A Bigger Pie Doesn’t Mean a Bigger Slice for All

One of the justifications for lowering taxes on the rich for the last 30 years has been that their increased wealth would trickle down to the rest of us. We needn’t complain that some are getting bigger slices of pie than others, we’ve been told, because the pie is getting bigger, and we’re all getting a little more.

Now a new study by the Political Economy Research Institute (PERI) at the University of Massachusetts Amherst challenges the premise that we shouldn’t worry about the growing income inequality gap. (A summary version of the report is available here.) The analysis, by PERI research economist Jeffrey Thompson and Elias Leight, a tax analyst with the Congressional Budget Office, found that when the rich get richer, the rest of us really do get poorer.

“We find that the income of low and middle-income households falls as the disparity in incomes rises,” the authors wrote. “These findings are consistent even with research showing higher inequality leads to greater overall economic growth.”

As the authors explain, previous studies have reached different conclusions about whether income inequality helps the economy overall. On the theory that the gap serves as an incentive to induce people to work harder to try to get ahead, some research has shown that the economy grows faster in times of growing inequality. Other studies, however, have concluded that the rate of economic growth slows as the disparity widens between rich and poor.

What the latest study reveals is that when the rich get richer, incomes for low- and moderate-income household go down—even though the overall economy may be expanding.

We can find evidence in Vermont to support the study’s conclusion. According to Census data, median household income in Vermont—half of the households make more than the median and half make less—rose just 2.1 percent between 1989 and 2009 after adjusting for inflation. But while those in the middle did not see any real income gains during those 20 years, a greater and greater share of income has gone to those at the top for the last four decades. Analysis by Mark Frank of Sam Houston State University shows that the top 1 percent of Vermonters received 6.6 percent of income in 1970, and by 2005 the share received by the top 1 percent had almost tripled, to 19 percent.

This widening income gap didn’t just happen. It’s the result of tax, spending, and regulatory policies this country has adopted for the last 30 years or so. The bad news is that these policies didn’t produce the broad prosperity that was promised. The good news is that we don’t have to stick with these policies; they can be changed until we get it right.