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Income Inequality and Growth

Vaguely Right, who I belive is an Economics Ph.D. student (and should probably be working on his/her dissertation instead of blogging) has a good (long) post on income inequality in the US, and it’s based on Census data. The abbreviated version contains these nuggets:

  • Income Inequality in the US has increased substantially since 1967.
  • But viewed in levels, everyone–bottom, middle, top–is much better off now than them, even after adjusting for inflation.
  • If the rate of economic growth between 1967 and 2001 were unchanged (perhaps a big assumption), and the income distribution were unchanged, the bottom 20% would be making 14% more, the next 20% would be making 24% more, the middle 20% making 18% more, the second highest 20% making 5% more, and the top making 13% less.
  • But if keeping income shares constant has even a very modest impact on growth, then in levels the bottom 80% are better off having the inequality (and corresponding growth)
  • So is greater concentration of wealth at the top the price of higher economic growth for everyone (think trickle-down)? If this were true then you would expect that as income inequality increases, growth rates increase. Vaguely Right shows that this is not the case.

On the last point, I’d add that Alesina and Rodrik (Quarterly Journal of Economics, 1994) take a panel of countries and regress income growth 1960 to 1985 on control variables and two GINI coefficients in 1960, one measuring income inequality and one measuring inequality in the distribution of land. Countries that were more unequal in 1960 grew slower (and land inequality has more of an impact than income inequality)! Land reform in Asia that reduced inequality is one explanation for the “Asian Miracle” of economic growth.

Here’s a neat picture I stole from the University of Texas Inequality Project (green, light blue and dark blue are the more unequal; red is the most equal; click to enlarge):






AB

P.S. In a second post, Vaguely Right also comments on my rawls post.

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Better Late than Never

I just caught this from a 2/27 NYT piece:

The [Bush tax] plan’s centerpiece would slash taxes on corporate dividends at a cost to the Treasury of $335 billion through 2012. It also calls for immediately implementing income tax cuts that are scheduled for a gradual phase-in, as well as accelerating tax breaks for married couples and couples with children. The package would expand the value of purchases that small businesses can deduct from their taxes.

“There can’t be any doubt about the fact that the American economy needs a boost,” said Treasury Secretary John W. Snow, “and there can’t be any doubt that this package will provide that boost.”

The problem with the Treasury Secretary’s statement is that most of the proposals are not stimulative. Accelerating future tax cuts has little impact on the current recession unless they are accelerated into the present (they aren’t). Making the estate tax elimination permanent has no immediate effect. Cutting dividend taxes doesn’t do much now–such a cut has more of an effect when corporate profits are high (so that there are dividends to distribute tax free), but corporate profits are by definition low, not high, during a recession. More hypocrisy: Snow was a strong advocate of a balanced budget in the mid-1990s.

AB

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Rawls Part III: Progressive Taxation and Tradeoffs Between the Minimum, Mean, and Maximum Levels of Income(long)

Part I here, Part II here; a brief post on Rawls here.

Both Bailey and Alterman referenced Rawls to justify redistribution, and Rawls himself was strongly in favor of redistributing income (“Social and economic inequalities…[must be] to the greatest benefit of the least advantaged members of society”). But this is a fairly extreme position; it rejects any policy that makes most people better off while making some at the bottom a little bit worse off. Earlier, I said this entails “an extremely high degree of risk-aversion”. Why? Suppose you are in the Original Position, designing the structure of society and its rules, but not knowing where you will be born into the world. Consider a simplified example, with two possible states of the world (holding all else equal; e.g., prices, choices of goods, freedoms,…):

System A: 10% of the population makes $10,000/year and 60% make $40,000/year, and 30% make $100,000/year.

System B: 10% of the population make $9000/year and 90% make $90,000/year.

Rawls’ take implies that you are only concerned about what happens to you if you land in the “least-advantaged” sector of society (no amount of increased benefit if you get lucky can outweigh the decreased benefit in the bad state), so System A is clearly preferable. But many people, liberals included, would argue that System B is better. For example, they might point out that in System A, average income is $56,000 while in System B it is $81,000.

If you prefer B, does that imply that you are really saying that the goal of economic policy should be to maximize average income? (Note: maximizing average income is equivalent to maximizing total income, meaning that any set of policies that does one necessarily does the other). This latter view was first formally decribed by John Stuart Mill’s mentor, Jeremy Bentham (e.g., Of the Principle of Utility) and was also advocated by one of Rawls’ contemporaries, John Harsanyi (who shared the 1994 Nobel Prize in Economics in 1994 with John Nash and Reinhard Selton). But to evaluate the idea of maximizing average (or total) income, consider System C:

System C: 95% make $10,000 and 5% make $5 million

In System C, average income is $259,500 but most people reject C in favor of B–the reward is not worth the risk even though the expected income is higher in System C (ex-post, the fortunate 5% might argue strongly that System C is very just).

So can anything definitive be said about the ideal, or just, tradeoff between the degree of risk and inequality in society and the average level of income? Some political scientists and economists have tried, using experiments and surveys, and the results are consistently in favor of redistributing income, but never to the extent that Rawls advocated.

In 1992, Political Scientists Norman Frohlich and Joe Oppenheimer published a book(see a review here), Choosing Justice: An Experimental Approach to Ethical Theory, that included the results of a series of experiments. They took groups of five undergraduates and explained Rawls’ maxi-min principle (maximize the well-being of the least well off) and Harsanyi’s utilitarian principle (maximize the average level of well-being), and also described two in-between rules that involved reducing the average in exchange for increasing the minimum possible income. They then asked the students to design rules for how to divvy up society’s income. The experiments were set-up so that the students’ could only increase the minimum payoffs by also decreasing the average. After they designed rules, each group member randomly drew their place in society according to the rules they designed while behind the veil, and actual cash was paid out accordingly. The experiments were akin to presenting systems like the ones I described earlier and saying pick the one you like best, we’ll randomly draw your place in that system, and pay you according to where you land.

83 groups were told that they had to unanimously agree on a system, and all were able to do so (this is important, as it shows that the Veil is a useful construct–people actually can agree on a set of rules). But of those 83 groups, only 10 chose Harsanyi’s rule of maximizing average payoffs, and just 1 chose Rawls’ to maximize the lowest payoff they could receive. The other 72 groups all were willing to accept a reduction of their lowest possible payoff in exchange for an increase in the average payoff, but not to the extent of maximizing the minimum possible income level.

A similar study (see Table 1, p. 7) using students from India found similar results-the students were consistently willing to accept reductions in both the maximum income and the average income in exchange for increases in the floor income, though not nearly to the degree Rawls argued. Here is a subset of their results:

(In Rupees) Minimum Income Average Income Maximum Income Percent
Preferring B
System A 3,000 35,333 100,000
System B1 10,000 35,333 86,000 96%
System B2 4,250 15,016 36,550 33%


So, comparing B1 to A, all but 4% of those surveyed were, holding the mean constant, willing to reduce the maximum payout by 14,000 in exchange for increasing the minimum payout by 7,000. That is, they favor a society that redistributes income downward. But only one third of the same students thought that B2 was preferable to A–for the remaining two thirds, increasing the floor by 1,250 was not worth reducing the mean and the maximum by more than 50%. Johansson-Stenman, Carlsson, and Daruvala (Economic Journal, April 2002, Vol. 112 Issue 479, p384) found similar results using European students.

What does this all mean? Appealing to Rawls and the Veil of Ignorance as a justification for progressive taxation (as opposed to either flat or regressive) is on balance valid, in the sense that real people when asked to make decisions from behind a pseudo-veil prefer increasing the minimum even when it entails some reduction in the average and maximum levels of income. But that only addresses the question of whether taxes should be progressive at all, not the question of how progressive they should be.

The data do exist to do a more directly relevant experiment. We could assemble statistics on the income distribution (minimum, percentiles, mean, and maximum) for various countries (the OECD has such data) and then replicate these studies, but to my knowledge this has not been done. Could economists use surveys like this to evaluate specific policy proposals, like the President’s latest tax package? Sure, just as soon as they find a way to agree on the distributional impacts of various proposals (meaning don’t hold your breath).

AB

P.S. While he was in favor of redistribution in general, Rawls was not politically active and did not advocate using his logic to evaluate specific policy proposals. Matthew Yglesias, who went to Rawls’ memorial service, recounts the words of Rawls’ colleague, Tim Scanlon [Matt’s words]: “Scanlon then noted that perhaps times were changing and mentioned the Rawls reference on last night’s West Wing. Then he got all professorial and noted that the veil of ignorance is not supposed to be applied to political issues in isolation, but rather to the basic structure of society as a whole. The tax system is, of course, part of the basic structure, but he cautioned against looking at it in isolation from the rest.”

P.P.S. Thanks to Kevin Drum for helping me get rid of the big open space.

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I Can’t Believe I’m Pro-War Group Shrinking

Talking Points Memo: “At this point, we have truly the worst case scenario on the international stage. And I think the those costs now outweigh those gains.”

CalPundit: “I still believe strongly that we need a tough-minded long-term policy aimed at eradicating terrorism and modernizing the Arab world (among others) — and that this policy should include the use of force where necessary — but not this time. This is the gang that couldn’t shoot straight.”

Sean-Paul (The Agonist): “I’ve had enough as well. I was going to make that argument about credibility, you know–the worst argument ever– but after one too many lies folks, it’s simple enough to say this: Mr. President, I am opposed.”

But Matthew Yglesias remains undaunted: “For what it’s worth, I’m not quite sure what the point in flip-flopping at this point would be.”

And of course, ETL New Republic remains true to the cause, so to speak.

I think the liberal war-supporters were pro-war because they believed that the Iraqi people are suffering (they are, but the world is full of evil dictators), that Saddam makes the region less stable (probably, but so might war, and so does the Palestinian-Israeli situation), and that there was some legitimate risk that to the extent that he has WMD, he might sell or give them to those who would use them, either in Israel, Europe, or North America (the thing that scares me).

But I think it’s important to look at how a war gets started, not just why. As evil as Saddam H. is, when a campaign of lies–from the plagiarized report to the fraudulent Iraq-Niger documents–is used to drum up support for the war, and all it yields are the U.S., Britain, Spain, and Bulgaria in the pro-war column, it’s just not plausible that there’s grounds for war there. Did I mention selling out the Kurds, spying on our allies and threatening Mexico? And there’s no intellectual consistency on the pro-war side, by which I mean that under every metric, North Korea is a bigger threat (But attacking North Korea doesn’t count as revenge on Muslims, which is what I think this war is really about for many on the Right).

Understand, there’s no compelling evidence available to the public (or apparently outside of the governments of the US and Britain) that Saddam poses and immediate threat to his neighbors or to the West. So we’re talking about, at best, misinformation being used to justify a war against a nation that is not invading any country, and in the process we are straining alliances that have held strong for over 50 years. Starting a war in this way is a huge precedent, and an unwise one.

AB

Update. (Via Atrios) NYT now antiwar (excepting UN, perhaps NATO approval, or even just France and Germany–the wording is vague):”If it comes down to a question of yes or no to invasion without broad international support, our answer is no.”

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When Competition Goes Bad

Competition is generally a great thing. It explains why cell phone and long distance prices plummetted over the last 20 years (competition and technology), while local prices remained fairly flat (lack of competition). But for some reason, competition makes the mass media worse. Consider the antics on CNN in the post-Fox era (competition); contrast that to the BBC and NPR (little direct competition).

For those who aren’t already reading him, Bob Somerby’s Daily Howler is a must read. This week he’s (incomparably) been reviewing the coverage of Gore during the 2000 campaign, with a particular focus on the Naomi Wolf “scandal”. As Somerby recounts, a slew of articles came out on Gore and “earth-tones”, all sourcing Time magazine (a Washington Post story with a quote from Dick Morris speculating is the actual source):

…Time had said nothing about earth tones. The next day, Maureen Dowd also misstated the point, writing that “Time magazine revealed that Al Gore hired Ms. Wolf…to help him with everything from his shift to earth tones to his efforts to break with Bill Clinton.” Clarence Page asserted the bogus fact too, in his syndicated Chicago Tribune column. “It was Wolf, Time reported, who persuaded the president to wear more ‘earth tones,’” Page erroneously said. Indeed, Morris went down the memory hole as journalists ran with the “earth tones” report. According to a NEXIS search, no one ever cited Morris as the source of the pleasing claim, while a wide range of writers falsely attributed the story to Time. Meanwhile, many scribes found an all-purpose way to avoid citing Morris’ “speculation.” They said that Wolf “reportedly” told Gore to wear earth tones, using an all-purpose word that lets a writer repeat any tale that has ever been said.

Amazing, they all referenced a fact that didn’t exist! It could be accidental, but it sure seems opportunistic. Dick Morris was and is an aspiring pundit and is not a big fan of Clinton/Gore and so is not a credible source; Time, on the other hand, is credible. Sure it was a trivial issue, but do you think the pundits are less sloppy on other issues? I guess you can’t believe something is true just because all the pundits are saying it. While it might in fact be true, it could just as easily be that pundits are lazy and find it easier to simply parrot each other. But where are the editors and fact-checkers?

AB

P.S. Try it yourself:

(1) Search Time (1/1/99-12/31/00) archives for “Naomi+Wolf”

(2) Search Time (1/1/99-12/31/00) archives for “Naomi+Wolf+Earth”

Note that the one hit from the second result is in the “Letters” section–I don’t have archive access, but this almost surely means that one letter referred to the Naomi Wolf story (that never mentioned earth tones) and some other letter mentioned the earth. Importantly, you can clearly tell that the word “earth” is not in the “Gore’s Secret Guru” story.

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Hey, Angry Bear, weren’t you blogging about Rawls?

Yes, I was, first here and then here, and there is more to come.

In the meantime, Matthew Yglesias has some thoughts on the issue:

I don’t think that’s really the best way to think about the issue [AB note: here, Matt is referring to my claim that “The open question is whether people behind the Veil of Ignorance really would choose to structure society in a way to maximize the minimum of well-being”]. It’s better to see that the purpose of the original position is to provide a formal model for a conclusion reached on independent normative grounds. In other words, Rawls sets up the original position the way he does because he thinks it leads to the conclusions he favors, and not the other way around.

I agree that Rawls likely had his Principles of Justice in mind first (it may well be documented in some of his writings), and then searched for a theory to justify them–a search that lead to the Veil of Ignorance/Original position argument. If this sounds backwards, it is–from a scientific method perspective. However, Philosophy is expressly normative, not positive, so this is not a weakness in Rawls’ approach.

In any event, if you are trying to use Rawls’ Veil of Ignorance to make a point, as Will Bailey and Eric Alterman recently did, I think you would start with the Veil and then try to get to the conclusion, in a Socratic fashion, not the other way around.

Matt’s site allows comments (something I should add someday), and his readers have interesting things to say. For example, a reader going by the name Ogged says “Not to put too fine a point on it, but you’re right, Bear’s wrong”, while an anonymous commenter says “Original postion deliberation doesn’t obviously lead to either Minimax *or* equal considerations of liberties. Why shouldn’t I be willing to swap unequal liberty (given some minimum: I’m not a slave, etc.) for a chance at more money?” This second commenter is making a statement about preferences and risk aversion, which I’ll talk about in my next (and final?) post on Rawls.

AB

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More Mankiw from MaxSpeaks

Max Sawicky finds two more nuggets in Prof. Mankiw’s books. Apparently, deficits do affect interest rates and the corporate income tax only hurts workers and customers of taxed corpotations, not the owners.

I agree with Mankiw on the former point; we’ll see if he changes his tune as part of his new job. As to the latter point, Mankiw only gets it partly right–when corporate income is taxed, the incidence is shared among all interested parties: shareholders/owners (who get less take home profits), workers (less are hired, wages may be lower), and customers (may pay higher prices and/or have fewer firms to choose from). I say Mankiw is partly right because, while a corporate income tax seems like it would only hurt the owners of a company, it also (but not only, as Mankiw’s quote insinuates) affects workers and customers.

AB

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Miscellaneous

Charges (wisely) Dropped

&C, even the liberal New Republic’s blog, has a pretty good roundup on the buzz surrounding Osama and reasongs why is Bush unexpectedly giving a press conference tonight at 8:00.

Alan Kreuger writes on the ballooning federal deficit. Items of note include Goldman, Sachs raising its estimate of the deficit for the current year to $375b (without including the war, and $75b higher than last OMB numbers I’ve seen)…”This dire predicament inspired the Committee for Economic Development, a nonpartisan business organization, to issue a report yesterday calling urgently for tax increases and spending cuts to put the government’s fiscal house in order. Unless corrective action is taken, the group warned, investment, productivity and living standards will suffer.”…”Although the group’s recommendation of higher taxes is unlikely to be popular, past experience with deficits suggests that tax increases are virtually inevitable before the decade is out. Even Ronald Reagan ended up raising taxes to try to make up for the big shortfall from the 1981 cuts.”

Wednesday is (well, was) Cartoon Day at Alas, a Blog.

AB

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