Home > Economics - General > Prebuttals, part 2

Prebuttals, part 2

June 13th, 2012

The facts about inequality in the US, and increasingly in other developed countries, are now so clear-cut that the defenders of the status quo have little solid ground left on which to stand. So, they are mostly confined to arguments that have already been effectively rebutted. As new talking points emerge, it’s become increasingly easy to pick them out before they are fully formed and have a prebuttal ready.

That’s the case with data showing that income inequality arises mainly from differences in current incomes rather than from inheritance. As I pointed out a couple of months ago, the absence of large inherited inequalities is a logical consequence of the fact that the distribution of income in the postwar generation was relatively equal.

Sure enough, here’s the prebutted talking point, stated by John Cochrane[1], who asserts

There are a lot of facts: the widening distribution comes from a skill premium, not inherited wealth.

He goes on with some older points, long rebutted

It’s new people getting rich, not the old rich keeping more money. It’s pretax income, not the rich keeping more money.  Consumption inequality is much less than income inequality. And so on.

In reality, income mobility is falling not rising, and the tax system has become less progressive not more. And I’ve dealt with the consumption inequality point here and here.

fn1. This is a bit disappointing to me. In his technical work in finance theory, which overlaps with mine, I’ve found Cochrane to be admirably precise in his analysis and sensible in his comments on the critical issue of the equity premium. But his contributions to the broader public debate over the past few years have been very poor (of course, there are plenty who say the same about me).

Posted via email from John’s posterous

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  1. June 13th, 2012 at 13:30 | #1

    My best friend has a degree in Acupuncture – he’s been practising for more than 20 years – he earns about $40K per year though he does not work as hard as many on the same income.

    I, on the other hand, have (among other things) a degree in computer science and many years experience that nets me a base income 4 times his – and sometimes as much as 10 times his.

    He and his wife own (outright) a house in the inner west worth something like $1.2 million – while i rent.

    He’s a millionaire but i’m not.

    He envies my income and i envy his wealth.

    I know lots of people like us – we are what makes up most of Sydney though i also know a few people who are downright bludgers too – eg one i know who has never worked in his 50 years, takes every cent he can get from the government and periodically does an insurance wrought – clever enough to earn a living by doesn’t want to.

    I know a few people who are struggling – single moms in the outer west trying to do their best and others the world would be well rid of as they are a multi-generational burden on those of us who can get no hand-outs and keep most of the system afloat.

    It’s easy to oversimplify – it’s easy to be judgemental – it’s easy to point the finger and make claims.

    I see a world where when the pie is growing everyone is happy but when the pie starts to shrink everyone becomes an animal.

    Side with the poor or side with the rich – if you are educated elite and employed by the state you are still sucking my tax dollars and doing with them nothing at all for me and mine.

    Especially if you are blind to my reality which seems to be something that Cochrane is not

    pop

  2. Ernestine Gross
    June 13th, 2012 at 15:39 | #2

    I’ve read John Cochranes’ article, referenced in JQ’s post. The sentence which struck me most in need for comment is:

    “I don’t mean that fairness or distributional questions are unimportant, just that economists don’t have any special insight into those questions.”

    I beg to differ from John Cochrane. While I can see that some specific policy questions regarding ‘fairness’ and ‘distribution’ are, in a sense, outside mainstream economics (because the answer depends on social norms and specific circumstances; a cultural matter), I do not agree that mainstream economic theory provides no special insights on these questions.

    Suppose we agree for the moment that ‘mainstream economic theory’ is, at its most basic level, a theory about the economic aspect of laissez-faire philosophy (‘free markets’, no government therefore no taxes and private ownership, competition, freedom of choice). Contrary to Cochranes’ assertion, I found all models of this type I have come across, provide clear insights on the topic of ‘fairness’ and ‘distribution’. Here are some of these insights:
    1. All people are perfectly fairminded – they take their endowments (physical resources and ownership shares of firms) as given, they do not attempt to steal from each other or kill each other to enrich themselves (no wars, no military, no police, no government required for this purpose.)
    2. These hypothetical people do have the freedom of choice and they can excercise this because they are assumed to have non-zero endowments (actually the minimum wealth constraint is stronger than saying positive endowments). This is a clear insight on the importance of wealth distribution. Furthermore, if these minimum wealth conditions were fulfilled in reality, then there would be no need for a government to collect taxes and redistribute the proceeds.
    3. Joint-stock companies are subordinate to people; Firms merely produce what people want and they pay the factors of production prices at which people are willing to work (‘shareholder value maximisation’ is a property of the soluton of the theoretical model but not an objective of these firms – this is an important distinction between a property of a solution of a theoretical model and advice for managers in the world we live in. It is a distinction which seems to be lost in all business school texts I’ve come across)
    4. Short-selling of financial securities causes a problem (contrary to Finance texts).
    5. Corporate managers are analytically indistinguishable from plumbers or other labour service providers. They have no privileges (nor have economic theorists, social commentators or priests). There are no corporate strategy meetings and no MBA courses on ‘strategy’. This is, IMO, a strong insight on social equality – monetary wealth does not bestow privileges (people have the right to eat themselves to death, if they want to, but consuming per se bestows no privilege) to anybody nor does ‘power’.

    These theoretical models force people to be logically consistent. Freedom of choice without fair play and without a sufficiently egalitarian wealth distribution is talk in the wind, and so forth.

    People all over the place are upset, angry and worried because during the past 20 to 30 years, the institutional changes have resulted in economies that are further away from the philosophical base, brought out in abstract theoretical models, than during the preceeding decades where governments had a stronger role to play in these economies. They feel cheated because all the talk in ‘freedom of choice’, ‘competition’, ‘free enterprise’ …. has resulted in something that many experience as oppressive and dictatorial.

    Surely, any hypothetical person in the theoretical models of ‘free markets’ would consider it totally unfair that those who engineered, knowingly or out of stupidity, the GFC, would end up as the ‘new rich’.

    JQ may not concur with me when I say a sensible ‘mixed economy’ is governed by policies that aim to come closer to theoretical ideals, even though the policies aren’t labelled ‘competition policy’, ‘free market’ policy, ‘privatisation policy’ and the notion of ‘fairness’ in these mixed economies will invariably reflect the cultural norms of the societies. There is no ‘one size fits’ all. There is no ‘world best practice’ in policies. There is one world but no one market.

  3. Ernestine Gross
    June 13th, 2012 at 15:54 | #3

    “There are a lot of facts: the widening distribution comes from a skill premium, not inherited wealth”

    And what is the relevant ‘skill’ that results in the said premium? The skill to use corporatist managerial power to redistribute wealth from the work force to the top? The skill in selling high risk equity portfolios as AAA-grade investment bonds? The skill in transferring profits to minimise global tax payments of corporations?

    Relax, Peak Oil Poet, not many people, if any, do envy your $4×40,000 or even $400,000 income at times, iff you actually work for it as an electronics specialist. Surely, you know that with your stated incomes you could get a property worth $1.2 million, if you want it.

  4. Ikonoclast
    June 13th, 2012 at 16:30 | #4

    It’s Micheal Stutchbury who writes crap (his word after all). To be criticised by ideologically blinded fools writing the boss’s propaganda for their supper is a badge of honour.

    On a whole range of issues the facts are now so clear cut that only delusionists out of touch with empirical reality can deny them. These issues include climate change, peak resources, inequality issues and “austerity” versus counter-cyclical spending just to name a few. Yet the delusionists are still winning politically on all fronts. How do we account for this? It certainly confounds me. Do we actually have to have a global disaster before things change?

  5. Ernestine Gross
    June 13th, 2012 at 17:41 | #5

    “Do we actually have to have a global disaster before things change?”

    A strict empiricist couldn’t do without it.

  6. Mel
    June 13th, 2012 at 18:54 | #6

    Ernestine- it may be best to ignore POP’s trolling. Don’t give the sad sack any oxygen.

    Well said, PrQ. Dateline on SBS had a good story last night on poverty in America. I wonder just how far things can go before their is a backlash.

  7. Freelander
    June 13th, 2012 at 22:58 | #7

    The US is heading for the rocks. There are so many unaddressed problems, and so many groups hate each other, the only cohesive force is imagined external threats. When China is number one, either the US will destroy themselves with spending on weapons trying to keep up, or they will recognise the rest of the world isn’t quite the threat they have imagined and then they will turn on each other. Can’t see the US making it to 2050 without disintegrating.

  8. rog
    June 14th, 2012 at 08:54 | #8

    http://www.federalreserve.gov/pubs/bulletin/2012/pdf/scf12.pdf

    The Federal Reserve Board’s Survey of Consumer Finances (SCF) for 2010 provides insights into changes in family income and net worth since the 2007 survey.1 The survey shows that, over the 2007–10 period, the median value of real (inflation-adjusted) family income before taxes fell 7.7 percent; median income had also fallen slightly in the preceding three-year period (figure 1).

  9. Freelander
    June 14th, 2012 at 09:57 | #9

    And remember rog. They’ve all got guns, and the more extreme ones are collectors of army surplus.

  10. Jill Rush
    June 14th, 2012 at 13:11 | #10

    The Liberals are keen to decry class warfare but are also keen on having an undereducated, underclass grasping for crumbs from the rich person’s table.

    The USA has many rabid armed right wing warriors who have a poor understanding of almost anything beyond making money or fighting cultural warfare. The lack of investment in education and health for the entire population is having a long term impact. On one side of the population there are highly educated, intelligent innovative people and on the other angry, armed, ignorant individuals who decry the state while happily pouring money into the military industrial complex. The growth of inequality is not good for democracy as people no longer identify with the nation but only their own community.

  11. Nathanael
    June 14th, 2012 at 19:27 | #11

    Skill? When it comes to CEOs, Cochrane is “right” — there is a premium for the “skill” of manipulating your way into CEO positions by schmoozing and bribery, and the “skill” of looting a company as fast as you can before the stockholders catch up with you, and the “skill” of bribing Congress and the SEC to look the other way (and crush those pesky stockholders).

    So yes, currently inequality is driven by a difference in “skill” — skill in thieving, looting, and defrauding. We don’t actually *want* to reward that skill difference, though! We want the “high-skilled” thieves and con artists in *prison*, whereas instead they’re becoming rich!

    That’s the “prebuttal”.

  12. Freelander
    June 14th, 2012 at 21:43 | #12

    There has always been a premium to awarded to bad behavior writ large; it is the smaller villians for whom crime doesn’t pay.

  13. socrates
    June 15th, 2012 at 13:22 | #13

    I think we need to recognise that there are a significant number of people (both wealthy and those who aspire to be wealthy) who do not value equality. They value inequality, asuming that they will be amoung the priveleged. Why be wealthy if there are no poor people to do your bidding? They want an underclass, so that they can be the upper class.

    This is not to disagree with JQ’s post, but to point out that it will not make the slightest difference on the Cochranes of the world. They do not argue in good faith. They seek to protect the status quo, because they like their (unequal) position in it. What we are seeing in the west today is not an economic argument, or even an ideological one. It is a power struggle, with those in power seeking to retain it, however badly they have recently misused it.

  14. Jim Rose
    June 15th, 2012 at 20:49 | #14

    socartes, many value inequality. John Rawls’ difference principle is an example.

    Professor Quiggin rightly identified Rawls as the starting point for political philosophy of progressives. Rawls was interested in the implications of different institutions of his conception of justice as fairness.

    Rawls was awake to the power of incentives. he advocated progressive consumption taxes because these taxes tax what people take out of the common store of goods rather than what they contribute. Progressive income taxes cannot be defended under the difference principle.

    Rawls was a profound thinker open to different interpretations. It is hard to disagree with his ideas of equal liberty, equal opportunity, and such inequalities that are to everyone’s advantage

    Many others value the principle of just deserts. People are rarely outraged when high incomes go to those who obviously earned them. the high incomes that generate anger are those that come from manipulating the system.

    The alleviation of poverty depends on increases in wealth that can only come through private innovation and technological advances. These have in fact produced major improvements in overall well-being, with disproportionate advances for the poor.

    No egalitarian theory can deliver on the promise to level differences in wealth without seriously compromising overall levels of social welfare.

    Economic development in Japan, the Asian tigers, and China and India did not break out of their grinding absolute poverty by worrying about relative poverty at one slice of time.

    Their prosperities came through the scattered efforts of innumerable individuals. They made themselves wealth through trading in the market. The main contribution of their governments was to lessen the dead hand of socialism, feudalism and mercantilism.

  15. rog
    June 16th, 2012 at 08:11 | #15

    @Jim Rose Is China, amongst others, now a example of individual freedom obtained by market forces?

    If anything inequality has been exacerbated in China with restrictive policies disadvantaging the rural poor.

    What is critical is equality of opportunity with resource distribution being used as a marker to identify inequities.

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