Part 1: In Which I Read Books and Provide Backstory
This is a long 5 part blog series in which I will attempt to convince you that global income inequality is a malady whose most likely cure is worse than the disease. I formed this belief after reading several recent economics books on the topic: The Great Leveler by Walter Scheidel, Capital in the 21st Century by Thomas Picketty, Global Inequality by Branco Milanovic, and The Rise and Fall of American Growth by Robert J. Gordon. Where it is worthwhile, I’ve referenced these authors and used their graphs and charts, but for anyone interested in the topic, I would recommend reading the books in full as they provide a fascinating deep dive into the topic.
I’ve structured this series as follows:
My thesis and the supporting evidence is pretty depressing, but I want to get started on a positive note. Even though I am going to strenuously argue that there is no historical evidence that peaceful mechanisms can reverse the current trends in income and wealth inequality, I still believe they are worth trying because they have such tremendous upside. If current voters and policymakers pull off a large and persistent reduction in income and wealth inequality, I believe it will lead to incredible improvements in human life. It would also break a trend of violence and suffering going back as far as recorded history. It would, in short, be a momentous event in which I want to participate.
Backstory
I grew up in rural Ohio in a town of 7,100 people. Back in the 1940s and 1950s, the town had several major industrial manufacturers. GE was making light bulbs, a GM contractor was making car parts, there was a metal grinding factory, and a brick factory. As with most of the rust belt, by the time I moved there in 1998, all of these industries were either dying or dead and many people in the town commuted the 70+ miles up the interstate to work in Columbus. My Dad worked at the incongruously located Ohio EPA office in town and my mother made the 30 mile commute to Ohio University where she was a subject librarian. And so despite the economic decay, I had a stable upbringing.
A representative photo of downtown Logan, Ohio.
By the time I became aware of national politics, I had spent all of my formative years in the rural midwest and had come to understand the emotionally raw sense of injustice about the national economy shared by many of my classmates’ families.
I left for college and studied economics. Eventually I made my way out to Silicon Valley, where I became a product manager at a big tech company, creating products that increase inequality by making capital ever more efficient. A full 10 years after leaving the midwest, I still frequently ponder the disconnect between the liberal macroeconomic worldview that pervades California and the reality of forgotten places like my hometown. During Obama’s administration and into Trump’s, I was equally baffled and dismayed at the rhetoric concerning income inequality. Washington technocrats condescend to “help” the common man without an understanding of life on the ground. At the same time, Republican policies work against the economic interests of those who are most in need.
So I set out to learn whether history could teach us anything about how societies become so unequal. I discuss this in greater detail in part 2, but it seems clear that we arrived here because the rate of return on capital has been greater than the economy’s growth rate since the mid-1970s. That led me to wonder whether it was possible to unwind that dynamic to get to a place that’s better for almost everyone except a tiny minority of wealthy people.
What I learned in the course of that research convinced me that although I think it is our moral duty to pursue peaceful ways to reallocate wealth, history suggests the odds of that working are very slim indeed. The most likely paths to meaningful income and wealth redistribution are too horrible to wish on our enemies.
Income vs Wealth
Let’s contrast “income” (how much money you make) with “wealth” (how much money you have). When discussing economic inequality, many headlines play fast and loose with the distinction between income and wealth. There is a huge difference between the two, but we mostly talk about income. Why? It’s simpler.
Most adults have been an employee and understand the experience of being paid for their labor. This familiarity makes it easy to draw emotional reactions from readers. If I told you I was paid $1 million this year, it would be easy to understand the human experience that lead to that paycheck: I probably went to an office somewhere, did something nondescript, and I got a check with lots of zeros on it handed to me by a guy in a suit. It’s concrete and it’s easy to feel cheated because yearly pay of $1M would be 33x the per capita income in the US. Without a time machine, it’s not physically possible to work 33x more hours, so there must be something grossly unfair about that setup.
Income is also just less complex. The average net worth of a household in the US in June of 2019 is just shy of $100,000. Most of that wealth is home equity. That’s pretty easy to explain: I saved a bit of cash, I bought a house and that’s my wealth. But for rich folks, wealth is a lot harder to explain. To make it into the top 1% of household wealth in the US, you’d need ~$10M. For those households, it’s unlikely that more than 10-20% is home equity and the remainder is not in a checking account. Even a very conservative household in this wealth bracket owns a broad mix of financial instruments: things like ISOs, RSUs, common stock, index funds, mutual funds, bonds, treasuries, and CDs to name just a few. As you move from top 1% to top .1% wealth, things get even more exotic with complex financial instruments, ownership stakes in hedge funds, stock puts, shorts, and a grab bag of stuff that I’m not wealthy enough to explain.
In short, wealth looks very different between the middle class and the rich, and even more different between the rich and the hyper rich. As an example, imagine trying to explain what a REIT is to someone that lives below the poverty line and rents a hotel room week to week. The distance in comprehensibility is even greater between the middle class and top .1% of wealthy households. While it’s possible to do what I just did and emotionally explain the difference, it’s much easier to just talk about income. And so that’s what most people talk about.
And that might be for the better, because wealth inequality is far more stark than income inequality. Right now in the US, top 1% household incomes are defined as those above ~$420,000, which is “only” about 7x the real median household income of ~$60,000. Top 1% wealth, however, starts at around ~$10M for households, which is ~100x the real median average household wealth of $100,000. In other words, wealth is about 14x as concentrated as incomes.
Since wealth is so much more concentrated than incomes, I think it makes sense to look at it visually. The chart below from Picketty’s Capital in the 21st Century provides a good overview of just how much wealthy people own in a society. The US is currently in the second-to left column “High Inequality.”
This graph is taken from Picketty’s Capital in the 21st Century.
To slice this data differently (and provide a more up to date estimate of wealth inequality), I would recommend checking out this infographic from the Independent and Credit Suisse’s global wealth report.
Conclusion
In Part 2 of this series, I establish that the world today isn’t all that unequal by historical standards, explain why the rich get richer and the poor get poorer, and provide a brief explanation for why our standard of living is approximately equal to the standard of living in 1940.
Optional Glossary of Terms
I have tried to write this series without the use of unnecessary economics jargon, but some jargon is unavoidable, so I’ve put together a quick summary of terms that will help explain what I’m talking about.
The Gini Coefficient is the most common way to measure income inequality. It measures the inequality among values of a frequency distribution. A Gini coefficient of zero expresses perfect equality, where all values are the same. A Gini coefficient of 1 expresses maximal inequality among values. To illustrate this with an example, if you had $100 and 100 people, a Gini coefficient of 1 describes the circumstance where 1 person has $100 and the remaining 99 have $0. A Gini coefficient of 0 describes the circumstance where every person has $1. Although the Gini Coefficient is imprecise and fails to clarify the exact nature of the inequality (by overlooking income or wealth inequality patterns among specific centiles, for instance between the top 10%, 1%, and .1%), it is how journalists talk about this subject. As a result, I’ve chosen to use it for this series even though Picketty’s capital/income ratio is a more precise tool. For reference, in the US today, the Gini Coefficient is .41.
Capital is any possession that generates income for its owner. Historically, most capital has been farm land, but today, the majority is either homes or financial assets (stocks, bonds, etc).
The rate of return to capital (denoted “r” in this series) is the amount of money, expressed as a percent, that a capital asset generates for its owner on a yearly basis. For instance, if you had $100 invested in a stock and you received a $5 dividend after one year, the rate of return on capital would be 5/100 or 5%. Historically, the rate of return for most capital assets has been surprisingly constant -- 4-5%.
GDP. Gross domestic product is a measurement of how much value a national economy produces. There are a lot of different ways to get at this measurement, all of them complex. For the purposes of this blog series, you can think of it just as “the value of all the stuff that a country creates.”
Productivity growth. Although this one seems simple on the surface, it’s actually quite complex. Productivity growth is a concept that economists made up to explain how a person today can create far more widgets per unit time than a person in 1700. Many people think of productivity growth as another word for machines, but it’s more than that: it incorporates everything from knowledge, to processes, to abstract social agreements like property rights.