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increasing inequality may actually be a bad thing!
Source Jim Devine
Date 06/06/26/15:38

June 25, 2006/New York TIMES

Economic View
Income Inequality, and Its Cost

By ANNA BERNASEK

INEQUALITY has always been part of the American economy, but the gap
between the rich and the poor has recently been widening at an
alarming rate. Today, more than 40 percent of total income is going to
the wealthiest 10 percent, their biggest share of the nation's pie in
at least 65 years. The social and political repercussions of this
disparity have been widely debated, but what about the effects on the
economy?

Oddly, despite its position in the political debate, the question has
received little attention from economists. Mostly, they have focused
on measuring income inequality and establishing its causes. Some
research has been done, however, and the results, including insights
from related disciplines like psychology and political science, are
disturbing.

Start with recent findings in the field of public health. Some
scientists believe that growing inequality leads to more health
problems in the overall population a situation that can reduce
workers' efficiency and increase national spending on health,
diverting resources away from productive endeavors like saving and
investment.

Sir Michael Marmot, a professor of epidemiology and public health at
University College London and director of its International Institute
for Society and Health, has spent most of his career studying the link
between inequality and health around the world. In a much-publicized
paper published in May in The Journal of the American Medical
Association, Sir Michael and three colleagues studied health in the
United States and in Britain. They found that at various points
throughout the social hierarchy, there was more illness in the United
States than in Britain.

Sir Michael theorizes that a reason for the disparity was the greater
inequalities in the United States and heavier stresses resulting from
them.

Other researchers have focused on how income inequality can breed
corruption. That may be especially true in democracies, where wealth
and political power can be more easily exchanged, according to a study
of 129 countries by Jong-Sung You, a graduate student at the Kennedy
School of Government at Harvard, and Sanjeev Khagram, a professor of
public affairs at the University of Washington in Seattle.

Corruption, of course, can hurt growth by reducing the efficient
allocation of public and private resources and by distorting
investment. That may end up creating asset price bubbles.

Unchecked inequality may also tend to create still more inequality.
Edward L. Glaeser, a professor of economics at Harvard, argues that as
the rich become richer and acquire greater political influence, they
may support policies that make themselves even wealthier at the
expense of others. In a paper published last July, he said, "If [!]
the rich can influence political outcomes through lobbying activities
or membership in special interest groups, then more inequality could
lead to less redistribution rather than more."

In the United States, there is plenty of evidence that this has been
occurring. Bush administration policies that have already reduced the
estate tax and cut the top income and capital gains tax rates benefit
the well-to-do. It seems hardly an accident that the gap between rich
and poor has widened.

There may be other ways in which growing inequality hurts the economy.
Steven Pressman, professor of economics at Monmouth University in West
Long Branch, N.J., has identified a psychological effect that may
lower productivity and reduce efficiency. Professor Pressman draws on
the work of Daniel Kahneman, a Nobel laureate in economics, and his
experiments on fairness. One experiment, called the ultimatum game,
involves two people with a fixed sum of money that must be divided
between them. One person is to propose any division he likes; the
other can only accept or reject it. If the division is accepted, each
person receives the proposed amount; if it is rejected, neither gets
anything.

It might be expected that a rational individual in the role of divider
would take a large part of the money and that rational receivers would
accept a small portion rather than walk away with nothing. But it
turned out that when faced with an offer they considered unfair, most
people rejected it outright. Perhaps in anticipation of this, many
dividers made substantial offers.

Professor Pressman relates those results to economic behavior in
corporate America. "If a C.E.O.'s salary is going through the roof and
workers are getting pay cuts, what will happen?" he said. "Workers
can't outright reject the offer they need to work but they can
reject it by working less hard and not caring about the quality of
what they are producing. Then the whole efficiency of the firm is
affected."

THE effects of income inequality aren't entirely negative. Without
some inequality, there would be little economic incentive to earn
more. And some researchers, particularly advocates of supply-side
theories, predict that as the rich get richer, their increased wealth
will be used for greater savings and investment, thereby bolstering
growth. The latest data on the American economy, though, do not seem
to support this prediction.

Savings among top income earners have actually declined. According to
the Federal Reserve's latest Survey of Consumer Finance, the
percentage of families in the top 10 percent by income that saved
anything at all dropped to 80.6 percent in 2004 from 84.3 percent in
2001. And this was during a period when President Bush cut top
marginal income tax rates and taxes on capital gains and dividends.

The trend of growing income inequality may eventually be reversed, but
at the moment, current policies appear to be worsening the situation.
If more researchers turned their attention to the subject, they would
find plenty to explore.

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