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Something to Think About
Conservatives
argue that less government, lower taxes, and
deregulation of the economy will lead to economic prosperity for all. The
validity of this proposition can be put to the test by examining how the concentration
of income
of
the Top 1% of the income distribution, shown in
Figure 1, and the average real
income (measured in 2012 prices) of the Bottom 90% have changed within the historical context in
which these changes occurred.
Figure 1: Income Share of Top 1%, 1913-2012, and the
Average Real Income of Bottom 90%, 1917-2012.
Source:
The World Top
Incomes Database.
T he income share
of
the Top
1% (excluding capital gains) in this figure averaged 16.9% of total income
from 1917 through 1933 with a low of
14.5% in 1920 and a high of 19.6% in 1928. The average real income of
the
Bottom 90%
averaged $9,447 and
fell from a high
of $11,291 in 1917 to a low of $6,676 in 1920 but had increased back to $10,536
by 1929.
It then plummeted to $6,940 from 1929 through 1933.
When we look at the historical context within which these changes took place we
find that they began with
World War I, followed by a rather steep recession in
1920 and 1921, a
real-estate bubble from 1922 through 1926, a
Stock-market bubble from 1926 through the fall of 1929, and four years of
recession
in which the rate of
unemployment increased from 3.5% in 1929 to 24.9% in 1933.
Figure 2: Rate of Unemployment, 1929-2013.
Source:
Bureau of Labor Statistics (1),
Economic Report of the President, 1960
(D17).
We also find
that, except during World War I, from 1917 to 1933 was an era of less government, lower
taxes, and virtually no regulation,
and it ended in the depths of
the
Great Depression
at
the beginning of the
New Deal—that is, at
the beginning of a new era in which higher taxes, more government, and more
regulation became the rule.
The average real income of the Bottom 90% began to increase
after 1933 but was essentially the same in 1940
($9,862) as it had been in 1920 ($9,676) and was still significantly below where
it stood in 1917 ($11,291). At the same time, the concentration of income
of
the Top 1% averaged 15.9% from 1933 through 1940 and fell below 15% in
only one year during that period. Unemployment remained above 14%
throughout that period.
Then came World War II as the government took over the economic system,
instituted wage and price controls, rationed consumer goods, and increased
personal and corporate tax rates dramatically. The result was a dramatic fall in
unemployment, and the concentration of income of the Top 1% fell from 15.7% of total income in
1940 to 11.4% by 1950. At the same time there was a dramatic increase in the average real income of
the Bottom 90% from $9,862 in 1940 to $18,797 in 1950.
The Prosperous Years: 1950 through 1973
Over the 23 years following 1950
we see another dramatic increase in the average real
income of the Bottom 90%
as it went from
$18,797 in 1950 to $34,956 in 1973. At the same
time, the concentration of total income of the Top 1% decreased fairly
consistently throughout this period, falling from 11.4% of total income in 1950
to 7.7% in 1973.
Unlike the period leading up to 1933, this was decidedly an era of higher taxes, more government, and
more regulation of the economy.
As can be seen in Figure 3, government
made a relatively minor direct contribution to output in
1929, as reflected in the National Income and Product Accounts. The
direct contribution of
All Governments (federal, state, plus local) to GDP was less than 10%
in 1929. It didn't exceed 15% until the 1933, and it
remained at about that level through the remainder of the 1930s as the average
real income of the Bottom 90% increased from $6,940 in 1933 to $9,862
in 1940.
Figure 3: Direct Contribution of Government to GDP,
1929-1913.
Source:
Bureau of Economic Analysis (1.1.5)
In addition, taxes were exceedingly low prior to the
1930s. The
maximum marginal personal income tax rate was
7% before World War I, and even though it was raised to
77% during the war it had been cut back to
25% by 1925 where it remained until 1931. The maximum corporate tax
rate was
2% prior to World War I and was raised to
12% during the war where it essentially remained until 1932.
This changed in the 40 year period following the
New Deal during which taxes and the direct
contribution of All Governments to GDP increased dramatically as the
average real income of the Bottom 90% increased fourfold, from $6,940
in 1933 to $34,956 in 1973. For the 23 year period from 1950 through 1973 the
direct contribution of All Governments to GDP averaged 22.8% (compared
to the 15.5% average from 1933 through 1940) as the real income of the
Bottom 90% increased from $18,797 to $34,956. At the same time, the tax
structure put in place during World War II was, for the most part, left in
place. The top marginal personal income tax rate was
91% and the corporate rate was
52% until the 1965
Kennedy-Johnson tax cuts reduced these rates to
70%
and
48%.
The increase in the direct contribution of All
Governments to GDP not only represented a direct increase in output during
this period, it also led to a direct increase in employment as employment by
governments (excluding the military) increased from 9.8% of the labor force
in 1950 to 15.5% in 1973. (Figure 4) The great bulk of this increase took the form
of an increase in teachers, police officers, firefighters, public health and
safety inspectors, and regulatory personnel.
Figure 4: Government Employment, 1947-2013.
Bureau of Labor Statistics, (A-1
B-1)
The increase in the direct contribution of All
Governments also led to
substantial increases in productivity as a result of government investments
in public education and scientific
research, public transportation (city streets, county roads, state and
interstate highways, bridges, ports, and subway, bus, and rapid transit systems),
public health, water and waste treatment facilities, and other forms of public
infrastructure. In addition, government investments in our regulatory
systems not only led to significant improvements in public health and safety
during this period, they also kept the financial system from
blowing up the
economy—there
were no speculative bubbles from 1933 through 1973 of the kind that lead to
financial and economic crises.
It is clear from Figure 1 and Figure 2
that this era of higher taxes, more government, and more regulation from 1950
through 1973 led to low unemployment (averaging 4.8% for the entire period and
exceeding 6% in only two years) and a dramatic increase the average real
income of the Bottom 90% of the income distribution.
It is also clear, or at least it should be clear, that
the increase in real income at the bottom was one of the most important
factors that fueled the economy during this period. It was the increase
in income at the bottom that caused the increase in output from 1950 through
1973, not the other way around. There is just no way all of the automobiles
and refrigerators and washing machines and air conditioners and TVs and the
countless other mass-produced goods and services that were produced during
this period could have been sold if the income of the
Bottom 90%
had not increased in the way it
did.
Who would have
purchased all that mass-produced stuff if the concentration of income at
the
top and the average real income at the bottom had, instead, regressed back to
their trends from 1917 through 1940 shown in Figure 1?
What would it have taken to maintain a fully
employed economy if, following World War II, the concentration of income at
the top and the average real income at the bottom had reverted back to their
trends leading up to the war?
The answer to the later question can be found by looking back to
the era that preceded World War II—the speculative bubbles of the 1920s and the
secular stagnation of the 1930s—during which the concentration of income at the
top remained high and the average real income at the bottom failed to rise.
This was a period that ended in a decade in which the rate of unemployment never
fell below
14% and in which the unemployment problem was not solved until it led us into
World War II, and the
government took over the economy.
The answer to the latter question can also be found by looking
forward to the era that followed 1973 when the average real income at the bottom
again failed to rise and the concentration of income at the top began to regain
the ground it had lost since 1928.
The rate of unemployment was 5.6% in 1973.
From 1974 through 1980 it averaged 6.8%, and in 1980
the actual rate
of unemployment stood at 7.1%. Undoubtedly, these dismal unemployment statistics were partly caused by
the episodes of tighter monetary
policy that resulted from the tremulous efforts of the Federal
Reserve to fight the inflation that was raging at the time, and partly by the
reduction in the direct contribution of All Governments to GDP from 24.2% in
1967 to 20.6% in 1980.
It is also fairly safe to say that the relentless war waged against
cost push inflation during this period played a major role in determining these
statistics as the
average real
income of the Bottom 90%
fell from $34,956 in 1973 to $32,413 by 1980.
Then came the
Reagan Revolution with its mantra of lower
taxes, less government, and deregulation.
While many government programs were cut during the
Reagan years, as a result of the anti-Soviet defense buildup, the direct
contribution of All Governments to GDP barely budged, going from 20.6%
of GDP in 1980 to 20.5% in 1988. Reagan's successes in lowering taxes
(cutting the top marginal personal income and corporate tax rates from
70%
and
48%
in 1980 to
28%
and
34% by 1988) and
deregulating the economy,
however, did help to lower the unemployment rate to 5.3% by the time
he left office as the
commercial real estate and junk bond bubbles that led to the
Savings and Loan Crisis
grew. But this triumph was short lived as these bubbles burst and
unemployment rose to
7.5% in 1992 in the wake of the ensuing 1990 recession.
The net effect of this episode was to increase the
concentration of income of the Top 1% from 8.2% in 1980 to 13.5% by 1992 as the average real
income of the
Bottom 90%
fell from $32,413 to $31,174 during this period.
Then came
the 1990s in which we saw 1) rather small increases in the top marginal personal and corporate tax
rates from
28.0% and
34.0%
to
39.6% and
35.0%, 2)
a significant cut in the direct contribution of All Governments to GDP from
20.6% of GDP to 17.8%, 3) a dramatic
increase in our current account deficit
from 0.7% of GDP in 1992 to 4.0% by 2000, and 4) an
almost total emasculation of the
regulatory systems within the federal government.
Aided by
the largest stock-market bubble since the
1920s, the unemployment rate fell from 7.5% in 1992 to just 4.0% in 2000 as the average real income of the
Bottom 90% increased from $31,174
to $35,799, surpassing, for the first time, the $34,956 level it had achieved in
1973. This feat was accomplished in spite of a significant increase in the concentration of
income of the Top 1% from 13.5% to 16.5% of total income.
Unfortunately, when the dotcom and telecom bubbles burst and the dust had
settled from the resulting
2001 recession,
by 2003 the rate of unemployment had increased to 6.0% of the labor force, and
the average real income of the
Bottom 90%
had fallen back to $33,368 and was,
again, below the level it had achieved in 1973.
Finally, we have the aftermath of
the financial deregulation of the late
1990s where the unemployment rate fell from to 6.0% in 2003 to 4.5% in 2007, and the average real income of the
Bottom 90%
increased
somewhat during this period, from $33,368 to
$34,816, slightly below the $34,956 level it had achieved in 1973.
Then in the wake of the
housing bubble bursting in 2007 and
the financial and economic systems melting
down in 2008 the unemployment rate spiked to 9.6% of the labor force in 2010
and was still at 7.4% in 2013, six years after the recession began and
in spite of a 4.2% fall in the labor
force participation rate during this period.
But the real story of this era is the increase the income share
of the Top 1%
from 15.2% of total income in 2003 to 18.3% in 2007, falling to 16.7% in 2009
in the wake of the Housing Bubble
bursting and then rebounding to 19.3% of total
income by 2012—just 0.3 percentage points below the high of 19.6% it had
achieved in 1928—while the average real income of the
Bottom 90%
fell from $34,816 in 2007 to $30,439 in 2012, a level
not seen since 1967!
Summary and Conclusion
Just as it was clear from our examination of Figure 1
and Figure 2 that the end
result of the era of higher taxes, more government, and more
regulation was low unemployment and a dramatic increase the average real
income of the Bottom 90% of the income distribution, it is just as clear
from our examination of these figures that the end result of the two eras of lower taxes,
less government, and deregulation was speculative bubbles, sporadic and rising
unemployment, and sporadic and falling average real income for the Bottom 90% of the
income distribution.
It was not unregulated free markets that brought about the
increase in real incomes of ordinary people over the past 100 years.
It was regulated markets within a democratic system of government that
brought this into being, and the reason why this is so can be seen in
Figure 5 which plots the average real income
of
the Top 1%, Top 5-1%, Top 10-5%,
and the
Bottom 90% of the income distribution from 1917 through 2012 on the same
graph.
Figure 5: Summary of Average Real Income at the Top and
Bottom of the Income Distribution, 1917-2012.
Source:
The World Top
Incomes Database.
There's something wrong with this picture, and it is fairly easy to
see exactly what's wrong with it. As John F.
Kennedy pointed out, the rising tide that lifts all boats comes from a flood of rising
income at the bottom of the income distribution, not from
spouting geysers at the top.
For the Rest of the Story See:
Where Did All the Money Go?: How
Lower Taxes, Less Government, and Deregulation Redistribute Income and Create
Economic Instability.
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