Distribution's out of the dog house

Search “the history of income distribution in economics” and Google will serve up links with hard facts on inequality, growth, and tax policy. Any recent theories on income distribution, however, have been locked away in the academic dog house since the mid-twentieth century–until now.

Once taboo, the subject of income distribution is making a comeback into the public eye. Re-appearing in news, economic literature, and political talks, the development is largely attributed to the Occupy Wall Street protests; demonstrations of global outrage at the 2008 Financial Crisis. But when and why did economists and policy-makers stop talking about distribution in the first place?

Once taboo, the subject of income distribution is making a comeback into the public eye. The development is largely attributed to Occupy Wall Street and associated Occupy protests around the world that demonstrate outrage at the 2008 Financial Crisis. Its reappearance in news, economic literature, and political talks begs the question: when and why did economists and policy-makers stop talking about distribution in the first place?

The 19th century Classical economist David Ricardo was famed for his work on distribution, a topic within Political Economy. Over a century later economist John Maynard Keynes’ revolutionary work, The General Theory of Employment, Interest and Money, led academics to instead focus on levels of production. Reasons for the break into modern Keynesian economics used today vary among scholars.

Economist Nicholas Kaldor claimed Keynes might have followed a logic of distribution if it were not for the discovery that inflation trends are better assessed through changes in the general level of production. Changes of output and unemployment reflect the general level and tell a more detailed story than effects of inflation on prices.

Before establishing a career to reduce poverty, inequality, and discrimination, James Tobin considered “…the potential gains to the poor from full employment and growth [to be] much larger, and much less socially and politically divisive, than those from redistribution.”

The divisiveness within society Tobin refers to has roots in the Red Scare and the Cold War, periods of extreme anti-communism in America.

The first Red Scare trailed the Bolshevik Russian Revolution of 1917 by two years, creating a domestic concern of catching a fever of socialist revolution. The climate of the United States subsequent to World War II was again filled with anticommunist hysteria, further provoked by McCarthyism. Soon discussions of class conflict and income distribution became associated with Communism, and after the passage of the Truman Doctrine in 1947, détente as a foreign policy to the Soviet Union was abandoned.

When President Reagan was elected into office in 1981 he implemented the Program for Economic Recovery (PER). The PER was composed of four pillars of policy reducing the growth of government, marginal tax rates on income, regulation, and inflation. The Chairman of the Federal Reserve Paul Volker achieved the reduction of inflation via monetary policy.

Though Reagan did make good on three directives he was not successful in decreasing government spending, only lowering the it from 22.9 percent of Gross Domestic Product in 1981 to 22.1 percent in 1989. The slight drop is ascribed to Reagan’s record high peacetime level of military spending that added to tension to the Cold War.

As with most bouts of instability, the 1970s energy crisis left Americans feeling high degrees of inequality. The tax cuts from Reagan’s Program for Economic Recovery applied trickle-down economics or “Reaganomics,” an initiative claiming to stagnate inequality by first alleviating it through growth of investments.

Theories on inequality such as the Kuznets Curve hypothesize that income distribution in developing countries resembles an upside-down U shape. When a country is relatively poor, society is more or less equal. When successful investment opportunities from development cause growth, cities emerge and incentives for higher wages lead to a movement of cheap labor from rural to urban areas. Economic inequality naturally rises until a market-determined average wage is reached, at which point inequality begins to decline.

Source: U.S. Census Bureau
The most common measure of inequality in economics is the Gini coefficient, which ranges from 0 to 1 (or 100), or from absolute equal income in society, to when one individual receives all the income. Generally, coefficients between 25 and 40 are considered relatively equal; Latin American countries often have coefficients in the upper 50s with extreme periods reaching the low 60s.

Based on information using the Gini coefficient, inequality increased during the 1980s, a trend that has persisted to current times. However, the coefficient’s validity is being questioned as a result of possible “upper-end truncation”; dishonest answers submitted by wealthy families on household surveys. Instead, academics have resorted to using reported pre-tax income of the rich to estimate their share of total earnings and variability of earnings. Regardless of the change in data collection techniques, results have not greatly differed.

Despite the ostracism of the term “distribution” from economic lexicon for the past three decades, the government addresses issues of redistribution via fiscal policy. Social assistance programs like Medicaid and Social Security are tools to handle welfare and equality. Tax policy is another issue associated with redistribution of income, a reason news outlets and GOP candidates are giving the subject a lot of attention as the 2012 elections approach.

“Monetary policy is a crude tool for targeting a problem or group in society,” President of the Atlanta Federal Reserve Bank Dennis Lockhart said, “since it’s used to affect macroeconomics.” Usually, worsening levels of distribution are on the heels of economic instability.

As of Jan. 25, the Federal Open Markets Committee set the Federal Funds Rate at 0 percent to 0.25 percent, a low interest rate that hurts investments into capital as a result of low rates of return. The next vote will be March 13th.

“Employment has shifted to the non-tradable sector,” Lockhart said, which includes education, construction and food service among other areas. The movement of employment out of the tradable sector––those goods and services produced at home, which can be sold abroad––creates a gap between rising high wages there and low wages in the non-tradable sector.

Lockhart agreed an obvious way to minimize an inequality gap is to have better education that develops an innovative workforce adaptable to advancements in manufacturing technology. Professor of Economics at New college of Florida Patrick Van Horn emphasizes that the concept of training versus education. Whereas a highly educated work force that has refined critical thinking skills can adapt to technological change, a well-trained work force may not have such tools to aid adjustment.

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