The Price of Inequality: How Today's Divided Society Endangers Our Future (53 page)

70.
The CBO, “Trends in the Distribution of Household Income,”
concluded, “The equalizing effect of transfers and taxes on household income was smaller in 2007 than it had been in 1979.” For instance, while the share of the market (before taxes and transfers) income of the top 1 percent doubled between 1979 and 2007, the after-tax and transfer share
more
than doubled, from 8 percent to 17 percent. At the other end of the spectrum, the bottom 20 percent of the population’s share of after-tax and transfer income fell from 7 percent to 5 percent.

71.
Bureau of Labor statistics, Table A-4, Employment status of the civilian population 25 years and over by educational attainment, seasonally adjusted, February 2012,
http://www.bls.gov/news.release/empsit.t04.htm
(accessed March 25, 2012) and Bureau of Labor Statistics, “College Enrollment and Work Activity of 2010 High School Graduates,”
http://www.bls.gov/news.release/hsgec.nr0.htm
(accessed March 25, 2012).

72.
K. Bischoff and S. F. Reardon, “Growth in the Residential Segregation of Families by Income, 1970–2009,” November 2011, available at
http://cepa.stanford.edu/sites/default/files/RussellSageIncomeSegregationreport.pdf
; and Sean F. Reardon and Kendra Bischoff, “Income Inequality and Income Segregation,”
American Journal of Sociology
116, no. 4 (January 2011): 1092–53.

73.
K. Hoff and A. Sen, “Homeownership, Community Interactions, and Segregation,”
American Economic Review
95, no. 4 (2005): 1167–89.

74.
As Ross Perlin has described in
Intern Nation
(London: Verso, 2011).

75.
In the New World colonies with higher inequality at the outset of colonization, institutions tended to evolve in ways that restricted to a narrow elite access to political power and opportunities for economic advancement. New World colonies with lower initial inequality followed a very different path of institutional development. Engerman and Sokoloff have discerned this pattern in a wide range of public policies over many centuries: in the right to vote, public schooling, the distribution of land and other public natural resources, banking laws, taxation, and patent institutions. See Kenneth L. Sokoloff and Stanley L. Engerman, “History Lessons: Institutions, Factor Endowments, and Paths of Development in the New World,”
Journal of Economic Perspectives
14, no. 3 (2000): 217–32; and Sokoloff and Engerman, “Factor Endowments, Inequality, and Paths of Development among New World Economies,”
Economia
3, no. 1 (2002): 41–109. An overview of the effects of initial inequality on institutional development is K. Hoff, “Paths of Institutional Development: A View from Economic History,”
World Bank Research Observer
18, no. 22 (2003): 2205–26.

76.
Kenneth R. Feinberg, whom President Obama appointed to oversee bank executive compensation has argued that nearly 80 percent of the $2 billion in 2008 bonus pay doled out by troubled banks was unmerited. By 2010 bonus pay had fully recovered—at just the twenty-five top public traded banks and security firms, it had hit $135.5 billion, or almost 1 percent of GDP. Louise Story, “Executive Pay,”
New York Times
, December 5, 2011, available at
http://topics.nytimes.com/top/reference/timestopics/subjects/e/executive_pay/index.html
. See press release of the report at U.S. Treasury’s website, “The Special Master for Tarp Executive Compensation Concludes the Review of Prior Payments,” July 23, 2010, available at
http://www.treasury.gov/press-center/press-releases/Pages/tg786.aspx
(accessed February 15, 2012).

77.
Warren Buffett, Chairman and CEO of Berkshire Hathaway, in a 2002 letter to his shareholders wrote that “derivatives are financial weapons of destruction, carrying dangers that, while now latent, are potentially lethal” on page 15 of the report. That report can be accessed here:
http://www.berkshirehathaway.com/letters/2002pdf.pdf
(accessed on March 21, 2012).

Angelo Mozilo, former Countrywide CEO, one of the worst purveyors of the kinds of mortgages that brought on the crisis, earned around $470 million between 2001 and 2006.
Wall Street Journal
, November 20, 2008, available at
http://online.wsj.com//files/06/08/33/f060833/public/resources/documents/st_ceos_20081111.html
. Now deceased, Roland Arnall, former Ameriquest founder (and ambassador to the Netherlands under President George W. Bush), had an estimated wealth of $1.5 billion. The parent of that company paid a settlement in 2006 of $325 million in relation to deceptive loan practices—for which it admitted no wrongdoing. When that company failed, the divisions of the parent were folded into Citigroup. See
http://www.nytimes.com/2008/03/19/business/19arnall.html
.

78.
Unjust Deserts: How the Rich Are Taking Our Common Inheritance and Why We Should Take It Back
(New York: New Press, 2009), p. 97.

79.
The problems with executive compensation have been highlighted—and explained—by Bebchuk and Fried,
Pay without Performance
. They point out that managerial discretion—the ability of executives to set their own compensation schedules—has resulted in pay structures that effectively decouple pay from performance and misalign incentives. Michael Jensen and Kevin Murphy, “Performance Pay and Top-Management Incentives,”
Journal of Political Economy
98, no. 2, (1990): 225–64, provide empirical evidence of the very loose link between pay (including options, stockholdings, and dismissal) and performance. Henry Tosi Jr. and Luis Gomez-Mejia provide an explanation, related to the separation of ownership and control (agency theory) discussed above. I also discuss these issues in greater detail in
The Roaring Nineties
.

80.
So too, the banks have connived with the CEOs, to help them “extract” more money out of their firms, in return ensuring that the banks make excessive profits. The bank-CEO collusion was exposed by the scandals that marked the beginning of the century (involving bank analysts, Woldcom, Enron, accounting firms, etc.) and is described more fully in Stiglitz,
The Roaring Nineties.

81.
James K. Galbraith,
Inequality and Instability: A Study of the World Economy Just before the Great Crisis
(New York: Oxford University Press, 2012).

Chapter Four
W
HY IT
M
ATTERS

1.
A few countries in transition from communism to a market economy, as well as some resource-rich countries, are making strides to usurp its unfortunate position.

2.
Arjun Jayadev, “Distribution and Crisis: Reviewing Some of the Linkages,”
Handbook on the Political Economy of Crisis
, ed.
G. Epstein and M. Wolfson (forthcoming), based on T. Piketty and E. Saez, “Income Inequality in the United States, 1913–1998,”
Quarterly Journal of Economics
118, no. 1 (2003): 1–39.

3.
Karen E. Dynan, Jonathan Skinner, and Stephen P. Zeldes, “Do the Rich Save More?,”
Journal of Political Economy
112, no. 2 (2004): 397–444.

4.
For the United States the short-run multiplier is normally estimated to be around 1.5; but what is relevant in a long-term downturn is the multiperiod, long-term multiplier, which is larger, more like 2. (Note that many conservative economists argue that the multiplier is smaller, but this is because much of the data upon which they draw entails periods in which the economy is at or near full employment, so that as the government spends more, monetary authorities engage in offsetting contractionary actions. In the current context, the Fed has committed itself not to increase interest rates.) There are a number of other technical reasons to expect the multiplier in the current context to be large: (a) much of the money that is not spent in the United States (“recycled” here) goes to buy imports, and with so much of the world’s economy weak, this spending increases incomes abroad, leading in turn to more purchases from the United States; (b) individuals and firms, seeing incomes rise, may become more confident in the economy, leading to more investment and consumption (this is sometimes referred to as the “confidence multiplier”); and (c) in particular, households, anticipating high incomes in the future, are more willing to spend today.

5.
Peter Orzsag, “As Kaldor’s Facts Fall, Occupy Wall Street Rises,”
Bloomberg
, October 18, 2011. The wage share declined by 5 percentage points from 1990 to 2011, but 3 percentage points from 2005 to 2011 alone. Nicholas Kaldor, a noted Cambridge University economist of the midtwentieth century, had claimed that, by and large, the share of labor was constant. While technological change may increase the demand for some types of labor and decrease it for others, there is no general theory about what should happen to the share of labor. If technological change increases the “effective” supply of labor, and labor and capital are not very substitutable, then technological change drives down the share of labor. But the pattern of increase of wages—with wages at the very top (e.g., of bankers) increasing so much relative to that of others—is consistent with the view that something else besides technological change is causing the decline in the wage share.

6.
For a more complete telling of this story, see J. E. Stiglitz,
The Roaring Nineties
(New York: Norton, 2003).

7.
For a closer look at how these tax cuts benefited the rich, see Joel Friedman and Isaac Shapiro, “Tax Returns: A Comprehensive Assessment of the Bush Administration’s Record on Cutting Taxes,” Center on Budget and Policy Priorities, April 23, 2004. Friedman and Shapiro estimate that in 2004 the middle 20 percent income earners reaped about 8.9 percent of the tax cut windfall, while the top 1 percent got 24.2 percent. Those earning over a million dollars alone gained 15.3 percent of the benefit. See also “Extending the Bush Tax Cuts Is the Wrong Way to Stimulate the Economy,” report by the Joint Economic Committee Majority Staff, Chairman Charles E. Schumer; Vice Chair Rep. Carolyn B. Maloney, April 2008.

8.
In 2004 private non–real estate investment was 11.59 percent of GDP, as compared with 13.97 percent in 2000. See “Flow of Funds Accounts of the United States, 1995–2004,” Board of Governors of the Federal Reserve, table F.6, p. 4, available at
http://www.federalreserve.gov/releases/z1/Current/annuals/a1995-2004.pdf
(accessed March 3, 2012).

9.
The theory (and some of the evidence) explaining why the dividend tax cut may have been bad for investment is set out in Anton Korinek and Joseph E. Stiglitz, “Dividend Taxation and Intertemporal Tax Arbitrage,”
Journal of Public Economics
93, nos. 1–2 (February 2009): 142–59. See also the references cited there.

10.
See, e.g., “The Estate Tax and Charitable Giving,” Congressional Budget Office, July 2004, available at
http://www.cbo.gov/doc.cfm?index=5650
(accessed February 15, 2012).

11.
See J. E. Stiglitz,
Freefall
(New York: Norton, 2010),
for a more complete telling of the housing bubble and its immediate aftermath.

12.
While many of the big instances of deregulation are well known, deregulation has had pervasive effects. Even though the government had, in effect, given a gift worth billions of dollars to the TV companies, it became reluctant to impose restrictions. In 1985, guidelines for minimal amounts of nonentertainment programming on TV were abolished. FCC guidelines on how much advertising can be carried per hour were eliminated. See
http://www.pbs.org/now/politics/mediatimeline.html
.

13.
The distinction between the short term and the long term is important, for two reasons. When restraints are removed, others too engage in similar practices, and
if
markets are competitive, the seeming profits quickly disappear. In the long run, at least in the financial sector, the banks may actually have lost substantial amounts (or would have, had the government not given them so much money), because of the instability to which their excesses gave rise.

14.
The link between inequality, the credit bubble, and the economic crisis was laid out in Stiglitz,
Freefall
, and “Report of the Commission of Experts of the President of the United Nations General Assembly on Reforms of the International Monetary and Financial System,” September 21, 2009, available as
The Stiglitz Report
(New York: New Press, 2010). Since then, a large literature on the subject has developed. See, e.g., M. Kumhof and R. Ranciere, “Inequality, Leverage and Crises,” IMF working paper, 2010; and Raghuram G. Rajan,
Fault Lines: How Hidden Fractures Still Threaten the World Economy
(Princeton: Princeton University Press, 2010). For a survey and references, see J. E. Stiglitz, “Macroeconomic Fluctuations, Inequality, and Human Development,”
Journal of Human Development and Capabilities
(2012).

I’ve argued that inequality, even high inequality, may not necessarily lead to crises; there are other ways of responding to the deficiency in aggregate demand that may result, and other fortuitous circumstances that can fill the gap. That is not inconsistent with the empirical findings in Michael D. Bordo and Christopher M. Meissner, “Does Inequality Lead to a Financial Crisis?,” NBER Working Paper No. 17896, March 2012.

15.
At least in the short to medium term. Modern growth theory—see Robert M. Solow, “A Contribution to the Theory of Economic Growth,”
Quarterly Journal of Economics
70, no. 1 (February 1956): 65–94—has emphasized that in the long run the growth rate is determined by the pace of innovation (productivity increase) and population growth. Higher instability may lead to less investment in research and development, and thus a slower pace of increase in productivity.

16.
Some parts of the market, in particular the large banks, act in a risk-loving way and have been a major source of the volatility in the economy. There are four possible explanations for this behavior: (a) Organizational incentives: the large banks actually push off much of the risk to government, because they are too big to fail. (b) Individual incentives (agency problems): those inside the bank have incentives that encourage risk taking. (c) Self-selection: in any society there are those who are risk loving, and they are especially attracted to the financial sector. (d) Pervasive irrationality: those in the financial sector systematically underestimate risk; and their investors do not understand the risks of leverage and underestimate its consequences.