Economy

How Inequality Is Killing the American Dream...And What We Can Do About It

The question is not whether we can afford to do more about our inequality; it is whether we can afford not to do more.

A rich country with millions of poor people. A country that prides itself on being the land of opportunity, but in which a child’s prospects are more dependent on the income and education of his or her parents than in other advanced countries. A country that believes in fair play, but in which the richest often pay a smaller percentage of their income in taxes than those less well off. A country in which children every day pledge allegiance to the flag, asserting that there is “justice for all,” but in which, increasingly, there is only justice for those who can afford it. These are the contradictions that the United States is gradually and painfully struggling to come to terms with as it begins to comprehend the enormity of the inequalities that mark its society—inequities that are greater than in any other advanced country.

Those who strive not to think about this issue suggest that this is just about the “politics of envy.” Those who discuss the issue are accused of fomenting class warfare. But as we have come to grasp the causes and consequences of these inequities we have come to understand that this is not about envy. The extreme to which inequality has grown in the United States and the manner in which these inequities arise undermine our economy. Too much of the wealth at the top of the ladder arises from exploitation—whether from the exercise of monopoly power, from taking advantage of deficiencies in corporate governance laws to divert large amounts of corporate revenues to pay CEOs’ outsized bonuses unrelated to true performance, or from a financial sector devoted to market manipulation, predatory and discriminatory lending, and abusive credit card practices. Too much of the poverty at the bottom of the income spectrum is due to economic discrimination and the failure to provide adequate education and health care to the nearly one out of five children growing up poor.

The growing debate about inequality in America today is, above all, about the nature of our society, our vision of who we are, and others’ vision of us. We used to think of ourselves as a middle-class society, where each generation was better off than the last. At the foundation of our democracy was the middle class—the modern-day version of the small, property-owning American farmer whom Thomas Jefferson saw as the backbone of the country. It was understood that the best way to grow was to build out from the middle—rather than trickle down from the top. This commonsense perspective has been verified by studies at the International Monetary Fund, which demonstrate that countries with greater equality perform better—higher growth, more stability. It was one of the main messages of my book The Price of Inequality. Because of our tolerance for inequality, even the quintessential American Dream has been shown to be a myth: America is less of a land of opportunity than even most countries of “old Europe.”

The articles in this special edition of the Washington Monthly describe the way that America’s inequality plays out at each stage of one’s life, with several articles focusing in particular on education. We now know that there are huge disparities even as children enter kindergarten. These grow larger over time, as the children of the rich, living in rich enclaves, get a better education than the one received by those attending schools in poorer areas. Economic segregation has become the order of the day, so much so that even those well-off and well-intentioned selective colleges that instituted programs of economic affirmative action—explicitly trying to increase the fraction of their student body from lower socioeconomic groups—have struggled to do so. The children of the poor can afford neither the advanced degrees that are increasingly required for employment nor the unpaid internships that provide the alternative route to “good” jobs.

Similar stories could be told about each of the dimensions of America’s outsized inequality. Take health care. America is unique among the advanced countries in not recognizing access to health care as a basic human right. And that means if you are a poor American, your prospects of getting adequate, let alone good, medical care are worse than in other advanced countries. Even after passage of the Affordable Care Act (ACA), almost two dozen states have rejected expanding vitally needed Medicaid, and more than forty million Americans still lacked health insurance at the beginning of 2014. The dismal statistics concerning America’s health care system are well known: while we spend more—far more—on health care (both per capita and as a percentage of gross domestic product) than other countries, health outcomes are worse. In Australia, for instance, spending on health care per capita is just over two-thirds that in the United States, yet health outcomes are better—including a life expectancy that is a remarkable three years longer.

Two of the reasons for our dismal health statistics are related to inequalities at the top and the bottom of our society—monopoly profits reaped by drug companies, medical device makers, health insurers, and highly concentrated provider networks drive prices, and inequality, up while the lack of access to timely care for the poor, including preventive medicine, makes the population sicker and more costly to treat. The ACA is helping on both accounts. The health insurance exchanges are designed to promote competition. And the whole act is designed to increase access. The numbers suggest it’s working. As for costs, the widespread predictions that Obamacare would cause massive health care inflation have proven false, as the rate of increase in health care prices has remained comparatively moderate over the last several years, showing once again that there is no necessary trade-off between fairness and efficiency. The first year of the ACA showed significant increases in coverage—far more significant in those states that implemented the Medicaid expansion than in those that refused to do so. But the ACA was a compromise, leaving out dental and long-term extended care insurance.

Inequities in health care, then, are still with us, beginning even before birth. The poor are more likely to be exposed to environmental hazards, and mothers have less access to good prenatal care. The result is infant mortality rates that are comparable to some developing countries alongside a higher incidence of low birth weight (systemically correlated with poor lifetime prospects) than in other advanced countries. Lack of access to comprehensive health care for the 20 percent of American children growing up in poverty, combined with lack of access to adequate nutrition, makes success in school even less likely. With the cheapest form of food often being unhealthy carbohydrates, the poor are more likely to face problems of childhood diabetes and obesity. The inequities continue throughout life—culminating in dramatically different statistics on life expectancy.

All well and good, you might say: it would be nice if we could give free health care to all, free college education to all, but these are dreams that have to be tamed by the harsh realities of what we can afford. Already the country has a large deficit. Proposals to create a more equal society would make the large deficit even larger—so the argument goes. America is especially constrained because it has assumed the costly mission of ensuring peace and security for the world.

This is nonsense, on several counts.

The real strength of the United States is derived from its “soft power,” not its military power. But growing inequality is sapping our standing in the world from within. Can an economic system that provides so little opportunity—where real median household income (half above, half below, after adjusting for inflation) is lower today than it was a quarter century ago—provide a role model that others seek to emulate, even if a few at the very top have done very well?

Moreover, what we can afford is as much a matter of priorities as anything else. Other countries, such as the nations of Scandinavia, have, for instance, managed to provide good health care to all, virtually free college education for all, and good public transportation, and have done just as well, or even better, on standard metrics of economic performance: incomes per head and growth are at least comparable. Even some countries that are far poorer than the United States (such as Mauritius, off the east cost of Africa) have managed to provide free college education and better access to health care. A nation must make choices, and these countries have made different ones: they may spend less on their military, they may spend less on prisons, they may tax more.

Besides, many of the distributional issues are related not to how much we spend but who we spend it on. If we include within our expenditures the “tax expenditures” buried in our tax system, we effectively spend a lot more on the housing of the rich than is generally recognized. Interest deductability on a mega-mansion could easily be worth $25,000 a year. And alone among advanced economies, the United States tends to invest more in schools with richer student bodies than in those with mostly poor students—an effect of U.S. school districts’ dependence on local tax bases for funding. Interestingly, according to some calculations, the entire deficit can be attributed to our inefficient and inequitable health care system: if we had a better health care system—of the kind that provided more equality at lower cost, such as those in so many European countries—we arguably wouldn’t even have a federal budget deficit today.

Or consider this: if we provided more opportunity to the poor, including better education and an economic system that ensured access to jobs with decent pay, then perhaps we would not spend so much on prisons—in some states spending on prisons has at times exceeded that on universities. The poor instead would be better able to seize new employment opportunities, in turn making our economy more productive. And if we had better public transportation systems that made it easier and more affordable for working-class people to commute to where jobs are available, then a higher percentage of our population would be working and paying taxes. If, like the Scandinavian countries, we provided better child care and had more active labor market policies that assisted workers in moving from one job to another, we would have a higher labor force participation rate—and the enhanced growth would yield more tax revenues. It pays to invest in people.

This brings me to the final point: we could impose a fair tax system, raising more revenue, improving equity, and boosting economic growth while reducing distortions in our economy and our society. (That was the central finding of my 2014 Roosevelt Institute white paper, “Reforming Taxation to Promote Growth and Equity.”) For instance, if we just imposed the same taxes on the returns to capital that we impose on those who work for a living, we could raise some $2 trillion over ten years. “Loopholes” does not adequately describe the flaws in our tax system; “gaps” might be better. Closing them might end the specter of the very rich almost proudly disclosing that they pay a tax rate on their disclosed income at half the rate of those with less income, and that they keep their money in tax havens like the Cayman Islands. No one can claim that the inhabitants of these small islands know how to manage money better than the wizards of Wall Street; but it seems as though that money grows better in the sunshine of these beach resorts!

One of the few advantages of there being so much money at the top of the income ladder, with close to a quarter of all income going to the top 1 percent, is that slight increases in taxes at the top can now raise large amounts of money. And because so much of the money at the top comes from exploitation (or as economists prefer to call it, “rent seeking”—that is, seizing a larger share of the national pie rather than increasing its size), higher taxes at the top do not seem to have much of an adverse effect on economic performance.

Then there’s our corporate tax rate. If we actually made corporations pay what they are supposed to pay and eliminated loopholes we would raise hundreds of billions of dollars. With the right redesign, we could even get more employment and investment in the United States. True, U.S. corporations face one of the higher official corporate tax rates among the advanced countries; but the reality is otherwise—as a share of corporate income actually paid, our federal corporate taxes are just 13 percent of reported worldwide income. By most accounts, the amount of taxes actually paid (as a percentage of profits) is no higher than the average of other advanced countries. Apple Inc., Google Inc., and General Electric Co. have become the poster children of American ingenuity—making products that are the envy of the rest of the world. But they are using too much of that ingenuity to figure out how to avoid paying their fair share of taxes. Yet they and other U.S. corporations make full use of ideas and innovations produced with the support of the U.S. government, starting with the Internet itself. At the same time they rely on the talent produced by the country’s first-rate universities, all of which receive extensive support from the federal government. They even turn to the U.S. government to demand better treatment from our trading partners.

Corporations argue that they would not engage in so much despicable tax avoidance if tax rates were lower. But there is a far better solution, and one that the individual U.S. states have discovered: have corporations pay taxes based on the economic activity they conduct in the United States, on the basis of a simple formula reflecting their sales, their production, and their research activities here, and tax corporations that invest in the United States at lower rates than those that don’t. In this way we could increase investment and employment here at home—a far cry from the current system, in which we in effect encourage even U.S. corporations to produce elsewhere. (Even if U.S. taxes are no higher than the average, there are some tax havens—like Ireland—that are engaged in a race to the bottom, trying to recruit companies to make their country their tax home.) Such a reform would end the corporate stampede toward “inversions,” changing a corporation’s tax home to avoid taxes. Where they claim their home office is would make little difference; only where they actually do business would.

Other sources of revenue would benefit our economy and our society. Two basic principles of taxation are that it is better to tax bad things than good; and it is better to tax factors in what economists call “inelastic supply”—meaning that the amounts produced and sold won’t change when taxes are imposed on them. Thus, if we taxed pollution in all of its forms—including carbon emissions—we could raise hundreds of billions of dollars every year, and have a better environment. Similarly, appropriately designed taxes on the financial sector would not only raise considerable amounts of money but also discourage banks from imposing costs on others—as when they polluted the global economy with toxic mortgages.

The $700 billion bank bailout pales in comparison to what the bankers’ fecklessness has cost our economy and our society—trillions of dollars in lost GDP, millions of Americans thrown out of their homes and jobs. Yet few in the financial world have been held accountable.

If we required the banks to pay but a fraction of the costs they have imposed on others, we would then have further funds to undo some of the damage that they caused by their discriminatory and predatory lending practices, which moved money from the bottom of the economic pyramid to the top. And by imposing even slight taxes on Wall Street’s speculative activities via a financial transactions tax, we would raise much-needed revenue, decrease speculation (thus increasing economic stability), and encourage more productive use of our scarce resources, including the most valuable one: talented young Americans.

Similarly, by taxing land, oil, and minerals more—and forcing those who extract resources from public land to pay the full values of these resources, which rightly belong to all the people, we could then spend those proceeds for public investments—for instance, in education, technology, and infrastructure—without resulting in less land, less oil, fewer minerals. (Even if they are taxed more, these resources won’t go on strike; they won’t leave the country!) The result: increased long-term investments in our economy would pay substantial future dividends in higher economic productivity and growth—and if the money was spent right, we could have more shared prosperity. The question is not whether we can afford to do more about our inequality; it is whether we can afford not to do more. The debate in America is not about eliminating inequality. It is simply about moderating it and restoring the American Dream.

Joseph Stiglitz, a Nobel laureate, is a professor of economics at Columbia University.
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