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MN2020 - Another Indicator of Growing Income Inequality
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Another Indicator of Growing Income Inequality

November 26, 2013 By Jeff Van Wychen, Fellow and Director of Tax Policy & Analysis

A few weeks ago, I was combing through income data (a common pastime among policy nerds). A recent Minnesota 2020 article explored the decline in median income in Minnesota over the last decade and I expected to see a similar decline in per capita income. To my surprise, the decline in per capita income was only half as great as the decline in median income.

Further investigation showed an even greater divergence between median and per capita income trends over the last several decades. Since 1979, per capita income has grown more rapidly than median income during good times and fallen less rapidly during bad times. The graph below shows these trends in real (i.e., inflation-adjusted) dollars for 1979, 1989, 1999, and 2009.*

Graph: Change in Income since 1979

From 1979 to 1999, Minnesota's real per capita income grew by 35.7 percent, compared to a mere 15.6 percent growth in median income. From 1999 to 2009 (the decade encompassing the Great Recession), Minnesota real per capita income fell by just 3.6 percent, while median income fell by 8.3 percent. Similar patterns are seen at the national level. Annual American Community Survey data shows a continuation of these trends through 2012.

The divergent rates in median and per capita income growth and decline have to do with the nature of median versus per capita calculations. The median represents the middle value in a range of values. For example, in a community of five members with incomes of $10,000, $20,000, $30,000, $50,000, and $100,000, the median income would be the value in the middle—in this case $30,000. Let’s assume that in the next year the income for the highest income member increased from $100,000 to $120,000 and the income of everyone else remained constant. In this case the median income of the community would remain $30,000 because the income of the member in the middle did not change.

Per capita income is calculated by taking the sum of everyone’s income and dividing by the number of people. In our hypothetical community, the per capita income would equal $210,000 (the sum of income of all members) divided by the number of members (five)—or $42,000. If the income of the wealthiest member increased by $20,000 and everyone else’s income remained the same, the per capita income of the community would increase to $46,000 ($230,000 / 5)—a 9.5 percent increase.

Because per capita income is driven upward by increased income concentration at the top while median income is not, per capita income has increased more rapidly than median income over the last several decades. Thus, rising income inequality helps to explain the divergence between median and per capita income growth rates.

The reality of escalating income inequality in Minnesota and the entire nation was aptly demonstrated by recent studies. If further proof is needed, consider the following graph which shows the change since 1979 in the share of each dollar of total U.S. income that goes into the pockets of U.S. households ranging from lowest 20 percent to the top five percent.†

Graph: Change in Share of Aggregate US Income

In 1979, 4.1 cents of each dollar of aggregate U.S. income went into the pockets of the lowest 20 percent of U.S. households by income. By 2012, this had fallen to 3.2 cents—a decline of 21 percent. Similar but smaller declines occurred among the second, third (middle), and fourth income quintiles (i.e., groups of 20 percent). In total, the portion of each dollar of income accruing to the bottom 80 percent of U.S. households fell from 55.7 cents in 1979 to 49.0 cents in 2012—a decline of 12 percent.

Meanwhile, the share of income accruing to those at the top steadily increased. Among the top 20 percent excluding the top five percent, the share of income increased by a modest 5.2 percent. The most extravagant gains occurred among the top five percent. The portion of each dollar of income accruing to the top five percent grew from 16.9 cents in 1979 to 22.3 cents in 2012—a whopping 32 percent increase. While the Census data used here is limited to the top five percent, data from other sources make clear that income concentration among the top one percent increased even more dramatically.

The causes of growing inequality have been aptly summarized by former U.S. Labor Secretary and UC Berkeley Professor Robert Reich:

The underlying problem emerged around 1980, when the American middle class started being hit by the double whammy of global competition and labor-replacing technologies… Instead of implementing a new set of policies that would enable the middle class to flourish under these very different circumstances, political leaders—reflecting the prevailing faith in an omnipotent and all-knowing free market—embraced deregulation and privatization, attacked and diminished labor unions, cut taxes on the wealthy, and shredded social safety nets. The manifest result was stagnant wages for most Americans, increasing job insecurity, and steadily widening inequality. The benefits of economic growth accrued to a smaller and smaller group.‡

Growing per capita income alone is not enough to sustain economic growth. Median income—a better indicator of the purchasing power of the typical household—must also increase at a rate at least sufficient to keep pace with inflation. As Reich puts it, “Without enough purchasing power, the middle class will be unable to sustain a strong recovery. Over the longer term, the economy will stagnate.” Reich is correct and the current lackluster recovery proves it.

The tax act and budget passed during the 2013 legislative session will help to reverse the trend of rising income inequality. However, more needs to be done. The most immediate objective—an increase in the state’s minimum wage to $9.50 per hour—will help to reduce income inequality and restore the purchasing power of lowest income households who have lost the most in recent years and decades. This is but the first of many steps necessary to reverse the tide of rising income inequality and restore a just and sustainable economy.

 

*The 1979, 1989, and 1999 median and per capita income data used in this analysis are from the 1980, 1990, and 2000 decennial censuses; 2009 median and per capita income data are from the 2009 American Community Survey, also from the U.S. Census Bureau.

†These amounts used in this graph are from the U.S. Census Bureau’s Current Population Survey.

‡Excerpted from “Aftershock: The Next Economy and America’s Future” by Robert Reich, 2010.

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