The Myth of American Inequality and Stagnation

In 2023 it’s no hot take to note that intellectuals and government officials on the political right are increasingly joining forces with intellectuals and government officials on the political left to demand greater government control of the economy. Of course, many details of the interventions proposed by conservatives differ from those proposed by progressives. For example, in their smorgasbord of favored interventions, conservatives are less likely than are progressives to feature policies meant to fight climate change. Also, the names conservatives attach to their interventionist schemes differ from the labels favored by progressives. Many conservatives today market their interventions under the platitudinous label “common good capitalism” while progressives lean toward branding their designs with some variation on the word “equitable.”

But at the root of both the conservative and progressive craving to infuse the state with even more power over the economy is the belief that for decades the American economy has served only the superrich while leaving ordinary Americans “behind.” The assertion that poor and middle-class Americans have for decades stagnated economically while the greedy, out-of-touch rich feasted on the spoils of their predatory embrace of “market fundamentalism” and “neoliberalism” is repeated so often and widely across the ideological spectrum that it’s taken to be a fact as incontestable as is the proposition that 2+2=4.

But this assertion about the economy isn’t merely contestable, it’s utterly false, as is known by any open-minded person paying attention to more than headlines, clickbait, soundbites, and politicians’ harangues. As early as the mid-1990s, economist Michael Cox and his co-author Richard Alm began debunking the already-by-then conventional wisdom that starting in the mid-1970s the American economy was failing everyone but the superrich. Cox’s and Alm’s 1999 book, Myths of Rich & Poor, is an early and still-relevant classic that debunks this conventional wisdom.

This debunking continued apace in the 21st century, with careful and well-documented research by (among others) William Cline, Terry Fitzgerald, the late Steve Horwitz, Scott Lincicome, Mark Perry, Alan Reynolds, Stephen Rose, Bruce Sacerdote, Michael Strain, and Scott Winship. This research proves beyond even doubts unreasonable that poor and middle-income Americans have over the past several decades enjoyed substantial gains in real income and well-being. The familiar trope, at least as it might apply to America, of the rich getting richer, the poor getting poorer, and the middle classes treading water is disproved by devastatingly large amounts of empirical evidence.

Such evidence continues to accumulate, and nowhere more impressively than in Phil Gramm’s, Robert Ekelund’s, and John Early’s brilliant 2022 book, The Myth of American Inequality. (Full disclosure: Bob Ekelund, in the 1980s at Auburn University, supervised my doctoral dissertation. He and I are friends and we’ve co-authored papers together.)

This volume is stuffed from start to finish with impeccably documented empirical conclusions, accompanied by straightforward explanations of how the data supporting these conclusions were assembled and what they mean. It is a research tour de force. I recommend that everyone read its every page. But for those of you who won’t read the book – or to convince those of you who are on the fence about reading it to actually do so – below, and continuing in my next column, is a summary of some of Gramm’s, Ekelund’s, and Early’s (GEE’s) most important findings.

GEE convincingly show that most of the misunderstanding about changes over time in the economic welfare of both non-rich and rich Americans stems from two major flaws in processing and assembling economic data. The first of these major flaws is the Census Bureau’s failure to add to the incomes of lower-income Americans many of the economic benefits that are transferred to them by government, while simultaneously failing to subtract from higher-income Americans’ reported incomes the amounts they pay in taxes. The second of these major flaws is the common practice of adjusting for inflation by using the Consumer Price Index – an index known for almost 30 years to substantially overstate the rate of inflation.

There are, in addition to these major flaws, other sources of misunderstanding, such as erroneously concluding that what happens to an average (for example, the hourly wage of the average manufacturing worker) necessarily describes what happens to flesh-and-blood individuals. But cleansing the data of the many errors caused only by these two major flaws alone reveals a much rosier picture of the economic condition of ordinary Americans.

In their Introduction, GEE summarize their key findings:

Remarkably, the Census Bureau chooses to count only $0.9 trillion of that $2.8 trillion in government transfer payments as income for the recipients of those transfers, counting only eight of the more than one hundred federal transfer payment programs and only a select number of state and local transfer payment programs. Excluded from the measurement of household income are some $1.9 trillion of government transfers – programs like refundable tax credits, where beneficiaries get checks from the Treasury; food stamps, where beneficiaries buy food with government-issued debit cards; and numerous other programs such as Medicare and Medicaid, where government directly pays the bills of the beneficiaries.

Americans pay $4.4 trillion a year in federal, state, and local taxes, 82 percent of which are paid by the top 40 percent of household earners. Even though most households never see this money, because it is withheld from their paychecks, the Census Bureau does not reduce household income by the amount of taxes paid when it measures income inequality.

The net result is that in total the Census Bureau chooses not to count the impact of more than 40 percent of all income, which is gained in transfer payments or lost in taxes. The Census data-collection process is the finest in the world, but the assumptions it makes concerning what to count as income distort every statistical measure that incorporates its measure of income. The Census Bureau is accurately measuring what it has chosen to measure, but it is not measuring the right things.

So what happens to the picture of Americans’ incomes when we take fully into account government transfer payments and taxes? Here’s one happy result:

[W]hen you count all transfer payments as income to the households that receive the payments, the number of Americans living in poverty in 2017 plummets from 12.3 percent, the official Census number, to only 2.5 percent.

And here’s another:

[W]hen you include all transfer payments and taxes and look at changes in income inequality over time, you find that income inequality is not rising. It has in fact fallen by 3.0 percent since 1947 as compared to the 22.9 percent increase shown in the Census measure.

Further adjusting household receipts – especially by including the value of employer-paid benefits (which the Census Bureau also wrongly excludes from its data on income) – leads GEE to this sensible conclusion:

[I]t is much harder to argue that the top quintile of households gets too much and the bottom quintile gets too little when the top gets 4.0 times as much rather than the official Census measure of 16.7 times as much.

The picture gets even prettier when account is taken of the fact that higher-income households generally have more members than do lower-income households; specifically today, households in the top income quintile have an average of 3.10 members while households in the bottom income quintile have an average of only 1.69 members:

On a per capita basis the top quintile has only 2.2 times as much income per person living in the household as the bottom quintile, a considerably smaller difference than the 4.0 times as much without any adjustment for household size. But the blockbuster finding is that on a per capita basis the average bottom-quintile household receives over 10 percent more than the average second-quintile household and even 3 percent more than the average middle-income household!

About what they call “the blockbuster finding,” GEE correctly argue that it is evidence that government transfer payments dampen many Americans’ work incentives – a dampening that over time likely prevents these household-income figures from being even more encouraging than they already are.

What about absolute poverty? GEE make clear that in America it has been all but eliminated:

Among families defined as poor, hunger has been virtually eliminated, inadequate housing has all but disappeared, and the amenities of daily life have expanded. These data constitute definitive, independent verification of the vast historical reduction in poverty from 17.3 percent of our population as the War on Poverty began to only 2.5 percent in 2017.

These positive facts about the American economy, like those that I’ll report in my next column, are not welcomed by professors, pundits, and politicians who itch to subject the economy to greater government control. If the economy is doing well for almost all Americans rather than for only the superrich – if income inequality isn’t very high or growing – if absolute poverty is nearly conquered – the case for interventions such as income redistribution, industrial policy, and a larger welfare state collapses. So facts such as those that are amply reported by Phil Gramm, Bob Ekelund, and John Early must either be dismissed or ignored. Dismissing these facts is impossible, as these are assembled with scholarly integrity into a compelling picture of American economic success. The only remaining option is to ignore them – an option that I trust readers of this column will not choose.

The post The Myth of American Inequality and Stagnation was first published by the American Institute for Economic Research (AIER), and is republished here with permission. Please support their efforts.

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