers from those who pay the tax to those who receive the spending, and those who receive the interest. So who loses out?

Here are the figures for 2009 showing net tax position for each income quintile:

Bottom quintile: -301 percent
Second quintile: -42 percent
Middle quintile: -5 percent
Fourth quintile: 10 percent
Highest quintile: 22 percent

Top one percent: 28 percent

The negative 301 percent means that a typical family in the bottom quintile receives about $3 in transfer payments for every dollar earned.

What this data does not show are the reverse transfers via interest payments. There is no data (that I can find) on treasury interest payments received by income quintile, but assuming that the top quintile dominates income from interest (as they dominate ownership of financial assets, owning over 95% of all financial assets) this leaves the lower income quintiles benefiting from transfer payments, the top quintile benefiting from interest (as well as policies like bank bailouts, corporate subsidies, and quantitative easing, whose benefits overwhelmingly benefit the top quintile), and squeezing the taxpaying middle quintiles who receive neither the benefits of interest payments, nor significant welfare transfers.

To misquote George Orwell, when it comes to the national debt and who takes its burden, some pigs are definitely more equal than others.

The Unstimulus

If your predictions are wildly out-of-whack with reality, you need to change your approach.

Here’s a 2009 Obama administration graph authored by Jared Bernstein and Christy Romer showing their calculations for future unemployment levels with and without the Obama stimulus, updated by James Pethikoukis to show the actual figures:

These predictions have been an unmitigated disaster. Not only did the real figures not match up to the advertised ones, but they are also much worse than the baseline expectations. Romer and Bernstein appear to have both severely under-estimated the depth of the crisis, and over-estimated the effectiveness of the stimulus package.

The stimulus is a large and complex piece of legislation, and it sent lots of money to lots of different places. Money went both to projects like building roads and bridges, as well as to projects like Solyndra, and to many other kinds of projects. Here’s a rough breakdown (a deeper breakdown is available here):

To get the full picture, we need to look at the broad outcomes. So, who benefited in the wake of the stimulus?

Wages and salaries as a percentage-of-GDP in blue, corporate profits after tax as a percentage-of-GDP in red:

Obama might talk about spreading the wealth around, but the aggregate effect of the policies pursued during his administration have squarely benefited large corporations and the financial sector, and not the middle class or small business. Is reinflating financial bubbles and pumping up corporate profits Obama’s idea of recovery? The money isn’t trickling down, and small businesses and the middle class are more in debt than they were before the crisis started. Income inequality is soaring. The financial sector is richer than ever. American infrastructure is still crumbling. Housing starts are still deeply depressed, even as homelessness rises. And of course, employment is still deeply, deeply depressed. The stimulus didn’t get America working again. With a monstrous and broken financial sector still totally failing to provide adequate capital to Main Street, totally broken algorithm-driven markets that have alienated retail investors, and budget deficits that remain persistently high, this should surprise precisely nobody.

More Government, Less Wages

Wages and salaries as a proportion of GDP in blue, contrasted with government expenditure as a proportion of GDP in red:

Yes; correlation does not prove causation. Yes; there are lots and lots and lots of other factors involved — the end of Bretton Woods, globalisation, deindustrialisation, the birth of the computer and the internet, financialisation, the United States’ growth into a global imperial power and more recently the beginnings of a decline.

But whatever the exact causality this does not make happy reading for those who lean toward the idea that more government involvement in the economy translates to a bigger share of the pie for the working class.

Quite the opposite — while wages have just hit an all-time low, corporate profits have just hit an all-time high:

Spreading the Wealth Around

Under Obama, corporate profits have soared to all-time highs:

Rentiers are doing better than ever; rental income has exploded and almost doubled since the recession (bubble-watchers — this is a huge one):


Yet employment still hasn’t recovered:

Income inequality under Obama has grown at a faster-rate than under Bush or Clinton:

All that debt Obama acquired, and all the stimulus did work to redistribute wealth and income — it worked to redistribute wealth and income toward the well-connected crony capitalist groups that funded Obama into office.

Obama can talk all he likes about cutting taxes for the middle class; the data shows who Obama’s redistribution policies have overwhelmingly favoured.

Of course, leftists and statists often end up favouring the super-rich. That’s been the underlying reality of communism — politburos, bureaucrats, technocrats, party members all benefit at the expense of everyone else (in spite of all that proletarian rhetoric).

Inviting the state to carve up national income and redistribute it is an invitation to corruption, and graft. Obama talks an updated version of the old communist rhetoric about redistributing wealth to the working class — he even adopted Stalin’s slogan “forward” — yet just like Stalin the reality of his policies is more wealth for the richest and most well-connected. What a surprise.

He continued and expanded the Bush bailouts of failed companies. He reappointed Ben Bernanke, who has hovered in his helicopter above Wall Street throwing out money to the well-connected rentiers and corporations. And his stimulus package went to his own donors like Solyndra who frittered away the loans he guaranteed.

That’s been the reality of “spreading the wealth around”. When will we wake up?