Inequality is a concept related to poverty but covers a wider scope. It does not focus on the poor alone but to the poor and all other groups in society relative to the entire population.
Inequality is also about fairness. It is about how fairly a society distributes its income or wealth to its members, and how well it attends to the needs of its people and their welfare.
“Equality, like fairness, is an important value in most societies Inequality can be a signal of lack of income mobility and opportunity―a reflection of persistent disadvantage for particular segments of the society.” It is important study inequality because of its impact on country’s economic growth and stability. It implies not only a distribution of income, wealth and benefits, but also of power. “It can concentrate political and decision making power in the hands of a few, lead to a suboptimal use of human resources, cause investment-reducing political and economic instability, and raise crisis risk.”
Inequality covers a wide range of concepts and ideas. However, for better organization and understanding distinguishes two concepts: (1) inequality of outcomes (measured in terms of income, wealth or expenditure; and, (2) inequality of opportunities (circumstances beyond a person’s control). Inequality of outcomes is a result of available opportunities and how a person optimizes these.
Inequality can also be understood in the context of welfare or “‘relative’ poverty, defined as having little in a specific dimension compared to other members of society”. Inequality is a relative concept and may vary from country to country. However, similarly situated countries may have some common “societal norm”. This societal norm or ‘relative poverty line’ is thus used an individual’ or group’s position in society with regard to income. “Inequality measures can be calculated for any distribution—not just for consumption, income or other monetary variables, but also for land and other continuous and cardinal variables.”
Inequality has many dimensions that could include such “ethical concepts such as the desirability of a particular system of rewards or simply mean differences in income”. Most measures use quantifiable and available data. The measures thus define inequality as “the dispersion of a distribution, whether that be income, consumption or some other welfare indicator or attribute of a population”.
Commonly-Used Inequality Measures
Four of the more commonly used measures are the following: (1) Gini-coefficient of inequality; (2) Theil-index; (3) Decile dispersion ratio; and (4) Share of income/consumption of the poorest x%. The measures are essentially ratios of the income or consumption of a particular group relative to the total. The measures show the share of the different income groups of the total income.
Advantages and Disadvantages of the Inequality Measures
The Gini coefficient is the most popular among the measures of inequality. Its advantage is that it is easy to understand. It can be plotted on a chart be interpreted immediately. Its disadvantage is that the subgroups measures cannot be added to derive the total. It is sensitive to movements between two individuals. It also no weighted: the top and bottom groups are given equal importance.
The Theil-index is similar to the Gini coefficient. Its advantage is that it is the different subgroups can be added and get the same total. Its chief disadvantage is that it is difficult to interpret. Its interpretation is not straightforward. It is also very sensitive to changes in the distribution. Any movement between two individuals could affect the overall findings.
The decile dispersion ratio is an estimate of the spread of two groups in income distribution. It is essentially like a normal curve. Its chief advantage is thus readily understandable. Its disadvantages are: (1) It is very much vulnerable to extreme; values and outlayers, especially in case of estimates from small samples”: and, (2) It has “no axiomatic basis: it is not derived from principles about equity”.
The share of consumption estimates the proportion of the consumption of the poorest group to the total income or consumption. Its advantage is that it is easy to understand. Its advantage is that it is focused only on one group. In a sense, this is good if society is trying to understand how the poor live. However, it ignores the high and middle income groups.
The Gini coefficient
The Gini coefficient is a range of number between 0 and 1—with 0 meaning complete equality, and 1 meaning complete inequality. The number is expressed in percentage. So, the higher the number is, the worse the inequality situation. It is half the average of paired values of deviations between people in relation to the mean income. World Bank uses the Gini coefficient for its index of inequality levels in different countries.
US compared to other countries
Based on available data of World Bank Gini Index (2016), the US has a fairly high Gini coefficient of 41.1 in 2013. Data from other countries were surveyed in different years from 2011 to 2013. The US’s level of inequality is close to some countries in South America like Argentina with 42.3; El Salvador, 43.5 and Uruguay, 41.9.
Among the high income OECD countries in Western Europe in the list, the US trails behind. The countries are clustered together with Gini coefficient of less than 40.0, Spain with the highest at 35.9. The other countries in the list have the following Gini coefficients: Austria, 30.5; Denmark, 29.1; Finland, 27.1; France, 33.1; Germany, 30.1; Luxembourg, 34.8; Norway, 25.9; Sweden, 27.3; Switzerland, 31.6; and the UK, 32.6. The US trails even the heavily indebted countries: Greece, 36.7; Ireland, 32.5; and Portugal, 36.0.
The inequality problem in the US is clearly serious compared with those of other high income countries. The problem truly needs to be addressed.
Explanations for rising US inequality
Some explanations or theories
There are actually numerous explanations or theories for inequality. For almost each type of inequality, there could be several causes. Only five of these theories were chosen for discussion.
Conflicting or non-inclusive policies and vested interest
The problem with many policies is that they were designed to serve mainly the interests of large financial institutions. Many policies are non-inclusive. Opportunities for ordinary people have been closed. They have been left out inadvertently in many policies.
Policy and law makers usually come from rich families. They are connected to other rich families and many large corporations. The interests they would seeking are inevitably their own. Even well-intentioned policies could be detrimental to the poor. For instance, any action to cut health care and welfare benefits would certainly save the government a substantial amount of money. However, this would adversely affect the lower income members of society. Health care expenses can be huge. If the poor people will have to carry that burden their effective income would become much lower. Their assumed income is actually much lower. In comparison, the rich would not have these problems. For one thing, they can afford such expenses easily. Even if they have to pay for these costs, these would not make a dent on their income. Their status would remain the same. Moreover, the rich also enjoy such benefits from their work. After all, the higher the position and the higher the pay a person has in a corporation, the more benefits that a person can enjoy. There are no laws preventing organizations from doing that. Organizations cannot also be forced to provide the same benefits to the ordinary employee as the benefits that accrue to higher corporate officials.
Government does not also offer relief to ordinary people in the event of a crisis as what happened in 2008. Banks and other huge finance organizations were bailed out by the government when many of these institutions caused the crisis in the first place. Ordinary people were left on their own to find solutions to their mortgage and other financial problems brought about by the organizations that the government assisted. Worse, even bonuses of highly paid executives were covered by the bail-out.
The pay structure in organizations seems to have helped aggravate the inequality . CEOs and other senior officers can be paid by as much as 65% of minimum wage employees. The justification is that the CEO has much more economic contribution to the organization as well as to society so they deserve to be paid that much. Unfortunately, there are no policies to prevent companies from paying their executives too much. There are also no policies or taxes that would help redistribute that kind of income.
Incomes of CEOs and senior officers are supposed to be either “market-determined” or “peer-determined”. Demand for certain investment executives are very high because of their performance. Unfortunately, their performance seems to have been brought about by fraud. Since part of CEO and senior compensation package are partly in the form of stock options, these executives practically determined their own compensation as they manipulation information to boost stock prices. However, research indicates that “CEO pay is not set by the market, but rather set by gifts from peer CEOs who sit on compensation committees, and because bulk of CEO top-executive compensation since the late 1990s consists of stock options which in a significant number of cases have been fraudulently manipulated”.
These fraudulent activities have led practically the entire world into a crisis and contributed to the rising inequality everywhere. These things would not have occurred had policies been more strict and unbiased.
Globalization, importation and outsourcing
The US is a member of many trade organizations so it has to abide by their rules. For instance, it cannot adopt protectionist economic policies as these would violate some agreements. It can also suffer from backlashes that could worsen the situation.
Goods manufactured in the US can be uncompetitive in the world market. US-made products can cost much more than competing products because of the high cost the labor component. The cost of labor in Third World countries is very low. It has thus become more cost efficient to outsource certain aspects of operations to countries like China and India.
Not only are manufacturing activities being outsourced but also business processes. New technology has allowed all of these to happen. Also, other countries have also developed to be able to accept such work from advanced nations.
Immigration and importation
Immigration has the effect of increasing the manpower available in the labor market and crowding out the existing labor force. Immigrants—both legal and illegal—may be willing to accept lower wages (even lower than the set minimum wage). They can effectively pull down the wages of certain industries or in certain locations. Their impact seems to be mainly on fellow immigrants or foreigners already working in the US and unskilled workers.
Recent developments in Germany illustrate how immigration could pose other problems. The influx of refugees from Syria to Germany adversely affected the country’s economy. Given the huge number of refugees has put a strain on Germany’s resources and services—like housing, education, health care, and welfare—otherwise intended for its people. The same problem may be affecting other European countries that opened their doors to the refugees.
With globalization and freer trade among countries, importation of goods services can also have some impact on income inequality. The free entry of cheap imported goods could undermine the profitability of US-based companies. Some of these goods have competitively high quality but are sold at very low prices. If sales of US-made products are negatively affected, some companies may cut down on production which in turn could lead to cut downs in labor. Lower profitability can lead to lower employment or wages.
Inheritance and mobility across generations
Nothing illustrated better the state of US inequality than inherited wealth of a few families. “Consider the Walton family: the six heirs to the Wal-Mart empire command wealth of $69.7 billion, which is equivalent to the wealth of the entire bottom 30% of US society.” The Waltons are new wealth. There a few other families that owns the wealth of the nation.
French economist Thomas Picketty perceives a return to the economic situation of 18th and 19th century. “Capital” was controlled by only a few people or families. The economies at that time where highly unequal; only a few controlled the wealth.
Much of this old wealth has been passed on to later generations mainly by inheritance. The wealth continues to grow. The heirs of the wealth need not have to work. They earn mainly from passive income. It is partly a result of ‘rigid class structure’ back then.
Inequality has worsened in the US today because the conditions of the past have returned. Through the maneuverings of the wealthy and the industry CEOs and leaders, laws have been enacted to favor the rich. Understandably, the legislative bodies are practically controlled by the rich. Most elected public officials come from wealthy families as they are the only ones can afford to run for elections.
In the early 20th century, two major shocks—World War I and World War II—shook the world and broke down those rigid class structures. Such shocks—plus the Depression and the stock market crash—forces government to rethink policies and allow the poorer sectors to enjoy some levels of prosperity.
Apparently, new financial policies have protected the rich and the wealthy. Old wealth has not been redistributed. There have been no policies to address the redistribution or tax the old wealth. They have remained protected through the years.
Technological innovation and invention have generally been welcome developments. They increase productivity and make manufacturing processes more inefficient. Unfortunately, they also come with a price. They require new skills, usually higher level skills. These skills also require higher level of education. Existing manpower in a factory may have to be laid off if they do not meet the skill levels demanded by the new equipment. They will have to be replaced by fewer people because the new machines are much more efficient. This is a problem not only in the developed world but also in EMDCs.
New technology can alter an industry altogether. It can bring about a major discontinuity. Old ways of doing things can completely change with the introduction of new technology.
Two most plausible theories
In addition to those mentioned above, there are two other theories that are perhaps more important and more credible explanations of income inequality. These are: education and financial deepening.
Education perhaps has the most profound impact on inequality. Its impact could for a very long time and for several generations. After all, it takes a long time for people to acquire a good education. Education affects inequality in many ways.
The lack of education closes opportunities even to entry level jobs. People lacking or without education will not be accepted in most organizations. They will not be able to perform any job requiring certain skills; even if they are able to they will likely have very low productivity.
Even if people are educated, there could be a mismatch between the skills people have and the available jobs. Sometimes, this could happen in the event of discontinuities. Technological innovations and inventions could lead in major shakeups in some industries. Previously skilled workers can suddenly become unskilled or not needed anymore because of new technology.
The availability of low cost quality education is also a problem. Good schools are very expensive. Scholarship, student aid and assistantship programs are open only to the smartest students. Most people are not that smart. Only the rich could afford these schools. So, even before the poor enters the job market, their opportunities have already been limited because education opportunities had already been limited for them. The possibility of their getting high paying jobs is very small.
Another problem of education is its long-term impact and implications. Some poor people are not able to go get higher levels of education because parents do not have the means to do so. These parents do not earn enough to send their children to school because they themselves had not had any good education so they are not able to get good jobs to earn higher incomes. Their children may have the same problems with their own children. Even if the children themselves work hard and aspire to get higher education, they may not be able to do so. Jobs and educational or financial services are not available for them.
Financial deepening and inclusive growth policies
Financial deepening and similar problems are more prevalent in emerging markets and developing countries (EMDC). Credit is mainly available for high income groups and large corporations. Hardly any financial facilities are available for the poor and small start-up companies. While this is a problem mainly among EMDCs, it can also be observed in the US. Note the unavailability of educational and financial assistant services for working students.
The problem may not be strictly about financial policies. It may involve several other policies. It may be a result of conflicting policies and a lack of inclusivity in many of them. The poor are deliberately excluded from many opportunities precisely because they are poor and perceived as not being able to repay. According to some studies, the history of advanced or developed nations have shown that these nations have attained their positions of economic power because of inclusive growth policies. When these countries began to pursue such inclusive policies, they began to grow and minimized poverty and inequality. Their economies have become inclusive. However, it seems that some countries are regressing into the old, exclusivist states of decades or centuries ago. While the old rich still exist, new ones—CEO of large financial and other organizations—have taken over. They have manipulated government to craft policies that in the end would benefit them. Financial and even private bank policies lean in their favor. Their greed has actually led to the worldwide economic crisis that erupted in 2008. Note how executives at one company rewarded themselves with huge bonuses using government bailout money. The company (AIG) was among those responsible for the crisis. Yet, the executives thought they deserve ‘performance’—renamed ‘retention’ bonuses. A large company was protected by the government. At the same time, no bail out was available for home owners who lost their houses during the crisis and other small investors who lost their savings. There were no credit facilities available for them.
Lower income groups have a higher risk of losing their wealth should any crisis arise. There is no credit or financial aid available for them at the event of a crisis.
Least convincing theory
Reduced role of unions
Since the 1970s, union membership has been on the decline. Correspondingly, minimum wage has also been declining. Apparently, this is a result of the lack of anyone of collective bargaining agreements. Research shows that there is a high correlation with an active union presence and high minimum wages. The pattern seems to be true in the US and in Europe.
However, while there is a correlation between union presence and higher wages, it does not seem that it is a cause-effect relationship. It does not seem that the lack of unions has led to higher inequality. While unions can effectively negotiate higher wages, having higher wages without corresponding increase in productivity could lead to a worse situation. For one thing, the already high wages in the US has led to a fairly new phenomenon: outsourcing. As a result of higher wages and perhaps even of tough unions, companies may opt to outsource instead. No amount of union bargaining could stop companies from outsourcing especially when its survival is at stake. A company has to remain competitive in order to survive. The power of unions may have been stronger and more effective in earlier periods, before globalization.
Policies to reduce inequality
Taxes on benefits would trickle down to the poor. Such things never happened. The reverse has been true. The rich merely accumulated for themselves the benefit. Thus, taxes on these things should be increased.
A chief weakness of these policies is that they could be very difficult to implement. There will be strong resistance from the legislative body which consists mainly of rich people. Another weakness is that policy makers are highly educated people and mainly from the rich class. The reason for the existing problems is that they have a bias for the rich in making policies though this may be unintentional.
Strength though is that once implemented, it could have immediate impact as money becomes readily available. The poor can have more disposable income as a result
Education has been one factor that has contributed a lot in inequality. The poor’s lack of education and skills left them with no jobs or with very few jobs available. Some policies will have to be enacted to help the poor have access to better education. This may come in the form incentives to schools, in financial assistance to help working students find funding support for their studies or free or very affordable training for unemployed so they can acquire skills that would make them better employed.
Both their strength and weakness, education policies can have very long term and sustained results. In the meantime, people may have to prolong their wait or suffering and industries may suffer continued low productivity. Another weakness is access. Education programs for the poor may not necessarily be availed of by the poor. Some rich students could actually be taking advantage of the opportunity.
An important advantage is that these policies could be truly life or societal changing. Education can change habits and in the long term even the culture itself. In history, it took the US some time before it finally rejected slavery and later on segregation, even if there is still some racial discrimination going around.
Labor market policies
Labor policies should avoid “over-regulation or excessive disregard for labor conditions”. Labor unions should not be severely restricted. Studies have shown that labor reunions have helped reduce inequality in certain companies or geographical areas.
A weakness of labor unions is that they tended to favor males . They also need to guard against racial and other discriminations . Immigrants and illegal workers can also cause distortions in the labor market. They may accept lower than minimum salaries and force other workers to do the same. They may also encourage employers to scrimp on work conditions and worker benefits.
The advantages of labor market policies include a peaceful work force. Workers would have fewer reasons to complain and may perceive the labor environment as fair. The perception of fairness is an important aspect of inequality.
Inclusive financial policies
The poor have no access to credit. Existing policies should be made less restrictive and allow for lower interest rates and longer credit terms. Although the US is not a poor country like Bangladesh, a modified concept of microfinancing could be adapted for the country. Financial policies should encourage the growth and operations of financial support systems catering to the poor. Such a policy may require some government subsidies.
Guarding against the lack of prudence mainly on the part of the banks and lenders is the chief weakness of this policy. As what happened in India, the profit-oriented banks ended up squeezing life out from borrowers leading to a number of suicides in the country. Borrowers too could abuse the service as they might avail of loans for purposes other than investment. Lack of focus is another problem. Policies should determine to which kind of activities they would have to be applied on. People should realize that certain credit facilities are substitutes to credit cards.
The strength of this policy is that lives could truly change and improve. As what happened in Bangladesh, microfinancing by NGOs stimulated entrepreneurship and numerous livelihood projects, improving the lives of those that availed of the services. The concept of BRAC’s microfinancing system in Bangladesh could be applied even in First World countries. Government need not rely on the banking and financial systems. Some mechanism could be developed so the poor could have access to some form of credit.
Minimum wage policies
Some studies suggest that the real value of the minimum wage has eroded through the years. Today’s minimum wage though higher in face value cannot buy the same amount of goods that previous year’s wage could though this may be of lower face value. The findings imply that minimum wages should be adjusted according it money’s real value relative to a reference period.
A weakness of such a policy is that this could increase unemployment and weaken the US labor market competitiveness against those abroad. Already, outsourcing is now being perceived as a problem. Increased minimum wage could aggravate the situation. Any minimum wage adjustment should thus be considered in the context of workers’ education, skill level and productivity.
An advantage of increasing minimum wage of course would calm restive labor. If the minimum wage increase would not result in any displacement of labor or inflation, it will definitely increase the income of people.
Donald Trump: One candidate’s proposed solutions to inequality
Donald Trump is arguably one of the most controversial and colorful candidates for nomination to the Republican Party’s team for the US presidential elections. This is not in any way an endorsement or any kind of support for Trump. Rather, this is merely an analysis of his proposed solutions.
Trump’s chief and specific solution to solve the country’s inequality is to tax the wealthy heavily. “He wants to eliminate tax breaks for the rich, raise taxes on the wealthy and lower CEO pay. ’ You see these guys making enormous amounts of money, and it’s a total and complete joke,’ he said in an interview on CBS’s ‘Face the Nation’ on Sunday.” It is unclear however what policies or proposed laws he will pursue to implement these measures. He said though that he will implement a one-time tax of 14.25% on incomes of $10 million and above. Proceeds of this tax will be used to pay off US debts.
Trump’s other solutions are embedded in his other economic plans. Though some of these measures are not directly intended to address the matter of inequality, these will definitely have some impact on the problem.
First, he plans to apply “massive tariffs on China and Mexico”. This should make US made products more competitive and thus maintain manufacturing operations viable in the US. This in turn would protect jobs in the US.
Second, he plans to maintain the minimum wage but not increase it. This would allow US workers to enjoy some stability and security in their incomes and at the same time remain competitive. He is considering the possibility of having two minimum wages—one of teenagers and another for longer term workers.
Third, in addition to the wealth tax, he plans to cut taxes in other areas. He will lower the estate and capital gains taxes, and eliminate the corporate tax.
Some of Trumps proposals may be hard to implement. In particular, taxing Chinese and Mexican products may not be feasible. For one thing, the US is a member of the World Trade Organization (WTO), the Asia Pacific Economic Cooperation (APEC), among others. It cannot arbitrarily tax any other member countries of such organizations. It would violate many trade agreements.
Some of his tax measures may not at all improve the income inequality situation. On the contrary, they may aggravate the problem. Lowering estate and capital gains taxes and eliminating corporate taxes benefit the rich. After all, these taxes benefit the rich who after all are the ones who are concerned with estate and other property transactions on a large scale. Eliminating corporate taxes would again benefit the high earning CEOs and officials. Ordinary workers will not be affected as they would still be paying regular taxes and many will still be within the minimum wage. However, the one-time tax on the wealthy to pay off US debts might be feasible provided that this tax would be without prejudice to other taxes that the wealthy will have to pay. This should be an additional tax on top of other taxes that wealthy people will have to be paying.
Some of Trump’s economic proposed solutions could worsen income inequality in the country. Having Wall Street executives run the country seems to be going out of line. Many Wall Street financial executives are indeed very smart. Unfortunately, they were the ones that got the entire world into an economic crisis in the first place. They have been trained to be biased for the rich and to enrich themselves. They would tend to implement programs that would generally favor the rich, even if they do not intend to.
Health care is one aspect that the poor and other low income persons badly needs help in. Health care expenses can severely reduce the income of ordinary wage earners. Trump’s position on ending the Obamacare or on the Affordable Care Act is something that will not help improve inequality as this would aggravate the situation, i.e., inequality of services in health
Trump’s proposal to have two minimum wages, specifically the one for teenagers in interesting and could have possibilities. Education has been identified as a contributing cause of inequality. Only the rich could afford the high cost of education and consequently get better jobs. The situation has become worse for poor working students. Because there are no jobs available for them, they are unable to procure loans for their college education. They are unable to pay for their loans. They are being left out of the job market as they are yet unskilled. Having a lower minimum wage for teenagers could open opportunities for them. Such a policy could reduce inequality in opportunity in education and in in financial services . However, strict controls should be created as this kind of law could be abused again by unscrupulous businessmen.
Preferred policy: Education
Education and education related policies are perhaps among the most important and relevant policies. As Dabla-Norris, et. al., (2015) pointed out, “the effect of increased educational attainment on income inequality could be either positive or negative depending on the evolution of rates of return to education (that is, the skill premium)”. The correlation between education and low income is very high. Understandably, poor education could lead to lesser opportunities. Higher-paying, higher-skilled job opportunities evade those that have less education. These people are usually among those in lower in lower income households.
Education has a long-term impact on income inequality. Many people in today’s lower income households did not have access to higher income jobs because they have poor parents who could not send them to good schools or to higher levels of education. The parents of this generation were poor because they did not have good education themselves. Thus, they were not able to get higher paying employment that would have allowed them to spend more on their children’s education. It is possible that even their own parents had suffered similar lack of opportunities. The impact of education—good or lack of it—could affect several generations. Any policy that would be undertaken may take a long time to show result. Its impact might even be felt a generation later.
The problem most poor people have is that they do not have easy access to proper education. While there are many adequate school, the poor cannot afford to enter these schools. People’s incomes have not been able to keep up with increasing costs of education. An aggravating situation for working college students is the unavailability of jobs and income opportunities. They are not able to work or earn enough to keep themselves alive and much less enrolled in schools. A related problem is the lack of fair student loans. There are very few loans available. Those that are available are too costly for the students. These are provided by profit-oriented banks. Instead of helping students, these loans can lead to bankruptcy of the students.
Another possible problem is the misuse of education. Education related benefits may not reach the poor. Since the rich are better educated, they may be the ones to end up availing of educational benefits intended for the poor. This is highly possible if intellectual ability would be the basis for acceptance into certain programs. Most people suffering from lack of opportunities are the ordinary people, not the intellectual elite. Highly intelligent people always have many opportunities for them.
Advantages and ways for enhancements
As earlier mentioned, education has a long term and sustainable impact. It could even alter people’s behavior and mindset, and even change the culture entirely. Aside from economics, education can also be used to inculcate the correct values in people. Many of the economic problems stem from various values-related issues—mainly issues of ethics, or what is right and what is wrong, and what is fair. People need to understand what fairness is all about to understand what inequality is in the first place. If they have such values, business and government leaders would know how to address the many problems related to equality.
Several approaches can be undertaken to strengthen education needs. For education to have short-term impact, the financial needs of working students should be addressed. Some long-term facility can be offered by the government. Students obviously cannot pay their loans quickly until they have graduated and settled down in work. That is why they have problems with borrowing from banks and traditional lending institutions.
Education need not be always formal—that is, in the traditional sense of a school. The problem with lack of education is that people would correspondingly lack the skills that would get them employed. Government can encourage programs that would train people so they can acquire skills that would get them employed. Companies can be given incentives if they can train unqualified people so they will learn and become employed in these same companies. Non-government organizations and similar outfits can also be encouraged to address certain training needs. These training opportunities should be targeting the poor specifically and they should be made available free or at as low cost as possible.
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