April 16,2016

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The emergence of economic inequality as a public policy issue grew out of the wreckage of the Great Recession. And while it was protest movements like Occupy Wall Street that brought visibility to America’s glaring income gap, academic economists have had a near monopoly on diagnosing why it is that inequality has worsened in the decades since 1980.

Monopolies rarely deliver outstanding service, and this is no exception. The economics profession is fond of believing that its theorising is an impartial, value-neutral endeavour. In actuality, mainstream (‘neoclassical’) economics is loaded with suppositions that have as much to do with ideology as with science.

Take the distribution of income, which economists argue is a consequence of production. Whether one earns $10 per hour or $10 million per year, the assumption is that individuals receive as income that which they contribute to societal output (their ‘marginal product’). In this vision, the free market is not only the best way to efficiently allocate scarce resources; it also ensures distributive justice.

But what if income inequality is shaped, in part, by broad power institutions – oligopolistic corporations and labour unions being two examples – such that some are able to claim a greater share of national income, not through superior productivity, but through market power?

In a study recently published with the Levy Economics Institute, I explore the power underpinnings of American income inequality over the past century. The key finding: corporate concentration exacerbates income inequality, while trade union power alleviates it.

Mass prosperity – the fabled ‘middle class’ – was largely built between the 1940s and the 1970s. When President Roosevelt created the New Deal in 1935 union density was just eight percent. Density soared to nearly 30 percent by the mid-1950s, and the period spanning the 1930s to the 1970s would bear witness two major strike waves.

The combined effect was a surge in the national wage bill. In 1935 the share of national income going to the bottom 99 percent of the workforce was 44 percent. In tandem with strong unions and intense strike activity, the wage bill rose to 54 percent by the 1970s. In the period after 1980, union density and work stoppages both plummeted, pulling the wage bill down with them. American unionisation is now just 11 percent and the wage bill sits at 41 percent – a seven decade-low for both metrics.

The declining power of the labour movement has many causes, but a series of state policies in the early 1980s hastened the demise. President Regan’s penchant for union busting and the crippling effects of overly restrictive monetary policy (the infamous ‘Volcker shock’) broke the back or organised labour. As trade union power declined, a crucial mechanism for progressively redistributing income began to fade in significance.

The decline of trade unions did not lead to an economic golden age, as some would have hoped. In the decades after 1980, business investment trended downward, job creation slowed and GDP growth decelerated – a phenomenon often referred to as ‘secular stagnation’. Many economists have wondered why, given business-friendly policies in Washington, investment declined so precipitously after 1980.

With more market power-generated income at their disposal, large firms have paid comparatively more to shareholders in the form of dividends.

At the same time, the 100 largest firms have spent more repurchasing their own stock than they have on machinery and equipment. And because many executives have stock options in their contracts, the share price inflation associated with stock repurchase has led to soaring executive compensation.

None of these developments are inevitable, but if we are to meaningfully confront the dual problem of secular stagnation and soaring inequality we must begin to understand the role that power plays in driving these trends.

This article has been excerpted from: ‘Power: the missing piece of the inequality puzzle’.



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