Liberal Programs Deserve Blame for Income Inequality

The Congressional Budget Office documents income gains for everyone, not just the wealthy.

Liberals are treating a new Congressional Budget Office study showing that income inequality increased in America over the last three decades as the smoking gun they'd always been looking for—the ultimate indictment of America, capitalism, and apple pie.

The Nation's George Vornick wrote a piece titled "Yes, Virginia, There Is Income Inequality," billing the CBO's finding as "dramatic." And he wondered whether the study, released as the Occupy Wall Street protests gather steam, would finally force the Republicans on the deficit reduction super committee to face some "uncomfortable truths." New York magazine's Jonathan Chait wasted no time in accusing those not in a tizzy over the study of being "blinkered ideologues" and "income inequality deniers."

But if not everyone is alarmed by dubious claims about rising Gini co-efficients, a metric that measures income inequality, is it because they are "blinkered ideologues" and "deniers." No. Income inequality tells us zilch about the only thing that really matters: Are the lives of Americans, rich, poor, and in between, getting better or worse?

The finding that generated the most headlines was that the after-tax household income of the top 1 percent of Americans grew by 275 percent between 1979 and 2007. But this figure was based on outdated pre-recession data that omitted 2008 and 2009, when the "1 percenters" saw a decade's worth of gains wiped out. This is nothing to weep over. They took the risk and they lost.

But is the fate of those lower on the totem pole cause for panic? Not really. The study reports that in the same period, households in the top quintile saw a 65 percent income gain; the vast middle in the 21st to 80th percentiles saw about a 40 percent gain; and the bottom quintile saw an 18 percent gain.

In other words, no group lost ground or even stagnated. So why all this breast-beating?

Few, besides vulgar Marxists, believe in the "immiseration of the masses" theory of capitalism anymore—the idea that the wealth of the top few is extracted by exploiting the labor of the bottom many. Burying this notion is one of the enduring intellectual victories of market theorists.

The post-liberalization successes of India and China have convinced even ardent liberals that markets play a crucial role in raising productivity and relieving scarcity, vastly expanding the proverbial social pie so that everyone has more to go around.

Of course, some gain more than others. But so what? Isn't an unequal distribution of wealth preferable to an equal distribution of poverty? Is there any amount of inequality that liberal worrywarts would accept? Suppose the CBO had found that every group's income increased by exactly 65 percent. Would they celebrate everyone's good fortune or mourn the unwavering income gap? The question answers itself.

If liberals accept the market's productive capacity but reject its distributive verdict, it's because they think of the market as an abstraction that spews out wealth like a spigot, with who gets what being completely up for grabs. Rich people get more, they believe, because they are more skilled at clawing their way to the head of the line.

But in functioning markets, there is a connection between creating and gaining wealth. Those on the front lines of wealth creation get more than those at the back, regardless of whether they began as rich people or poor. Steve Jobs, whose net worth upon his death was $8.3 billion, got rich because he created a $360 billion company, not because he cut ahead of others. It bespeaks a profound conceptual misunderstanding to talk, as the CBO study does, about the growing concentration of income in the hands of the rich, as if the "rich" existed apart from the wealth—the value—they create.

Another thing liberals are worked up about is that the study attributes rising inequality to fewer "federal transfers" to the poor. But that's not because poor people are getting less money from Uncle Sam in absolute dollars. In fact, they get more every year. It is just that they are getting a smaller portion of total transfers. This is not something that "income inequality deniers" have made up. It is what the study itself says.

It found that in 1979, households in the bottom quintile received more than 50 percent of all transfer payments. In 2007, similar households received about 35 percent of transfers. "The shift reflects the growth in spending for programs focused on the elderly population (such as Social Security and Medicare), in which benefits are not limited to low-income households," the study explains. "As a result, government transfers reduced the dispersion of household income by less in 2007 than in 1979."

In other words, poor people are getting relatively fewer handouts thanks to the Great Society programs that liberals themselves put in place for the elderly. This demonstrates the core problem with unfettered redistributionism: Eventually, you run out of other people's money. And when you do, you have to make hard choices about whose needs to prioritize—not demonize opponents.

Reason Foundation Senior Analyst Shikha Dalmia is a columnist at The Daily, where this column originally appeared.

Update: Since many readers have asked, the CBO figures are adjusted for inflation. Check "Notes and Definitions" on Page 4.