TGIF: The Chicanery Behind Inequality Data

If self-described progressives decry anything more fiercely than poverty, it is income and wealth inequality. Some have even suggested that they would prefer low-income equality to inequality, regardless of how affluent the lowest level was. What counts is the gap.

The terms poor and low-income are relative, of course. We'd be better off talking about the poorer and lower-income. Also, it's better to be poor in America than anywhere else if we factor in immeasurables such as good prospects. However, some people don't understand the point or perhaps don't want to understand it. Reasonable people ask, "How am I doing and how can I do better?" not, "How much less am I making than Jeff Bezos and Elon Musk [but not Taylor Swift or Juan Soto]?"

So let's talk about inequality—not in the legal and political sense but in terms of income and wealth. You can't go a day without hearing politicians and commentators complain about the top 1, 10, or 20 percent. Those complaints seem to be backed up by government statisticians and parts of the economics and sociology professions. Dissenters are rarely invited on television and podcasts. The impression given, to which compassionate laypeople will be vulnerable, is that America is riddled with extreme, even obscene (so Bernie Sanders says) inequality. Is it true?

Economists Phil Gramm and Donald Boudreaux make an overwhelming case against it in their book, The Triumph of Economic Freedom: Debunking the Seven Great Myths of American Capitalism. Gross inequality is one of those myths. (Last week I discussed their chapter on poverty.)

"[T]he claim that income inequality in America is high and rising on a secular basis is almost universally accepted as true," Gramm and Boudreaux report. But: "Census numbers overstate the difference between the top and bottom quintile household incomes by over 300 percent." Can they back up that claim? Let's see.

The U.S. Census Bureau tells us that in 2017 the average income of households in the richest quintile (the top 20 percent) was 16.7 times greater than the average in the lowest quintile. No one can say, without other information, whether that number is appropriate or not. But is it accurate?

"The official Census data also show," Gramm and Boudreaux continue, "that income inequality has grown on a secular basis and, by 2017, was 22.9 percent higher than in 1947." That's not all. According to the Organization for Economic Co-operation and Development, the United States has the worst record on this count among the wealthy countries—and it's been getting worse.

Let's pause for a word about the morality of income and wealth inequality. Individuals contribute unequally to the production of wealth, which improves living standards even for those who contribute little or nothing. So why would anyone expect their incomes and wealth to be equal? Now back to our regularly scheduled program.

Gramm and Boudreaux disclose a puzzle about the government's numbers: "According to the official statistics of the nation’s two leading statistical agencies, the bottom 20 percent of American households had an average income of $13,258 in 2017 yet, in that same year, consumed $26,091 of goods and services."

This fact raises the obvious question of how the bottom 20 percent of households can consume twice their income. This extraordinary gap between the official measure of income and the official measure of consumption has grown more or less steadily since 1967, when funding for the War on Poverty began to ramp up."

That indeed is a puzzle. Could it be that the government agencies do not count everything that's relevant? Write Gramm and Boudreaux:

[T]he Census Bureau does not count two-thirds of all transfer payments to the recipients as income [88 percent for the lowest quintile], instead counting only $0.9 trillion of $2.8 trillion of government transfer payments. In addition, the Census Bureau neither adjusts household income for taxes paid nor counts tax credits as income received by the recipients, even though they receive checks from the Treasury. Census does not count food stamps as income, despite beneficiaries receiving debit cards to pay for groceries. Also not counted as income are benefits received from Medicaid, under which the government pays for each beneficiary’s health care. And also uncounted as income are the transfer payments dispensed through more than one hundred other federal, state, and local programs.

In other words, the government understates the incomes of the poorest, while overstating the incomes of the richest, ignoring that America has a generous welfare state (coercively paid for) and the most progressive income tax in the world. That strikes me as a rather shoddy way of estimating income inequality.

"Because the Census Bureau excludes $1.9 trillion of transfer payments as income received and fails to count $4.4 trillion of taxes paid as income lost to taxpayers," Gramm and Boudreaux write, "the Census measure of household income ignores some 40 percent of national income, which is either gained in transfer payments or lost in taxes."

The advocates of even more confiscation and distribution do not want to acknowledge what is really going on. Why not? The resulting distortion is scandalous. The authors show that instead of the officially estimated top-versus-bottom income ratio of 16.7 to 1, the real ratio is 4 to 1, a fourth of the often-lamented official estimate.

"But even these numbers for household income," Gramm and Boudreaux write, "overstate income inequality by failing to account for differences in the number of individuals living in the average-sized household of each income quintile." The average top-level household contains more people than the bottom-level household (3.10 versus 1.69). (See the book for details.)

What has happened to inequality over time, considering that transfer payments and taxes have increased? Gramm and Boudreaux report:

Over the seventy years from 1947 to 2017, after adjusting for inflation, the real value of all transfer payments grew 212.2 percent, faster than earned personal income had grown. Taxes grew less dramatically, rising only 7 percent faster than earned income over these seventy years. Income and payroll taxes rose 21 percent faster than income. Sales, excise, and property taxes rose 8.3 percent slower than income. The net result was that the US income-tax system became significantly more progressive in the seventy years leading up to the COVID-19 pandemic as an ever-larger share of the tax burden has been shifted from low- and middle-income households onto higher-income households, reducing income inequality. [Emphasis added.]

They also show that while the standard international method for measuring inequality, the Gini coefficient, indicates an increase, "much of this increase was due simply to two very significant changes made in the way the Census Bureau collects and records data." The Bureau acknowledges that those changes distort the picture, but it does not adjust accordingly.

In fact, "the [adjusted] Gini coefficient is actually slightly lower today than it was in 1947...," Gramm and Boudreaux write. "America’s Gini coefficient falls to a level roughly in the middle of the seven largest developed countries."

I began by denying the importance of income equality to human wellbeing. As Gramm and Boudreaux explain, more equal does not mean richer: "Major developed nations that have more equal distributions of income than the United States have significantly lower incomes overall....  [They] also have larger portions of their populations that are poor." Beware a fixation on equality. Better to agitate for the repeal of government obstacles to the creation of wealth, starting with taxes on savings and investment.

A closing note for envious readers who despise the 1 percent. Gramm and Boureaux write that according to a study titled “Income Inequality in the U.S.: Using Tax Data to Measure Long-term Trends” (2024), "when all transfer payments and taxes are counted, the share of national income going to the top 1 percent of American households is about the same as it was in the mid-1960s." [Emphasis added.]

Of course, there is no such thing as "national income," as Gramm and Boufdreaux would agree. That's a statistical category. In reality, there is only your, my, and their income.

TGIF: On Fairness

Fairness and its synonyms are among the most abused words in English. By that I mean they are commonly manipulated for ideological ends. Wokeness has aggravated a situation that has existed for some time. What better way to score points for a political position than to declare that fairness demands it? The tactic puts the unprepared opponent on the back foot.

For example, people say it is unfair that some people have more than others. There are "haves" and "have-nots," although the latter phrase is either grossly exaggerated or outright dishonest. By and large, Americans are the richest people who have ever lived, and extreme poverty worldwide has declined from 90 percent to less than 10 percent in a dramatically short time.

At any rate, this condition of inequality, regardless of its explanation, is routinely thought to be unfair. Inequality of any kind—not just before the law or something similar—is "just not right."

But is it so?

Not If we see society and its division of labor as a large-scale decentralized cooperative wealth-creating effort. That's the global marketplace. In this light, income and wealth wealth and income inequality are certainly not prima facie unfair. For any large group of people, the contributions to wealth creation will vary widely. People differ in all sorts of ways, from mental agility and energy to ambition and disposition. Why wouldn't the rewards vary widely as well? Recall that when the government does not try to manipulate people, incomes and wealth are determined, not by a central decision-maker, but through countless marginal voluntary transactions. The parties agreed to transact, preferring what they received to what they gave up. There is no distribution until government comes on the scene.

In Human Action, Mises wrote:

In the market society direct compulsion and coercion are practiced only for the sake of preventing acts detrimental to social cooperation. For the rest individuals are not molested by the police power. The law-abiding citizen is free from the interference of jailers and hangmen. What pressure is needed to impel an individual to contribute his share to the cooperative effort of production is exercised by the price structure of the market. This pressure is indirect. It puts on each individual’s contribution a premium graduated according to the value which the consumers attach to this contribution. In rewarding the individual’s effort according to its value, it leaves to everybody the choice between a more or less complete utilization of his own faculties and abilities. This method cannot, of course, eliminate the disadvantages of inherent personal inferiority. But it provides an incentive to everybody to exert his faculties and abilities to the utmost. [Emphasis added.]

That certainly is reasonable, but many people reject this perspective. They need to ask themselves what the alternative is (besides equal poverty). Those critics suffer the delusion that no connection exists between production and so-called distribution. John Stuart Mill unfortunately believed this. But that cannot be. If the state expropriates the wealth of producers in Period A, they can hardly be expected to remain vulnerable to expropriation in Period B and beyond. Even an increase in top income-tax rates prompt strategies (legal and illegal) to pay less tax. You can't have your cake and eat it too.

Does a fairer alternative to the market economy exist? Mises went on:

The only alternative to this [above-mentioned] financial pressure as exercised by the market is direct pressure and compulsion as exercised by the police power. The authorities must be entrusted with the task of determining the quantity and quality of work that each individual is bound to perform. As individuals are unequal with regard to their abilities, this requires an examination of their personalities on the part of the authorities. The individual becomes an inmate of a penitentiary, as it were, to whom a definite task is assigned. If he fails to achieve what the authorities have ordered him to do, he is liable to punishment.

In other words, everyone is potentially subject to physical force, not because he aggressed against persons or property, but because he failed to fulfill the social engineers' plans. This does not make for a decent society.

We have not fully reached that point yet in America because the market is still "allowed" to operate to a significant extent. But for many intellectuals and activists, America still has too much market freedom; they would quash what is left. They don't like that "impersonal market forces"—that is, persons who freely choose with whom to do business—determine wealth and income ultimately according to the producers' ability to please consumers. The anti-market parties would shut down the market economy if they could. Meanwhile, they'll settle for increasing political impediments to free action. Government control of nominal private property of the means of production is what Mussolini meant by fascism and corporatism.

The only choice is between price and police, Mises taught:

No system of the social division of labor can do without a method that makes individuals responsible for their contributions to the joint productive effort. If this responsibility is not brought about by the price structure of the market and the inequality of wealth and income it begets, it must be enforced by the methods of direct compulsion as practiced by the police.

The police? We shouldn't like the sound of that. As Mises, no anarchist, put it elsewhere in Human Action:

Government is in the last resort the employment of armed men, of policemen, gendarmes, soldiers, prison guards, and hangmen. The essential feature of government is the enforcement of its decrees by beating, killing, and imprisoning. Those who are asking for more government interference are asking ultimately for more compulsion and less freedom.

Another example of abuse of the term unfairness is that market competition is often thought to be unfair to the inferior competitors who lose out to superior competitors. Again, a key point is missed. An economy does not exist for competitors. People spontaneously generate the economic process because they want a variety of consumer goods in a world of scarcity and uncertainty—where choices must be made among alternative uses of resources and labor. It would be nice if all people could have everything at no expense, but we can't. Yet compare the modern world to previous eras.

Here's Mises on competition:

Catallactic [marketplace] competition must not be confused with prize fights and beauty contests. The purpose of such fights and contests is to discover who is the best boxer or the prettiest girl. The social function of catallactic competition is, to be sure, not to establish who is the smartest boy and to reward the winner by a title and medals. Its function is to safeguard the best satisfaction of the consumers attainable under the given state of the economic data.

Equality of opportunity is a factor neither in prize fights and beauty contests nor in any other field of competition, whether biological or social. The immense majority of people are by the physiological structure of their bodies deprived of a chance to attain the honors of a boxing champion or a beauty queen. Only very few people can compete on the labor market as opera singers and movie stars. The most favorable opportunity to compete in the field of scientific achievement is provided to the university professors. Yet, thousands and thousands of professors pass away without leaving any trace in the history of ideas and scientific progress, while many of the handicapped outsiders win glory through marvelous contributions.

Isn't that unfair? Equal opportunity, except in the sense of the abolition of legal impediments, is not an option. Under no circumstances could everyone have the same shot at a given position. But again, it's not producers but consumers who are center stage.

It is usual to find fault with the fact that catallactic competition is not open to everybody in the same way. The start is much more difficult for a poor boy than for the son of a wealthy man. But the consumers are not concerned about the problem of whether or not the men who shall serve them start their careers under equal conditions. Their only interest is to secure the best possible satisfaction of their needs.... They look at the matter from the point of view of social expediency and social welfare, not from the point of view of an alleged, imaginary, and unrealizable “natural” right of every individual to compete with equal opportunity. The realization of such a right would require placing at a disadvantage those born with better intelligence and greater will power than the average man. It is obvious that this would be absurd. [Emphasis added.]

Frédéric Bastiat said the same thing in the 19th century in demolishing the case for tariffs. Protectionists often defend their position by calling for a "level playing field" for all competitors, foreign and domestic. Yet in "Equalizing the Conditions of Production," a chapter in his Economic Sophisms, Bastiat set the record straight:

Here as elsewhere we find the advocates of protectionism taking the point of view of the producers; whereas we defend the cause of the unfortunate consumers, whom they absolutely refuse to take into consideration. The protectionists compare the field of industry to a race track. But at the race track, the race is at once
means and end. The public takes no interest in the contest aside from the contest itself. When you spur your horses on with the single end of learning which is the fastest runner, I agree that you should equalize their weights. But if your
end were getting an important and urgent piece of news to the winning post, would it be consistent for you to put obstacles in the way of the horse that had the best chance of getting there first? Yet that is what you protectionists do with respect to industry. You forget its desired result, which is man’s well-being; by dint of begging the question, you disregard this result and even go so far as to sacrifice it.

A key to the economic and pro-freedom way of thinking is to never take your eye off the consumer.

 

Mises on Equality and Inequality

"The liberal champions of equality under the law were fully aware of the fact that men are born unequal and that it is precisely their inequality that generates social cooperation and civilization. Equality under the law was in their opinion not designed to correct the inexorable facts of the universe and to make natural inequality disappear. It was, on the contrary, the device to secure for the whole of mankind the maximum of benefits it can derive from it. Henceforth no man-made institutions should prevent a man from attaining that station in which he can best serve his fellow citizens."

—Ludwig von Mises, Human Action

Recommended!

 

TGIF: Who Cares about Inequality?

What accounts for the preoccupation with income and wealth inequality? We hear about it every day. Isn't our absolute living standard what matters and whether it is improving or deteriorating? I'll bet that's what regular people care about. However, the professional grievance mongers see things differently, They want you to resent those who are richer.

To start with the basics, we are not talking about inequality. We're talking about income and wealth differences. Substitution of the term inequality is an appeal to emotion, a cashing in on other senses of the word. "You oppose equality? Don't you believe that 'all men are created equal'?" That's demagoguery not argument.

In a market-oriented economy, most income is not distributed. There's no distribution to describe as equal or unequal, fair or unfair. (What the government does is another story.) As Ludwig von Mises, wrote 102 years ago in Socialism: An Economic and Sociological Analysis, "Under Capitalism incomes emerge as a result of market transactions which are indissolubly linked up with production." That's not distribution or allocation.

Mises continued:

We do not first produce things and afterwards distribute them. When products are supplied for use and consumption, incomes for the greater part have already been determined, since they arise during the process of production and are indeed derived from it. Workers, landowners, and capitalists and a large number of the entrepreneurs contributing to production have already received their share before the product is ready for consumption.

"[T]he concept of distribution is only figurative," Mises added. What people call "the income distribution" is not the outcome of a grand allocation plan. It's a snapshot of a dynamic, decentralized series of exchanges and is always subject to change.

People transact, trade, only when they expect to gain. Otherwise, they wouldn't bother. That's true for both parties to a transaction. It's win-win. Among the things people trade are labor services for money and vice versa. That people have to work so they can eat is not the fault of employers, who also have bosses to satisfy; they're called consumers. That's the nature of reality. But in a free and competitive market economy, few people are dependent on only one buyer or one seller. They are free to choose.

If no distribution occurs in a market economy, then no redistribution is possible. When the government taxes our incomes and gives the money to others—be they low-income people or military contractors—that's plain old distribution. And it's illegitimate.

Taxation and other forms of political manipulation are objectionable even if large-scale wealth and income differences do not result. So that cannot be the primary objection. Political manipulation is objectionable because it aggresses against nonaggressors and disrupts the process that best serves consumers. It would be odd to say, "I see inequality, so I wonder what government manipulation has brought that about." It would be reasonable to say instead, "I see government manipulation, so I wonder if, on top of all the other bad consequences, it also has disrupted the wealth-creation process."

Economic differences among individuals and groups are to be expected among free people and ought not to arouse suspicions of illegitimacy. To expect economic equality as the default is to commit the fallacy Thomas Sowell has exposed concerning all sorts of disparities among groups. Uniformity is found nowhere in the world.

Everyone knows that people's contributions to productive activities vary widely, with a relatively few people at the top and bottom and most in the middle. No mystery here. Individuals differ in intelligence, age, ability, disposition, upbringing, energy, alertness, patience, ambition, education, work habits, culture, risk tolerance, entrepreneurship, and much more. No one should be surprised that their contributions to wealth creation also differ vastly or that they change over time. Thus vast differences in income and wealth are to be expected. I couldn't have done what Bill Gates, Steve Jobs, Serge Brin, or Jeff Bezos, did—and, appropriately, my income reflects that.

Despite the seeming paradox, the huge economic differences that can result from innovation benefit everyone. Much would be lost without that possibility. Incentives matter. Moreover, the innovators' gains are minuscule compared to the total gains to consumers. A system designed to prevent or stamp out those rewards to innovation would impoverish us all. It would also put us on what F. A. Hayek called "the road to serfdom."

It should also be noted that the price system, of which income levels are a part, signals to producers what consumers want most. It's our way of telling producers where to put their efforts and scarce resources.

What indicates progress or regress in society is not the latest dubious measure of a gap between rich and nonrich, but how easily people of determination can climb the income ladder. If the government stays out of the way, the obstacles are minimized. Gaps don't matter. Think of an elevator that can expand like an accordion: the floor can rise even if the distance to the ceiling increases.

Most people don't envy wealthy innovators. They admire them. But anti-freedom politicians, intellectuals, and activists think you should resent anyone who is considerably wealthier. They're running a scam designed to obtain power. We need to call them out.

If you like gaps, check out the shrinking consumption gap, the product of the growing availability of resources worldwide thanks to the spread of economic liberalization and the liberation of human ingenuity and entrepreneurship.

 

What Inequality?

According to research conducted by Phil Gramm, the late Robert Ekelund, and John Early, documented in The Myth of American Inequality: How Government Biases Policy Debate and summarized in this video:

• The bottom 20 percent of households have an average annual income of $13,000, according to the Census Bureau. However, according to the Bureau of Labor Statistics, those households consume an average of $26,000 worth of goods each year. How can that be?
• In the standard computations of inequality that are used to justify more government spending, the incomes of the rich include taxes paid while the incomes of the poor exclude two-thirds of government benefits, including the Earned Income Tax Credit, food stamps, and Medicaid. (There are more than a hundred transfer programs.) The rich artificially appear richer, and the poor artificially appear poorer. It's a statistical illusion.
• When inequality is adjusted to count taxes paid by the rich and cash and noncash benefits received by the poor (net of government admin costs), measured income inequality between the top and bottom quintiles drops from 16.7:1 to 4:1. Real income inequality is a quarter of what it is said to be.
• Compared to 1967 and using inflation-adjusted dollars, two-thirds of Americans are in the top income quintile.
• People in the middle quintile have about the same income as the people in the bottom quintile, though only about a third in the bottom work.

That shines a different light on things, doesn't it?

Two Kinds of Income Inequality

Income inequality is back in the news, propelled by an Oxfam International report and President Barack Obama’s State of the Union address. The question is whether government needs to do something about this — or whether government needs to undo many things.

Measuring income inequality is no simple thing, which is one source of disagreement between those who think inequality is a problem and those who think it isn’t. But it is possible to cut through the underbrush and make some points clear.

We can identify two kinds of economic inequality, and let’s keep this in mind as we contemplate what, if anything, government ought to do.

Read it here.

Inequality Matters

In the controversy now raging over whether income inequality in America is growing a lot or a little, some pro-market people say it doesn’t much matter. This attitude is unjustified, not to mention harmful to the cause of individual freedom because it misses the bigger picture.

Read the rest of this week's TGIF column, "Inequality Matters," at the Foundation for Economic Education website.

Cross-posted at Liberty & Power.