Final Paper
Wealth Inequality in U.S. and Economic Efficiency

Over the last decade, income inequality has become one of the most important issues in the U.S. and a subject of a lot of debate. There is a prevalent idea in the society that the wealth inequality in United States is currently at the highest level in the history after steadily raising for a number of decades. The financial crisis is said to have contributed to this significant gap between the top 1% and everybody else. People view it as an inherently negative thing, and fight hard to promote the equality and income redistribution. This paper examines the causes of inequality; the relationship between wealth inequality and economic growth and the hypothesis on how policy measures can be designed to mitigage the income disparity both in U.S. and in the rest of the world. The researh is based on the theory that inequality is an essential aspect of an efficient free market economy that adversely affects economic growth when in excess.
When it comes to global wealth inequality, people often tend to accuse capitalism. In fact, the real laissez-faire capitalism doesn't exist anywhere on our planet. According to its definition, laissez faire is "an economic system in which transactions between private parties are free from intrusive government restrictions, tariffs, and subsidies, with only enough regulations to protect property rights." It has been previously proven free markets lead to the most efficient use of economic resources and makes everybody better off in the process. It should not come as a surprise that the pure form of capitalism is often said to not have a place in modern society as it implies a complete anarchy. On the on other hand, having absolutlely no government involvement in the economy has been supported by present-day right libertarians. (Classical Liberalism and the Austrian School; Ralph Raico). In fact, less government intervention leads to a more efficient market and a climate of economic expansion. Inequality is one of the aspects of the economy with little to no government intervention. It spreads innovation, which in turn creates opportunities for individuals from different economic backgrounds. “Some inequality is integral to the effective functioning of a market economy and the incentives needed for investment and growth (Chaudhuri and Ravallion, 2006).” While the rich benefit the most from the increased wealth, the poor also take advantage of higher living standards. History suggests that lower taxes on the wealthy encourage investment and growth, meaning enhanced living standards across the globe. Research from sociologist Lane Kenworthy reveals that the countries with superior increases in income concentration within the top 1 percent typically have greater income gains both among the middle class and the poor. (Income Inequality: Economic Disparities and the Middle Class in Affluent Countries. Stanford University Press. pp. 101–113). However, inequality may also be destructive for growth because it deprives the lower income people of the ability to be healthy and accumulate human capital (Perotti, 1996; Galor and Moav, 2004; Aghion, Caroli, and Garcia-Penalosa, 1999); can result in a political and economic instability that reduces investment (Alesina and Perotti, 1996); and hampers the social consensus required to adjust to shocks and sustain growth (Rodrik, 1999).
Two of the most proclaimed economists Dan Altman and Thomas Piketty argue that wealth inequality hampers growth and that it is destined to aggravate in the future. In his book Capital in the Twenty First Century, Piketty advocates a tax rate of 80 percent for income above $500,000. Before we determine the appropriate tax rate, it’s crucial to be able to distinguish the difference between income and wealth inequality. “While the richest 1 percent of households saw their after-tax incomes decline by 27 percent from 2007 to 2011, earnings of those in the bottom 95 percent of the income ladder dropped just 1 or 2 percent." Although the income inequality has not increased since the financial crisis, the major issue America faces is the wealth inequality. According to a 2014 Credit Suisse study, the ratio of wealth to household income is the highest it has been since the Great Depression. (Mark Gongloff, Key Inequality Measure The Highest Since The Great Depression. The Huffington Post.). Based on Inequality for All, the top 1 percent generates more than 20 percent of the country's income, and the 400 wealthiest people in the nation possess more wealth than everybody in the bottom 50 percent. There is a significant correlation between the income inequality and social mobility which reflects the prospects of individuals, families, households, or other categories of people in a society to move through a system of social hierarchy. According to Harvard study, the spatial variation in intergenerational mobility is strongly correlated with five factors: (1) residential segregation, (2) income inequality, (3) school quality, (4) social capital, and (5) family structure. (The Geography of Intergenerational Mobility in the United States, Harvard, June 2014). The inequality problems arise when society lacks equality of opportunity to advance. Economic mobility in U.S. is much lower than in most first world countries. For instance, poor children growing up in countries like Canada and Denmark have a greater chance of moving up the economic ladder than do poor children from the United States. (The Geography of Intergenerational Mobility in the United States, Harvard, June 2014).
Understanding the drivers of inequality is fundamental to developing policy measures that can help to address the widening disparity in wealth and income. According to Saez and Zucman, the drastic increase in wealth inequality has occurred due to lower progressive taxes and changing job market. The globalization and technological changes both contributed to rising inequality as they favored higher-skilled workers more than lower-skilled ones, while underscoring the importance of training and education. The trade liberalizaition has significantly increased returns to capital for the corporations while simultaneously diminishing returns to workforce in the U.S. and other developed countries.
Recetly, policies to reduce inequality and poverty have been focused on raising progressive taxes and minimum wages. However, both of these policies have been recognized to have downfalls. Progressive tax systems deprive certain economic activities such as investment, entrepreneurship, and financial risktaking – the fuels of economic growth that are generally undertaken by individuals with higher incomes. Higher minimum wages lead to the increased unemployment and lower job growth, especially for young workforces and in industries with a higher number of low-wage workers.
Instead of rasing taxes and minimum wages, there are a number of steps that could be done to achieve the goal of reducing inequality while maintaining/boosting economic growth. It’s hard to deny that the diparity in levels of education accounts for a good share of the inequality. Equalizing access to high-quality education is the key to give the workers skills to do the jobs that technology is creating. The college education costs have been rising disproportionally faster than the wages over the last few decades. Low-income students are finding it increasingly difficult to finance their education, as financial aid has fallen behind the rising cost of higher education. According to S&P' calculations, if the workforce in the U.S. gained just one extra year of education on average, U.S. GDP would raise by $525 billion by 2019. (How Increasing Income Inequality Is Dampening U.S. Economic Growth, And Possible Ways To Change The Tide, S&P, August 2014) Online learning platforms such as Khan Academy have potential to revolutionize the phenomenon of inequally distributed learning and to fight the global income inequality. People in developed and third world countries currently don’t have an equal access to education, healthcare, internet technology etc. 86% of U.S. population have access to Internet compared to 46% in China and 19% in Indiana. Several major tech companies, such as Dell and Google, have launched initiatives to give access to Internet and other technology to children and young people in the world's poorest regions. Nowadays, the massive open online course movement (MOOCs) that originated in U.S. has most of the users coming from third world countries. (Exporting Education, Anya Kamenetz, November 2013). Another challenge that has to be addressed is that white-collar workers’ existing skills may no longer adjust to the way in which economies have evolved.
The growing debate over income inequality raises another interesting question. How did increasing healthcare costs contribute to the widening gap between the rich and poor? Because of the escalating health care costs an increasing share of workers’ wages have gone towards health insurance premiums. The greater premiums give us a fair explanation why middle-class wages have stagnated. An appropriate health care reform has to take place, so that low-income workers are not be held back by a high percentage of their income going towards government. What has also contributed to the income inequality over the past several decades is the values of land and housing, which have skyrocketed. “In the New York metropolitan area -- an extreme example, to be sure -- the average price per square foot of land rose to $366 in 2006, from $47 in 1999”. (The Price of Land in the New York Metropolitan Area;
Andrew Haughwout, James Orr, and David Bedoll). The land and housing prices growth has also remained steady throughout the recovery after Financial Crisis of 2008. More than 30 countries worldwide have already implemented some kind of land value tax. (Assessing the Theory and Practice of Land Value Taxation; Richard F. Dye, Richard W. England). Imposing a land value tax could help to address this cause of inequality.
In conclusion, while incomes have increased across all segments of the population in nearly all regions and countries in the last few decades, the proceeds of the already well off have raised by disproportionately more during the recent era of globalization. Greater access to education and techmology can increase the share of the population that can take advantage of the opportunities to improve their living standards. In a short run, health care reform and the land tax are some of the solutions to directly address the income inequality. In a long run. The United States could possible go the way of Europe in its welfare state and economic institutions. European countries have managed to achieve a prospering middle class.

Refererences
Classical Liberalism and the Austrian School; Ralph Raico
Rising Income Inequality: Technology, or Trade and Financial Globalization? Florence Jaumotte, Subir Lall, and Chris Papageorgiou; IMF
Income Inequality, Equality of Opportunity, and Intergenerational Mobility, Miles Corak, July 2013
Trends in Income Inequality and its Impact on Economic Growth; Federico Cingano
The Drivers of Economic Inequality; V. Nicholas Galasso, OXFAM America
Assessing the Theory and Practice of Land Value Taxation; Richard F. Dye, Richard W. England
The Price of Land in the New York Metropolitan Area; Andrew Haughwout, James Orr, and David Bedol
Exporting Education, Anya Kamenetz, November 2013
How Increasing Income Inequality Is Dampening U.S. Economic Growth, And Possible Ways To Change The Tide, S&P, August 2014)
The Geography of Intergenerational Mobility in the United States, Harvard, June 2014
Partially Awakened Giants : Uneven Growth In China And India; Chaudhuri and Ravallion, 2006
Income Inequality: Economic Disparities and the Middle Class in Affluent Countries. Stanford University Press. pp. 101–113
Income Distribution, Political Instability, and Investment; Roberto Perotti, 1996
From Physical to Human Capital Accumulation: Inequality and the Process of Development; Oded Galor, Omer Moav
Inequality and economic growth: the perspective of the new growth theories; Aghion, Caroli and Garcia-Penalosa, 1999
Institutions For High-Quality Growth:What They Are and How to Acquire Them; Dani Rodrik, 1999
Capital in the Twenty First Century, Thomas Piketty, 2013
Mark Gongloff, Key Inequality Measure The Highest Since The Great Depression. The Huffington Post
Wealth Inequality in the United States since 1913: Evidence from Capitalized Income Tax Data, Emmanuel Saez, Gabriel Zucman