Our three examples highlight the importance of understanding both the theory and the practice of capital and income measurement. Analysts have often used statistics to make statements about U.S. savings behavior and inequality, without understanding some important causes of the observed outcomes. This article will help the reader to avoid such pitfalls and interpret the empirical evidence more knowledgeably. In particular, changes to the tax code in the 1980s drastically altered the reporting of various types of income, even though the underlying income levels probably did not change nearly as much. This fact is highly relevant in today’s policy disputes, because a pioneering indicator of growing wealth inequality is based on income tax data. It is entirely possible that the apparent surge in wealth inequality is largely spurious, reflecting large changes in the tax code but not large changes in the underlying economic reality.
This is from Robert P. Murphy, “Accounting for Capital and Income,” one of the two Featured Articles on Econlib for July.
In the piece, Bob lays out nicely the concepts of capital and income and goes on to show that although we economists have a pretty good theoretical handle on both concepts, when it comes to linking those concepts up with available data, it becomes complicated. He also argues, as Alan Reynolds had done earlier, that the 1986 Tax Reform Act dramatically changed reporting of individual income, and shows that this matters for recent discussions of rising wealth inequality in the United States.
READER COMMENTS
Effem
Jul 7 2014 at 10:11am
Pretty sure stats on total wealth (not just income) show very wide, and growing, inequality.
RogC
Jul 7 2014 at 1:15pm
An interesting study would be to examine equivalent wealth after redistribution and defined payment retirement benefits. A person whose only source of income is from government benefits and receives 36,000 per year has the equivalent of 1,200,000 in savings paying a perpetuity of 3%. Likewise an individual paying as little as 36,000 in taxes per year has the equivalent of 1,200,000 debt at 3%.
A retired teacher drawing only 50K per year in combined retirement pay and benefits has equivalent wealth to a private savings of 1.6 million. Staying with the 3% discount rate as both the retirement or redistribution benefits best equate to the risk free rate.
Bob Murphy
Jul 7 2014 at 3:22pm
Effem wrote:
Pretty sure stats on total wealth (not just income) show very wide, and growing, inequality.
Not if by “stats” you are including the Kopczuk-Saez measure, which was based on estate tax data. This was apparently the gold standard in the literature until the Saez-Zucman PowerPoints came out in March 2014 and cast doubt on it.
Mr. Econotarian
Jul 7 2014 at 6:45pm
So who should I believe???
The Global Decline of the Labor Share
“We document, however, that the global labor share has significantly declined since the early 1980s, with the decline occurring within the large majority of countries and industries. We show that the decrease in the relative price of investment goods, often attributed to advances in information technology and the computer age, induced firms to shift away from labor and toward capital. The lower price of investment goods explains roughly half of the observed decline in the labor share, even when we allow for other mechanisms influencing factor shares such as increasing profits, capital-augmenting technology growth, and the changing skill composition of the labor force. ”
Or…The Decline of the U.S. Labor Share
“Over the past quarter century, labor’s share of income in the United States has trended downwards, reaching its lowest level in the postwar period after the Great Recession. Detailed examination of the magnitude, determinants and implications of this decline delivers five conclusions. First, around one third of the decline in the published labor share appears to be an artifact of statistical procedures used to impute the labor income of the self-employed that underlies the headline measure. Second, movements in labor’s share are not a feature solely of recent U.S. history: The relative stability of the aggregate labor share prior to the 1980s in fact veiled substantial, though offsetting, movements in labor shares within industries. By contrast, the recent decline has been dominated by trade and manufacturing sectors. Third, U.S. data provide limited support for neoclassical explanations based on the substitution of capital for (unskilled) labor to exploit technical change embodied in new capital goods. Fourth, prima facie evidence for institutional explanations based on the decline in unionization is inconclusive. Finally, our analysis identifies offshoring of the labor-intensive component of the U.S. supply chain as a leading potential explanation of the decline in the U.S. labor share over the past 25 years.”
Michael
Jul 8 2014 at 1:36am
How about adjusting “wealth” as per common personal financial planning techniques – which incorporates the “wealth” of your human capital…. my guess is that a large chunk of wealth inequality is age related (old people are richer than young people, because they have already had a lifetime of converting human capital into financial capital….), and a recognition of the “wealth” of human capital would likely decrease the “gini” on apparent levels of inequality…..
AS
Jul 12 2014 at 9:30am
@Michael, proponents of redistribution would never do that because it weakens their case for seizing power. Politics is driven by power, not economic sense.
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