Look deeper to find the real cost of attempting to reduce income inequality

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Since time immemorial, man has been led to confirm, perhaps arguably, and reconfirm the overwhelming importance of incentives and rewards in the mere survival, if not growth, of civilization.

Even some idealists acknowledge the key role of incentive/rewards in economic development. Now President Obama informs us that the incentive/reward structure plays little, if any, role in the development process (should you build a useful product, some mysterious other person actually built it).

INEQUALITY OF INCOME is again under severe attack, spearheaded by Obama and his dutiful followers, the media, academia and entertainment sectors. Study after study is cited purporting to show increasing inequality. While this sudden renewed interest in inequality is motivated to some degree, if not wholly, to divert the public’s attention from the HealthCare.gov debacle, the media treatment of the subject is so misleading that it merits greater discussion.

There are myriad ways to measure income inequality. A simple measure identifies income, say $1 million, which separates those with incomes below $1 million from those above $1 million. Suppose the percentage of income earners above $1 million is 1 percent. Do the same calculation for next year and find, say that the income that separates the top 1 percent from others now has jumped to $1.1 million. Then income inequality is said to have increased.

The most recent U.S. data (expressed in nominal not real terms), comparing 2011 incomes to 2012 incomes, show an increase in inequality. Other inequality measures, including the most sophisticated, give similar findings.

These measures, however, suffer from severe weaknesses. One is that most of them use an income definition that includes taxes paid and excludes transfer payments (e.g., Obamacare subsidies, food stamps.) Since taxes have increased so much lately, this produces an upward bias to the study results. Most studies used incomes that were unadjusted for inflation.

The most fatal flaw is that people who are in a given income class or bracket in one year are not necessarily the ones inhabiting that class next year. This churning of income recipients from one class to another is masked by these measures; thus, they easily can provide misleading results: increases, or decreases, in inequality when no changes actually take place.

TO HELP REMEDY this flaw, the U.S. Treasury has conducted a study (because it has access to confidential data) in which a sample of incomes is observed over an extended period of time – 20 years. Naturally, much movement of income recipients among classes is bound to be observed. Remember that when a sample of observations is arrayed by order of magnitude, any one-fifth of the sample is, by definition, a quintile.

If so, then the U.S. Treasury reports that in the decades 1987-1996 and 1996-2005 considerable income mobility of incomes took place. Moreover, roughly half of those in the bottom quintile in 1996 had moved to a higher quintile by 2005. Just as important is that “the median (that value such that half of the observations are above it, and half are below) of those in the lowest income groups increased more in percentage terms than did median incomes of those in higher income groups.”

WE CAN CONCLUDE that during periods of robust growth in the economy, such as the 1980s and 1990s, most citizens enjoy significant growth in incomes. In contrast, during slow times opportunities for income growth, not unsurprisingly, are diminished. Further, as noted by Robert E. Grady (The Wall Street Journal, Dec. 23), the interval from 1982 to 2007, a period of robust growth, median family real income (inflation adjusted income) responded by improving 21.6 percent, on average, over all incomes. After 2007, however, as we all know incomes suffered declines across all quintiles. But overall, however, we know that real income does increase over all income classes.

The notion that the rich get richer because they somehow take what rightfully belongs to the poor is the most pervasive of all false notions about inequality. We all tend, on average, to be paid in accordance with our productivity. The view that what someone receives is at the cost of someone losing assumes that economic activity is a “zero-sum” game, which is patently false.

The remarkable U.S. achievement over the past half-century is that these results occurred despite a steeply progressive tax system, an overly aggressive regulatory system and an undisciplined educational system that has lost its will to teach children how to think with care and rigor. We have forgotten that it is the incentive/reward process (IRP) that drives the economy.

Indeed, the key to our long-run enviable success, our growth and even our short-run successes lies within a framework of personal freedom – freedom to choose, freedom to own private property, freedom to contract – where we allow the IRP to flourish. This encourages incentives to work, to save, and to satisfy community demands. It allows for freely contracted production of goods and services; through innovations, the application of organizational skills and leadership; and the assumption of investment risks.

BUT THESE TALENTS are brought forth by a social organization that allows sufficient rewards to risk-takers. This whole alignment we have labeled the IRP.

Critics of the process point mainly, if not exclusively, to the need to have wealth and income-transfer programs to soften the inequalities of rewards that emerge from applying IRP. But eliminating those rewards is a fatal blow to the incentives that generate growth in GDP, in our overall standard of living, and in employment.

We just aren’t clever enough.

While difficult to understand, and virtually impossible for many to accept, our social organization represents a tremendous achievement that few economists appreciate. It also is difficult for people to understand that mankind currently lacks the analytical tools – the cleverness, if you will – for achieving the goals of critics wanting reductions in inequalities without sacrificing growth in income and innovations, personal freedom and the dynamism that personal freedom, like fresh air, brings.

BUT NEVERTHELESS, many show no lack of hubris in attempting to achieve these objectives: They remain hard at work striving to show that these goals are attainable. In the misty distant future they may have some success.

But this dim prospect does not justify current massive and costly redistributive efforts. In sum, we lack the ability to attain these objectives without incurring the great risk of throwing further disabling monkey wrenches into the social process, including the IRP.

Like early alchemists in search of the formula for gold, liberals seek to feed the world from a flower pot through the magic of taxes and regulations. We are simply not that clever.

(The writer is a professor emeritus of financial economics at the University of Georgia. He lives in Aiken, S.C.)

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carcraft
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carcraft 01/26/14 - 05:14 pm
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I know, we can decide how

I know, we can decide how much executives should earn, how much companies should earn, but the IRS in charge of giving that money to the poor. Then the IRS can "lose "it like they did the $64 million health care start up finds. Sounds good to ne!

myfather15
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myfather15 01/26/14 - 05:53 pm
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Poor?

I was born and raised to the age of 10, in a single wide trailer in the Mountains of North Carolina. We had a single wood stove in the trailer for heat and cut firewood all summer, to last through winter. We grew gardens and canned our own food. We wore hand me downs my entire life, until I reached 16 and got a job. I worked in Fast Food and then bought a few of my own clothes to wear to school. I remember buying my first pair of Air Jordans and how proud I was of them. I treated them like dress shoes and wouldn't wear them anywhere except school.

My dad died when I was 12 and my mother never remarried. She raised me on a single income (she was a lab tech at the hospital) so she didn't make much money. I KNOW what it's like to be poor, but I worked my way out of it!!! I consider myself blessed, even though my income now is right at the federal level for poverty!!

People in other Countries would spit in our face if we told them what OUR poverty looked like!! As well they should!!

Bizkit
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Bizkit 01/26/14 - 06:02 pm
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It is a valid point the last

It is a valid point the last 35 years that business and industry have had a lot of influence over both political parties in govt and politicians have been good to the hands that feeds them. Use to be they would sale their soul for a vote-now no way-it's got to be a big campaign contribution. Rather than remember their constituents they remember the big donors and their needs and wants.

ymnbde
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ymnbde 01/26/14 - 06:20 pm
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oh bod, every word you pasted was wrong

including, as the lady said, "and and the"
Marx had a retarded "maid" whom he impregnated
and never paid one cent
today we would call her a slave, a sex slave
the last 34 years of his life was spent in living off the son of a capitalist
and "researching" material for the communist manifesto
his children died due to Marx's poverty
and Marx's poverty was due to his lack of effort
he borrowed great sums of money, and would not pay it back
in his early years, he did contribute articles to newspapers
but they were often actually written by others
he had an intense dislike of Jews, and laid the goundwork for Hitler's final solution
he called some "Jewish N-words" and worse
he plagiarized others, and simply made up most of his writings
he misquoted people, and ignored evidence when it contradicted his own prejudices
Lenin, Stalin, and Mao murdered millions using his ideas
he was the most evil man in history
and you, bod, defend him
but then you are of the party that to this very day
denies black children the right to a proper education
that basically tells black parents that their child will never be a doctor
never be a lawyer
never be an engineer or any other professional
then tells those black parents that the "wage gap" is the fault of others
oh, how vile are you new democrats
the worst humans are the racist humans
with power
and the democrats are racists
with power
i guess if you like your marx, you can keep your marx
but we do now know you, don't we?

Bizkit
33273
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Bizkit 01/26/14 - 06:30 pm
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You learn in life-nothing

You learn in life-nothing worthwhile comes easy. If it did then everybody would have it. Yo Yo Ma didn't get so good on the cello without effort which continues to this day.

Bizkit
33273
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Bizkit 01/26/14 - 06:39 pm
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Dang I hate to recommend this

Dang I hate to recommend this but Wikipedia has an excellent well referenced article on income inequality in the US. Seems pretty NPOV too, although I am sure some would disagree with some posits. http://en.wikipedia.org/wiki/Income_inequality_in_the_United_States

deestafford
29025
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deestafford 01/26/14 - 07:20 pm
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1
Now, who is supposed to do this distributing of income...

Now, who is supposed to do this distributing of income? Are we to send it to some "highly intelligent" people in DC who know more about the people in the rest of the country as to what they need? Oh, I know that is what Obama wants the IRS to do---get as much possible of people's income in DC and then he and his irk redistribute it to those "in need".

Wealth and income are NOT DISTRIBUTED they are EARNED by performing a service for someone or something for an agreed upon compensation based upon the perceive value of that service.

I could sit down with every poor person anyone here knows and by discussing with them their life choices show where the decision(s) they made caused them to end up where they are today. Now this does not include the mentally or physically challenge (except democrats of course).

deestafford
29025
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deestafford 01/26/14 - 08:12 pm
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One of the reasons for the gap...

One of the reasons for the gap between most of the rich and most of the poor is the rich keep doing what made them rich and the poor keep doing what made them poor.

Just go look at the poor people and see what their daily habits are. How many hours a day do they work? How many jobs are they working? How much reading to improve their lives are they doing? How much TV are they watching? Do they have a library card and do they use it?

There are ways to work one' self out of poverty and they have been done by millions in the past; however, one will not get out of poverty by depending on the government and someone else. One can depend only on one's self. It's called individual responsibility.

ColdBeerBoiledPeanuts
9338
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ColdBeerBoiledPeanuts 01/26/14 - 09:29 pm
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1
Who sold those people into slavery!!

"American settlers profited from the poorest of the poor - slave labor - and built enterprises based on no payment of wages to the poor workers, held in chains, beaten ruthlessly and women raped without recourse."
Their own kind and even their own families sold those people into slavery in Africa to begin with! When you point the Racist finger, just remember you are also pointed 3 of those fingers at yourself!!

dahreese
4747
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dahreese 01/26/14 - 11:11 pm
1
3
"While this sudden renewed
Unpublished

"While this sudden renewed interest in inequality is motivated to some degree, if not wholly, to divert the public’s attention from the HealthCare.gov debacle, the media treatment of the subject is so misleading that it merits greater discussion."

Unfortunately the public is so busy trying to make financial ends meet, it doesn't have the time to find 'truth' but has to rely,, unfortunately, on the corporate media - which lies through its ink.

Income inequality was being studied long, long before "Obamacare" was ever thought of.
-----------------------------------
"...this dim prospect does not justify current massive and costly redistributive efforts."

Inequality has resulted in part because the financial playing field is not level for all players.

For example, the "field" leans towards corporate subsidies from the government.

And anyone who believes that a "free market" is a reality is missing a few cogs.

KSL
135436
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KSL 01/26/14 - 11:54 pm
3
1
Dahreese, Do you actually

Dahreese,

Do you actually have statistics on the number of Americans who profited from having slaves? How about further breaking it down between white and black slave owners.

KSL
135436
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KSL 01/27/14 - 12:40 am
1
1
http://conservativebyte.com/2

http://conservativebyte.com/2014/01/obama-wants-pad-election-voting/

What is next? This so people don't have to make the effort to get up off their front porches or off their couches and away from their big screens to make an effort to vote?

Take the poll worker in Ohio who voted 6 times in the last presidential election. Inagine what the likes of her could do.

myfather15
55764
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myfather15 01/27/14 - 07:11 am
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Take a drive through the poor

Take a drive through the poor neighborhoods and you'll see why they live as they do!! It's not about the money they make, it's about the responsibility they take!!

Look at all the trash in the ditches and yards!! This has nothing to do with race in the least bit!! It's in the trailer parks and the "hood". Trash lying everywhere, beers bottles strown all over the place, lottery tickets all over the ground, candy wrappers, drink bottles. It's absolutely pathetic!! This is THEIR NEIGHBORHOOD, where they live!! It has nothing to do with income inequality, it has everything to do with personal pride!! MONEY, will NOT buy you personal pride!!!

Why don't they stop throwing trash out their windows? Why don't they get out there and clean their neighborhoods more often? Why don't they report the violators who are littering and trashing their neighborhood? THEY could make their neighborhoods better, but instead, many do nothing.

Does it really take WEALTH to say "I'm not going to throw this wrapper out the window."?

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