Arnold Kling

The Poor Get Richer

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Daniel Drezner assembles several items that refute the conventional wisdom that in the United States the poor get poorer as the rich get richer.


If you care only about income, the poorest percentage of the population made great strides during the late nineties, completely erasing any losses from the previous twenty years.

In my view, it is best to think of the distribution of income as an escalator, not as a pie. People near the bottom today tend to rise over time. They are replaced at the bottom by new immigrants and young families. Drezner quotes an Urban Institute Report that reports on a Treasury Department study which says, "An individual in the bottom quintile in 1979, in fact, was more likely in 1988 to be found in the top quintile than in the bottom one."

Thanks to Stephen Karlson for the pointer.

For Discussion. Should economists be concerned with the deprivations of the poor, the excesses of the rich, neither, or both?


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CATEGORIES: Income Distribution



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The author at Catallarchy.net in a related article titled The rich get richer, the poor get... richer? writes:
    (via EconLog) Daniel Drezner explains income inequality, showing that over 10 years, someone in the bottom quintile in 1979 was more likely to be in the top quintile than the bottom one. Among other points (2 other good ones, too).... [Tracked on June 3, 2003 11:31 PM]
COMMENTS (35 to date)
dsquared writes:

Arnold, I think you ought to revise this article. Currently it looks as if you're claiming that the Urban Institute endorses the claim of the Treasury Department study and it doesn't. The study in question is the infamous Hubbard one which has had its methodology torn to pieces over the last ten years. The Urban Institute "refer" to this study, true. But what they actually say is

"The impressive degree of mobility found in the Treasury study has been attributed largely to two factors. First, the restriction of the sample to only those households that paid taxes in all ten years introduced a bias toward the economically successful, as only half of all households met this criteria. Second, the study compared the 1988 incomes of those in the sample to the incomes of the population as a whole in 1988, thereby capturing the natural tendency of earnings to increase as individuals grow older, and identifying this as economic mobility. 14 That is, the average income of the sample would be expected to rise each year simply as a result of the individuals in the sample growing older and gaining more work experience. The average income of the population as a whole, however, would be expected to remain constant. To count this increase in income as a component of "mobility" is to use a significantly different definition of mobility than was employed in the other studies discussed above. Because the Treasury study makes no effort to examine change in an individual's relative position within the sample itself, its results cannot be compared to the other studies. "

I might as well say that, for example "Glenn 'Instapundit' Reynolds quotes a study by Michael Belesiles which says that gun ownership in early America was not widespread according to probate reports".

This is presumably a drafting error, but it's a fairly serious one.

I'd also like to suggest an alternative issue for discussion "Economists spend far too much time thinking about inequality of *income* and nothing like enough thinking about inequality of *wealth*".

Arnold Kling writes:

D-squared,
Thanks for your comment. When I read the Urban Institute Analysis, I did not see it as discrediting the Treasury study. They pointed out that it was limited to taxpayers, but they also pointed out that Cox and Alm found similar results with a broader study.

The Urban Institute and others do not want to count increases in earnings due to aging and experience as mobility. That is their choice. But I think of it as mobility, as my "escalator" metaphor clearly implies.

I can see wanting to use a measure of lifetime wealth instead of income. But should that measure be forward-looking (including expected future earnings)? If so, then by construction the only way that someone's wealth can change is with an unexpected change in earnings. That seems too strict.

Eric Krieg writes:

How can you not count increases in earnings due to aging and experience as mobility? Talk about cooking the books.

If you do that, the only way to decrease inequality is to limit the earnings on the high end, and perhaps redistribute their income to the low end. In doing so, you actually decrease mobility, properly defined.

You can either have an economy like the U.S. or modern China, with lots of mobility but lots of income inequality, or you can have Norway or Sweeden, with little inequality, but little growth and thus little mobility. You can't have it both ways.

David Thomson writes:

“You can either have an economy like the U.S. or modern China, with lots of mobility but lots of income inequality, or you can have Norway or Sweeden, with little inequality, but little growth and thus little mobility. You can't have it both ways.”

Indeed, an egalitarian society cannot have a superior economy. This is virtually an inherent impossibility. I am utterly convinced that equality should be an indirect consequence of our economic and social policies---and never directly pursued! The followers of the economic illiterate, John Rawls, have unwitting caused incredible damage.

Our expanding economy has done much to lift the boats of even our poorest citizens. They usually possess the ability to live a a far wealthier existence than those of more affluent means a relatively few decades earlier.

Bernard Yomtov writes:

"You can either have an economy like the U.S. or modern China, with lots of mobility but lots of income inequality, or you can have Norway or Sweeden, with little inequality, but little growth and thus little mobility. You can't have it both ways."

From the study cited:

"Aaberge, et al. (1996) consider income mobility in the United States and three Scandinavian countries (Denmark, Norway, Sweden), but do not examine quintile-to-quintile transitions, and are therefore less comparable to studies discussed previously. Nevertheless, their results (using a mobility measure based on the Gini coefficient) also indicate that income mobility is quite similar in the United States and other countries with significantly different labor markets. "

Eric Krieg writes:

Web address?

http://www.grad-inprowe.dk/Economics/kap1-Marginalization.htm

David Thomson writes:

""Aaberge, et al. (1996) consider income mobility in the United States and three Scandinavian countries (Denmark, Norway, Sweden)"

We should never forget that the United States basically pays for much of the defense of these countries. Any discussion concerning their economic vitality cannot ignore this most important, and expensive, aspect. The former Soviet Union would have likely conquered the Scandinavian nations if it were not for American military power. I believe that it might only be Denmark that is truly trying to pull its fair share of the load.

Eric Krieg writes:

http://www.frisch.uio.no/cv/frisch_aaberge.pdf

This guy is interesting, but I can't find the damn original paper on the net.

Based solely on the titles of Aaberge's post 1996 work, I question Bernard's interpretation of the paper.

Eric Krieg writes:

Frigging Norwegians! You have to PAY to get the paper.

http://www.ssb.no/cgi-bin/publsoek?job=forside&id=dp-168&kode=dp&lang=en

What are they, like capitalists now or something?

Eric Krieg writes:

Bada Bing

http://www.sofi.su.se/5-98.pdf

Bernard Yomtov writes:

It's not my interpretation. I haven't read the Aaberge paper.

It's a quote from the Urban Institute Report that Arnold links to.

Eric Krieg writes:

Read the paper, Bernard. I never trust the executive summary.

Paul Zrimsek writes:

It's all one to me whether the tendency of income to increase with age counts as "mobility" or not, so long as we're consistent. If you don't want it to count, fine-- but then you'd better use age-adjusted incomes when assessing the amount of (cross-sectional) inequality. Conversely, if you base your ideas about the amount of inequality that's out there on the raw data, then you're implying that the $30,000-a-year, 25-year-old trainee really is in a different class than the $120,000-a-year, 55-year-old vice president-- so when the passage of time turns the former into the latter you should count it as mobility.

My preferred measure of inequality would be an age-adjusted measure of consumption.

Bernard Yomtov writes:

No. I'm not going to read the paper. I was making the point that just randomly assuming that there's much less mobility in Scandinavia than the US is not justified.

I make no claim on the matter myself, and feel no obligation to defend any point of view. Maybe the assumption is right, maybe it's wrong. But at least there seems to be some question about the issue - enough that the answer can't be taken for granted, as you did without reading the paper either.

dsquared writes:

>>But should that measure be forward-looking (including expected future earnings)?

Absolutely not, for reasons set out by John Stuart Mill. Wealth is ownership of real and financial assets. Expected future earnings aren't part of wealth for the same reason that (unless you're Enron) they shouldn't be listed on a balance sheet; you don't have a right to them. A Harvard MBA will probably be enough to land you a £250K salary, but £2.5bn face value of 10% Treasury stock gives you a legal claim on that amount.

If we're talking about "wealth", we're talking about the question of "who owns what", and people don't "own" their expected future earnings in anything like the same sense in which they own their houses and treasury bonds. And most of the bad things about inequality are bad because of inequality of wealth, not income.

Eric Krieg writes:

Bernard, I don't see how a study released in 1996, which is based upon information from 1986 to 1990, is relevant. That time frame was before welfare reform, for example. Welfare reform most certainly was a driver of positive mobility in the late 1990s.

In contrast, for Scandanavia, the 1990s were a relatively tough time. Remember that in the mid ninetees, Sweeden actually elected a rather conservative government that moved to scale back the welfare state a bit.

Anyway, my first link there is to a proposal for a study that lists many of the problems with the 1996 study you reference. And the 1996 paper itself, which I linked to in my last post, is interesting because of how they define mobility.

Bernard Yomtov writes:

Eric,

The subject of mobility in Scandinavia is not one in which I have a great deal of interest. If you do then I encourage you to continue your researches and report on the results.

I have no idea which studies are sound, or relevant, or idiotic. The only thing I was trying to say with my initial post is that it is unwise to make statements on the topic without some investigation, since there appear to be differences of opinion. My impression was that you had made such a statement. Perhaps I was wrong and your post was well-researched. It didn't sound that way.

The whole subject of mobility strikes me as extremely difficult and prone to manipulation to prove political points. It is beset by problems of definition and data. Consider the Treasury study mentioned in Arnold's post. It uses only taxpayers, which clearly introduces a number of serious problems. Does it also use taxable income? Another bias. Does it distinguish between college students working part-time and full-time workers who fall into the same quintile?

And doesn't the use of quintiles introduce problems? Back to Scandinavia for a minute. Supose income levels are relatively flat there. Then it doesn't take much change in income to move to a different quintile.

Bernard Yomtov writes:

dsquared,

I thought it was correct to define wealth as present value of future income. Isn't that what the value of a financial asset is, after all?

You're saying that if I own some stock, that's wealth, but the MBA isn't. But the price of the stock is simply the present value of the cash it generates. Isn't it fair to say that value of the MBA can be similarly defined? In neither case is the cash flow guaranteed.

Eric Krieg writes:

Bernard, I agree with you about cooking the books. Just looking over the 1996 study, it seemed to me that their definition of mobility was almost arbitrary.

And as I got into it more, I kept thinking more and more about Charles Murray's book, "The Bell Curve". Income is extremely well correlated with IQ, because of the meritocratic nature of US society and the strong returns to education, which in itself is based on IQ.

So why should there be any mobility whatsoever? There might have been mobility in the '50s and '60s, when the meritocracy was being set up (mostly, when colleges admissions became based on objective measures of merit rather than class.)

When the starting salaries of the professions are well above the median income for the entire society, and when admission to the professions are based largely on IQ, you have a recipe for an economically stratified society with little income mobility. At least that's what you get theoretically, especially if IQ is heritable.

dsquared writes:

What cash flows does an MBA entitle you to? The coupons appear to have dropped off my certificate - where do I send them when I clip them?

>>In neither case is the cash flow guaranteed.

But a stock certificate gives you ownership of assets. If you own an equity, you have certain legal rights which the state will enforce on your behalf. If you've got an MBA, it doesn't entitle you to anything at all, whatever the Harvard class of '03 think. It's nice to be "expecting" a series of cashflows, but you should only record something as part of your wealth if you actually own it -- this is a lot of where Enron went wrong, as I say. There is a qualitative difference as well as a quantitative one.

David Thomson writes:

“If you've got an MBA, it doesn't entitle you to anything at all, whatever the Harvard class of '03 think. It's nice to be "expecting" a series of cashflows, but you should only record something as part of your wealth if you actually own it -- this is a lot of where Enron went wrong, as I say. “

Your point is only half correct. A Harvard MBA is not an absolute guarantee of wealth and an affluent lifestyle. Still, the overwhelming evidence indicates that one possessing such a degree will earn far more than the norm. It would therefore make sense for a bank or other lending institution to advance this individual with a few bucks to tie them over until the real money starts to roll in.

The Enron situation is a different kettle of fish entirely. The hopes of its top executives never came close to being reasonable. The premises for much of its evolving business model were fraudulent.

Neel Krishnaswami writes:

dsquared: I don't agree with you, because taking your view would preclude building derivatives markets for social insurance, as Robert Shiller suggests we do. I think he's onto a really important idea, because he's figured out how to expose social insurance schemes to market provision (rather than government monopoly provision) while minimizing the problems of adverse selection and moral hazard.

See his:

Macro Markets: Creating Institutions for Managing Society's Largest Economic Risks

The New Financial Order: Risk in the Twenty-First Century

(Full disclosure: I worked for Bob's company CSW for a few years, pretty much entirely because I was so impressed with his ideas.)

dsquared writes:

Neel: I read Macro Markets when it came out and was impressed. But I've always been sceptical of the proposal for precisely this sort of reason. I've never understood who would take the other half of these trades; society as a whole cannot step away from the risks of the economy as a whole. And there is, AFAICT, a fundamental asymmetry between the "hedgers" and "speculators" in this game, in that the natural hedgers would in general be poorer than the speculators in terms of their actual ownership of assets, and that this is a big problem.

In other words, I don't think it's prudent to match an expected value of future earnings asset (at best an equity-like claim on the macroeconomy) with a financial liability that is enforceable under law. Either we're going to people who get bad breaks in a generally bouyant market, or we're going to see a lot of default on these securities (destroying their ability to transfer risks), or there has to be some sort of clearing house arrangement (which would be indistinguishable in practice from a normal social security arrangement.

I never really found an argument in Shiller that his market-based social insurance had all that much to recommend it over a normal insurance-based solution other than a vague appeal to the efficiency of securities markets which looks odd in the wake of his other famous book ("Irrational Exuberance").

But I agree that it was a fascinating idea.

Bernard Yomtov writes:

Having an MBA certainly does not entitle you to any cash flows except what employers are willing to pay you.

Similarly having a building does not entitle you to any cash flows except what tenants are willing to pay you.

The law guarantees you neither employers nor tenants, nor dividends on your stock, for that matter. It provides some protection against not being paid under the terms of the relevant contract.

Tom writes:

I appreciate a lot of Dsqaured's comments, so I want to push him further on this topic.

>But a stock certificate gives you ownership
>of assets. If you own an equity, you have
>certain legal rights which the state will
>enforce on your behalf. If you've got an
>MBA, it doesn't entitle you to anything at
>all, ...

Since I don't have an MBA, I am subject to fraud charges and employment termination for cause if I claim an MBA among my qualifications for employment. If I get an MBA, I also get the right from the state to validate in court as legitimate the claim that I have one. This is kind of an esoteric claim, but then so are some derivatives.

>What cash flows does an MBA entitle you to?

Let me reiterate Bernard's point that if you own stock (e.g.s Enron, Worldcom) the cash flow you expect is also not guaranteed.

It seems to me that a bigger difference between stock shares and college degrees than the certainty of returns [especially many years out] is that there is no market where one can simply buy and sell high-valued degrees. Thus, it's easy to look at the market a estimate a value for your stock holdings, but imputing a cash value to your MBA is hard. Its even harder because the MBA is only a partial factor in the production of added income one might expect from it.

If I had some way to mark to market, maybe I should value a typical MBA is "lower of cost or market."

>It's nice to be "expecting" a series
>of cashflows, but you should only record
>something as part of your wealth if you
>actually own it.

If I were doing a decision theory analysis on whether or not to get an MBA, I would include in the decision tree my expecation about possible future increased earnings. Those earnings, however, would be a range of possibilities following a chance node (and thus my model would assume that the expected additional cash flow is variable, and possibly zero).

Here's another way to think about it. My father spent a lot of money on my undergraduate degrees. He burned real assets (ask him!). In Dsquared's analysis, did this value just vanish? I believe that I have gotten identifiable cash flow that is substantially attributable to these degrees. (In fact, my first starting salary offer was based on a company formula that included my degree and school.) Especially if we are talking about difference in wealth between classes (which I think is a concern at least of Dsquared), then things like degrees are "assets" that make a real difference in some groups having more future earnings potential than others.

Neil writes:

The value of an MBA degree is embodied in a person with that degree, and it should properly be called human capital. Although the present (cash) value of human capital can be analogous to the discounted present value of expected cash flows from an asset you legally own, such as an office building, a crucial difference is that you cannot actually trade your human capita in *as a whole* for a given sum at present time. The problem seems to be at least two-fold: one, slavery is illegal. Two, there’s immense moral hazard associated with a person cashing out entirely on her own human capital – once she has all her career’s worth of cash available in advance, where’s the incentive to work hard?

I recall Sanford Grossman discussed problems with market equitization of human capital in his presidential speech to the American Finance Association in the late 1980s.

dsquared writes:

Good points, Neil. But I still think that the fundamental one is; what is the state prepared to do for you? Bernard's example of owning a building doesn't work, unless he can come up with some analogy of the process which allows the owner to evict the tenants if they don't pay rent.

Trying another line, it was Joan Robinson who pointed out that capital ownership is not a productive activity, because "ownership" is not an activity. Income from bonds, equities and property just roll in while you sleep, snorkel or just lie around in an alcoholic stupor. Income from an MBA requires you to show up and create some decent facsimile of working. The illiquidity of this form of wealth is a lot of the reason why it's better to have £2m of 10% stock than an MBA, but it's not "mere" illiquidity of the sort that you get on the curb market. Human capital claims are illiquid because they can't be separated from the human being in which they reside.

Bernard has a good point on the analogy between an MBA and a New York taxi badge, but is this really the major source of value of the qualification? Furthermore, even if we agree that the reason people pay up for MBAs is that they are effectively government licences to extract monopoly rents, you can still only extract those rents by activity that you have to carry out yourself.

University educations are nice things to have, and everyone should get one, and they do help you earn more. But you're ignoring an important distinction if you assume that this is the same as owning something. And as I say, this is the same distinction that wasn't respected in the Enron and Worldcom cases; inappropriate capitalisation of earnings which were expected but over which there was no legal title. Ownership matters.

dd

dsquared writes:

Here's another angle of attack:

>>My father spent a lot of money on my undergraduate degrees. He burned real assets (ask him!). In Dsquared's analysis, did this value just vanish? I believe that I have gotten identifiable cash flow that is substantially attributable to these degrees. (In fact, my first starting salary offer was based on a company formula that included my degree and school.)

But this has ridiculous consequences if you try to count it as part of wealth. Presumably your father had always intended to put you through university. Therefore, we can say that these cashflows could have been expected from the moment of your conception. Without wanting to get into an abortion flamewar, I think it's pretty counterintuitive to believe that zygotes have assets. Or, perhaps your father had always assumed you were good-for-nothing and was planning to sell you to the gypsies, but one day you wandered into his study clutching a daffodil and his heart melted; was an asset created on that June day?

Your education provided you with cashflows, and it was worth having, but it's not something that you own.

Eric Krieg writes:

D2, it reads as if you are making legalistic and perhaps practical arguments. We need to be looking at the question from an economic standpoint.

Your expectation of your MBA is that you have become more skilled and more productive (let us not debate if this is true or not. For argument, it is true).

Your expectation is that an employer will increase your salary to reflect this increased productivity.

Other expectations? You gots to get the new Bimmer. And you'll be moving on up to the East Side, fer sure!

So clearly, the expectations of an increased lifetime income are there. Why wouldn't you allow, from an economic point of view, those expectations to be reflected in a net present value?

Bernard Yomtov writes:

"Bernard's example of owning a building doesn't work, unless he can come up with some analogy of the process which allows the owner to evict the tenants if they don't pay rent."

How about quitting your job and getting another if your boss doesn't pay your salary, not to mention suing for back pay? Of course all workers have these rights, but that is because having an MBA is just one version of having marketable skills.

Owning a building conveys no legal right to collect rent. Having a tenant under lease does. Similarly, an MBA conveys no legal right to a large paycheck. You must find an employer.

Still, it is true that cashing in on the MBA requires you to work. In this respect an MBA is like a hammer.

A hammer is wealth because you can drive nails more efficiently with it than with a rock. You can even list it on the balance sheet, under “equipment.” If you choose not to drive nails, the hammer does not produce income, just as the MBA produces no income if you are unemployed. But of course the unused hammer can be sold, unlike the unused MBA. (Can a hammer, necessarily solid, also be liquid? A question worth considering.)

So perhaps dsquared’s definition of wealth is that it either produce income with no effort on the part of its owner, or that it be saleable.

Well, I disagree. I think that human capital ought to be considered wealth. I think that a 25 year old with a newly issued Harvard MBA is wealthier than a 25-year old minimum wage worker, even though the latter may, for the moment, have a stronger balance sheet. I think we can define this difference in economic terms as the difference in the present value of future earnings. I think that if we are concerned about ill effects of inequality we should be more concerned about the minimum wage worker than the MBA.

Eric Krieg writes:

"I think that if we are concerned about ill effects of inequality we should be more concerned about the minimum wage worker than the MBA"

That's it, in a nutshell. Increasing skills increases mobility, at least as far as the individual is concerned. If everyone is becoming more skilled, then perhaps it is a wash for soceity as a whole. Maybe that explains some of the contradictory research.

dsquared writes:

>>Why wouldn't you allow, from an economic point of view, those expectations to be reflected in a net present value?

Because, as I noted above, it has absurd consequences when one tries to fit it into a national income accounting framework.

Eric Krieg writes:

"Because, as I noted above, it has absurd consequences when one tries to fit it into a national income accounting framework."

Note it again, because I don't see it in the thread.

Do you mean, "the average income of the sample would be expected to rise each year simply as a result of the individuals in the sample growing older and gaining more work experience. The average income of the population as a whole, however, would be expected to remain constant. To count this increase in income as a component of "mobility" is to use a significantly different definition of mobility than was employed in the other studies discussed above"?

If so, I don't see what the problem is.

Bernard Yomtov writes:

dsquared,

Aren't you playing some games around the meaning of "expected" and the calculation of PV's?

Consider a new college graduate who has been admitted to Harvard's MBA program and intends to enter in the fall. He may "expect" that his income two years hence will be that of a Harvard MBA, but his "expected" income, even allowing for two years of discounting, is clearly less.

The same, applies, in spades, to your wealthy zygote. And whatever the zygote's expected income, its income distribution has a huge variance, so the discount rate to be used in calculating PV needs to be substantial.

Thank you.

I was mistaking this site for one on economics.

Now I clearly know it is about political dogma only.

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