David R. Henderson  

Henderson on Economic Inequality

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[L]et us consider two historical figures of twentieth-century American history. The first came to prominence in the late 1940s, when he invented a light one-man chainsaw, and sold more than 100,000 of them at a price that made him quite rich. That added slightly to wealth inequality. But although the wealth gap between this man, inventor Robert McCulloch, and his customers was higher than it was before, the customers got a product they valued that made their lives easier. In economists' terms, the wealth of these customers increased slightly. Is that increase in wealth inequality a problem? When I've asked college students this question, the vast majority says no--and I agree.

Now let's consider the second figure. In the early 1940s, as a Congressman from Texas, this man defended the budget of the Federal Communications Commission when a more senior member of the House of Representatives was trying to cut it. So the FCC owed him a favor. One FCC official suggested the politician have his wife apply for a license for a radio station in the underserved Austin market. She did so and within a few weeks, the FCC granted her permission to buy the license from the current owners. She then applied for permission to increase its time of operation from daylight-hours-only to 24 hours a day and at a much better part of the AM spectrum--and the FCC granted her permission within a few weeks. The commission also prevented competitors from entering the Austin market.

These moves made Lyndon Johnson and his wife very rich. When he ran for President in 1964, the radio station accounted for over half of his $14-million net worth. This increase in his wealth added slightly to wealth inequality. But customers in the Austin market were, due to the FCC restrictions on further radio stations, slightly less well off than if more stations had been allowed. When I tell this story to college audiences and ask them if they think there's an important difference between McCulloch's and Johnson's methods of increasing wealth inequality, virtually all of them do, and few will defend the latter way.

This is from by David R. Henderson, "Income Inequality Isn't the Problem," Defining Ideas, Tuesday, February 20, 2018.

Here are the final two paragraphs:

If the problem we care about is poverty, then the calls to tax the rich and reduce income inequality are misguided. Instead, we should be cheering for policies that lead to higher economic growth. One other important measure is increased immigration. Allowing more immigration into the United States would allow people to move from low-productivity jobs in poor countries to higher-productivity jobs in America. That would dramatically improve the plight of the poor while also improving, but by a smaller margin, the well-being of the rich. Piketty, for all his faults, put his finger on how to do so. He wrote: "A seemingly more peaceful form of redistribution and regulation of global wealth inequality is immigration. Rather than move capital, which poses all sorts of difficulties, it is sometimes simpler to allow labor to move to places where wages are higher."

Amen, frère.

Thanks to Emily Esfahani Smith for doing an excellent job of editing.

Comments and Sharing

COMMENTS (10 to date)
Chris writes:

Your first example is a generally positive example of our patent system at work. In theory, it should grant an exclusive right to an invention for long enough for the inventor to make a reasonable profit. We can debate the correct length of exclusivity to balance profit and social good, but I don’t know many people that would argue against put patent system as an idea.

The second example is somewhere between corruption and an enforced monopoly, which is unethical and bad for the general welfare.

I would guess that neither of these are the largest contributors to inequality and if inequality was driven by invention alone and not primarily by monopoly power, investment and banking, there would probably be significantly less inequality and a different sentiment regarding it.

Inequality isn’t the problem; the correlated continued growth in inequality and the related power imbalances are the problem.

Mark writes:

I would agree with Chris that corruption and rent-seeking like in the second example probably aren't the biggest drivers of equality, but I don't think the biggest reasons for increasing wealth inequality are particularly nefarious.

The single biggest factor, imo, is the aging of the general population, increased expected length of retirement, and increased time people spend in education and training, are the main factors. It's likely that most of what we're seeing in the numbers is not attributable to a growing difference between line workers and executives, or between Wall st. bankers and everyone else, but between 50 or 60 year old professionals with sizable savings needed for a long retirement, and 30 year old (more or less equally well-off) professionals with negative net worth due to college, medical/law school, debt, and new home loans. Or, with income, it's the difference between a doctor or professor with 20 years of experience and a medical resident or postdoc (or a retired doctor or professor).

In other words, it's growing inequality between different stages in professional cycles, which is not necessarily a problem to be corrected. To the extent that it is, it's an issue related to professional licensing (the AMA, the bar associations, etc. being the main villains).

Another big factor is that some companies in certain sectors, like tech, have become highly profitable despite being in fairly competitive industries; Apple, Alphabet, and Amazon come to mind. This inequality is also, imo, not a problem to be solved. It's more analogous to the first case.

Brandon Berg writes:

It's probably worth citing Bagchi and Svejnar here.

Shane L writes:

When discussing minimum wage with friends, I find that they often scoff that an increase of a few cents could cause people to lose their jobs. I say: "supposing the minimum wage was made $10,000 per hour". They admit that this would be devastating and most legal businesses would be ruined. I then say: "so somewhere between zero and $10,000 per hour, the minimum wage begins to have a harmful affect".

In a similar sense, I have begun to worry more about income inequality in recent years. Supposing one person owned 99.99% of the income of a country. That person could hire vast armies and weapons to conquer the state and oppress the people. Hence it seems obvious that at a ridiculous extreme, income inequality is problematic. Somewhere between perfect equality and perfect inequality, I imagine it begins to become harmful. (Of course it may begin to become harmful at extraordinarily high levels, unrepresented in the real world.) My point, then, is that surely income inequality is potentially dangerous, but I don't know if it becomes so only at unrealistically high levels.

Incidentally, I would have thought income inequality (within a country) gets worse with immigration. As native people increase in wealth, the lower-income tail of the distribution is refreshed with poor immigrants.

All that said, I don't want to nit pick too much as I broadly support the point of the post; income inequality is probably overrated as an issue of concern.

David R Henderson writes:

@Shane L,
I address this issue somewhat in my talk I'm giving at Webber International University on Thursday.

Matthias Görgens writes:

Shane, immigration eases income inequality between countries. Your observation about effects in the receiving country might be right (but are not a problem).

V.L Elliott writes:

Regarding immigration, there is an implicit assumption in the arguments of Piketty and others about the immigrants themselves. They assume basic good will on the part of the immigrants. This does not allow for those who come for political purposes that are counter to the host population's purposes or who come for criminal purposes nor does it allow for the recruitment of immigrants of good will by either politically subversive or criminal elements. There are further implicit assumptions about the host government of good will, responsible behavior and competence. While these assumptions are analytically convenient I suggest that they have become or are becoming less accurate. In the US, established Central American gangs, Mexican Cartels and Islamist extremists combined with inadequate understanding on the part of host governments provide sufficient reason to re-consider the assumptions, especially since they are usually implicit rather than explicitly stated.

Adam writes:

Great examples!

David R Henderson writes:

@Brandon Berg,
Thanks for the link. That IS valuable.

Daniel Gravois writes:

Those are good examples on income inequality, but it seems to me that the case of Bill Gates is more comparable to that of Carlos Slim than suggested. Gates’ company sold software and the government granted his company exclusive rights on the sale of that software—a monopoly called copyright. Microsoft’s main product was valuable, and this accounts for part of Gates’ wealth and the success of his company. But Johnson and Slim too had valuable products; only, a free market would have provided better at lower costs. Being sympathetic to the free-software and open-source movements, I think the exclusive rights granted to Microsoft were the harmful kind of government interference.

Copyright as a government interference can be seen as a workaround that makes information goods excludable to prevent a free-rider problem from occurring. But copyright law as implemented does this poorly, because it has copyright terms too long, high enforcement costs, rent seeking by some organizations, retroactive copyright extensions, copyright trolls, and because it applies to all works rather than only those that would not have been produced without. I think a true free market could, at lower costs for society, have provided an operating system better than Microsoft’s, and this in the public domain, using perhaps Tabarrok’s dominant assurance contracts to provide the required incentive.


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