With all the brouhaha going around regarding income and wealth inequality, the question that is rarely asked is why inequality is something to abhor. As I wrote last November, whether inequality is a bad thing is not the right question – what matters more is your standard of living.
Imagine that you earn $40,000 a year and your boss doubles you at $80,000 a year. Business was good to you both in 2013, and you received a 25% raise for your efforts. Not bad, and your boss gets to share in this good fortune too with an extra $25,000 (about 30%). You’re going to make $50,000 in 2014 and your boss will pull in $105,000.
Are you happy with this deal? Probably. But wait, income inequality just increased! Your boss originally outpaced you by 100%, but now his salary is 110% higher than yours.
We can reverse the example and try to eradicate this new found inequality from the system:
Instead of having a great year, imagine things were very bad and salary cuts are going around. You get a 25% pay cut so that you will now be earning $30,000 a year, and because he has more responsibility about the direction of the business and its lack of success, your boss gets a larger pay cut of $25,000. (This situation is the mirror image of the first example.)
You are making much less than you did last year. Are you upset about this? Probably. But wait, apparently there is a silver lining. Your boss now “only” makes about 80% more money than you, versus the 100% salary differential that existed last year. Income inequality decreased!
Maybe all the hullabaloo over whether inequality is on the rise is an answer to the wrong question. Still, in the back of most people’s minds there exists the notion that some forms of inequality are worse than others. No one likes someone who doesn’t play by the rules, and the thought of unearned or unwarranted wealth seems to be what has people upset.
Thomas Piketty thinks that the growing divide between the haves and the have nots is caused by a lack of educational opportunities, a too low minimum wage and an insufficiently progressive income (and wealth) tax system. That could be, but I can’t fathom how the period of time that he considers the wealth divide to be growing has done so in light of the fact that the Western world has 1) more educated citizens and more opportunities for education than ever in history, 2) a minimum wage which even adjusted for inflation is quite high by historical standards, and 3) a highly progressive tax system for at least 99% of the population.
Maybe the answer is much easier. After all, his central thesis that the wealth divide has grown since the mid-1970s. This is easy to reconcile with much research that shows that income inequality has grown over this same period.
As I’ve wrote about before, the bottom 99% of income earners performed very well until 1973. That was the fateful year that the 1% surged ahead and never looked back.
What happened in the early 1970s to explain the divergence? Maybe it was the end of the Bretton Woods system, and with it any nominal restraint on the Federal Reserve (and other central banks) to inflate at will.
When Austrian economists talk about “non-neutral” money, income inequality is, in a way, illustrative of their point. New money has to enter the economy somewhere. Someone has to spend it. Those who get early access to central- and bank-created money get to spend it first. That has the effect of pushing up prices, and in the process impoverishing everyone else.
Since late 2008, the Federal Reserve increased the monetary base by over $3 trillion dollars (about a 350% increase). That’s almost $10,000 for every man, woman and child in the United States. Do you remember receiving a cheque in the mail signed by Ben Bernanke or Janet Yellen? Don’t worry, I didn’t get one either.
But someone did. The financial system serves as the intermediary between the central bank and the business and consumer communities. It distributes the money created at the whim of the central bank. It is also in a position to buy assets at the old prices with the newly issued money and in the process push their prices up so that the rest of us have to dig deeper into our pockets to make ends meet.
If you’re worried about income or wealth inequality, why not go to the most obvious source. End central banking and take the unearned advantage away from the financial sector that everyone seems to be pointing the finger at anyway.
David Howden is Chair of the Department of Business and Economics, and professor of economics at St. Louis University, at its Madrid Campus, Academic Vice President of the Ludwig von Mises Institute of Canada, and winner of the Mises Institute’s Douglas E. French Prize. Send him mail.