Baby Bear Inequality

Thomas Edsall discussed the concept of Just Right Inequality in Tuesday’s NY Times. Hence the title for this post.

Edsall explored whether there is a level of inequality that is “just right,” enough to incent hard work and innovation, but not so great as to stifle demand and create social instability.

The concept of an optimal level of inequality seems intuitively obvious to anyone who rejects communism. But Edsall’s piece is valuable, because, without trying to do so, he exposes the hollowness of the arguments against our acting to counteract inequality.

After discussing the views from across the spectrum, Edsall pivots away from the question of optimal inequality, without reaching a clear conclusion, to a discussion of the political realities surrounding it. Ultimately, he concludes:

With recent history as a guide, the smart handicapper will take the safe bet on the power of money over demographics. For the moment, the political reality is that the Democratic Party does not have the stomach to seriously engage the issue of inequality, and remains far too conflicted to take on the concentration of power and income at the top. Those benefiting most from the system as it is will continue to determine the operative definition of optimal inequality. 

The takeaway from Edsall’s piece, however, is not the obvious point he makes regarding the political clout of those at the top.

Rather, it is the lameness of the arguments on the right. To understand that, a good starting point is the argument of Richard Freeman in support of the concept of optimal inequality:

One of the most articulate contemporary proponents of the “optimal inequality” thesis is Richard Freeman, a labor economist at Harvard. In a 2011 paper, Freeman wrote: “Is there a level of inequality that optimizes economic growth, stability, and shared prosperity? My answer is yes. The relation between inequality and economic outcomes follows an inverted-U shape, so that increases in inequality improve economic performance up to the optimum and then reduce it.”

Freeman argues that the costs of excessive inequality are high: “Inequality that results from monopoly power, rent-seeking or activities with negative externalities that enrich their owners while lowering societal income (think pollution or crime), adversely affect economic performance. High inequality reinforces corruption by allowing a few ‘crony capitalists’ to lobby politicians or regulators to protect their economic advantages. When national income goes mostly to those at the top, there is little left to motivate people lower down. The 2007 collapse of Wall Street and bailout of banks-too-big-to-fail showed that inequality in income and power can threaten economic stability and give the few a stranglehold on the economy.”

I agee with Freeman, but it’s really simpler than that. I tend to lean fairly heavily towards socialism, but even I will readily acknowledge we need some level of inequality to reward work and  innovation. Redistribution to the point of total equality, therefore, would be sub-optimal, to say the least. At the same time, a society where all the income flowed to a few families, with the rest of us mired in poverty, obviously would crash the economy. Somewhere in between those extremes must lie an optimal level of inequality. Freeman’s U-shaped curve seems to be indisputable.

When you turn to the arguments made by Casey Mulligan, Robert Barro and Gregory Mankiw, they’re not disputing this concept. Instead, they make arguments against excessive redistribution or in favor of inequality in the abstract.

Essentially, the arguments made to Edsall from the right do nothing more than validate the premises that support the concept of an optimal level of inequality.

Why the obfuscation? Because once those on the right acknowledge that there is a “baby bear” level of inequality, they’ve lost the argument. The only way that would not be the case is if they could convince folks that our society is not unequal enough. Good luck with that.

[Note: On a related topic, Jonathan Ostry, the deputy research director of the International Monetary Fund, had a piece in Monday’s Financial Times, We Do Not Have to Live with the Scourge of Inequality, discussing the results of research he and two colleagues conducted to determine the impact of modest levels of redistribution on economic growth.

Ostry and his colleagues come down definitively on the side that at least modest redistribution is beneficial. I tried to cut and paste a quote, and came across a stern embedded warning from our friends at the Financial Times, so I’ll just repeat the link here. It’s worth the read]

3 responses to “Baby Bear Inequality

  1. Piketty’s analysis doesn’t hold up to even casual review. He is correlating income distribution with tax rates. Who cares? What we are interested in is helping the poor, not hurting wealth creators. Studies need to look at outcomes for the poor as a function of policy. You also have to hold everything constant, looking just at those who were poor in 1983 and follow them forward.

    Then you look at the class of poor in 1984 and follow them forward. This chort analysis is critical for making sense of policy.

    When you do this, you can see that the United States became the land of opportunity in 1983 and this accelerated in 1986.

    • Execpt the poverty rate bottomed in the ’70s and increased during the terms of Reagan, Bush 41 and Bush 43, and the median income has barealy budged in real terms since Reagan took office.

  2. Great job, Bob. I am looking forward to you talk at Drinking Liberally Tucson next Wednesday.