Reading time: 6 minutes

Concerns about inequality are not a novelty and we see signs of it everywhere. Some billionaires are flying to space while some people scramble for money to make ends meet. We see voices of support for more progressive tax systems and even talks of universal basic income to support the poor, while others claim tax burdens are already too high. Inequality is right in front of us and independently of how big we consider this to be problematic, it is endemic in the developed world.

Ever since the 1980’s there has been an increasing gap between the rich and the poor. The top 10% have been receiving more income compared to the bottom 50% of the population in North America. Without any intervention of the tax system to correct asymmetries, the top 10% in North America in 2020 earned more than the triple of what half of North Americans combined did. The data we present shows inequality has been increasing since the 80s, but in fact, this trend can be observed ever since the post-war period. Yet, albeit less serious, this is also an issue in Western Europe. In this corner of the world we see that, before intervention through the tax system, in 2020 the top 10% received already 1.75 times more than the entire bottom 50%.

Why have income inequalities increased?

Naturally, there is not one simple cause for this phenomenon. Although there might be some appeal to the idea that capital income can benefit the richest and help increase socioeconomic cleavages, it is likely that the current trend of increasing inequality is, at least for now, due to deep differences in labor earnings as well (Piketty 2006, Piketty & Saez 2014). 

 One possibility is that the technological progress of the last decades, in part caused by the introduction of information technologies, increased the demand for highly specialized skills that were then compensated with higher wages. Therefore, high-skilled wages increased at a higher pace than low-skilled wages and so the income gap between highly educated workers and the rest of the population widened. 

 Nevertheless, if we look at the very top incomes such as the top 1% we might consider other factors. Particularly in the US, top executive compensation has been increasing and even though CEOs undoubtedly have highly sought-out skills, they also have the bargaining power that regular workers do not have when negotiating their wage or accepting job offers. Standard economic theory would predict workers receive a wage equal to their marginal product of labor, but companies don’t have benchmarks on which to expect how much a CEO will contribute to their production activities. Consequently, incomplete information can leave some room for top executives to bargain greater wages (Piketty et al., 2014).

Inequality in Portugal 

Although data stops at 2017 and from there onwards we only have extrapolated data, it seems that the Portuguese case has two relevant features. First, compared with the aggregated data for Western Europe, inequalities are greater in Portugal as in the last decade the top 10% received twice the pre-tax national income that accrued to the bottom 50%. 

However, contrarily to the aggregated data observed for the United States and Western Europe, it seems that the trend of increasing inequality in Portugal observed since the 1980s has slowed down, started falling in 2005, and has stabilized in the last decade. Whether this is a short-term phenomenon or not is still uncertain, and it will depend on the policy stance of the government. 

In short, even though a pessimistic account might identify Portugal as having inequality levels above those of Western Europe, the inequality growth spur has been calmed down for now.

Inequalities go far beyond income

It is often the case that we use income to assess inequalities because it is a unidimensional measure that is easy to understand. However, inequalities go way beyond what people receive at the end of the month. Income inequalities are associated with other asymmetries which might be even more concerning. 

Families of high socioeconomic status can often provide more stimulating environments for their children to grow. Consequently, children from disfavored backgrounds might lack resources such as cognitive stimulation and appropriate interaction with family members that are vital at early stages in life where key cognitive and behavioral traits are being developed.

One finding is that children from wealthy families have more cognitive capabilities than their peers in families of lower socioeconomic backgrounds. By age 6 socioeconomic status is already associated with math capabilities, and evidence suggests the school system is not particularly effective at fighting them over time (Heckman, 2006). If any measure needs to be taken, it might be more effective to start at a very young age. The environment in which a child grows during their first years of life has structural influences on their development and consequently on long-term life outcomes. 

Taken from Heckman (2006), using data from Carneiro & Heckman (2003)

How early is very early? As soon as the child is born, the environment is already exerting its effect. Even when kids are 3 years old, we can already see a relationship between socioeconomic status and cognitive capacities being formed. In particular, 3-year-olds from poorer families have worse verbal skills and even though attending kindergarten can help them improve their skills they still fall behind their peers (Becker, 2011). 

Inequalities in family income are also associated with different long term health outcomes. Children born in poorer families tend to have not only poorer health compared to their wealthier peers when they are young, but these differences persist and even widen in magnitude as they become older. In other words, income inequalities might not only be related to differences in health levels but might also be widening the health inequality gap even further (Case, 2002; Heckman 2007).

We can think this might lead to feedback loops, as poor families raise individuals with lower capabilities and worse health, which then makes them weaker in the labor market. As a consequence, they receive lower incomes, and the cycle continues. On the other hand, more affluent families can guarantee a better path to help their children attain higher wages in the future. Hence, it is natural to wonder if higher income inequality now will not be, in itself, a cause of higher income inequality in the future.

So what?

 We have seen that inequality in incomes has been around for the last decades and likely came to stay unless any action is taken. Moreover, even though current debates both in the media and in public society are often about differences in income, it is much more than that. Inequality is a very broad phenomenon, but indeed income inequalities are related with many other differences we observe in society. 

 Yet, we can always ask: why care? This is where no clear answer exists. We all have different preferences and views for what we consider to be tolerable levels of inequality, and so the debate can never be just about economics. Our concerns of equity and fairness must come into play too and the discussion can never be settled through facts alone. The decision of whether we want to stay in the age of inequality or leave it is not only a question of which actions to take, but also on whether there is collective will to take them.


References:

  • Becker, B. (2011). Social disparities in children’s vocabulary in early childhood. Does pre‐school education help to close the gap? 1. The British journal of sociology62(1), 69-88.
  • Heckman, J. J. (2006). Skill formation and the economics of investing in disadvantaged children. Science312(5782), 1900-1902.
  • Heckman, J. J. (2007). The economics, technology, and neuroscience of human capability formation. Proceedings of the national Academy of Sciences104(33), 13250-13255.
  • Heckman, J., & Carneiro, P. (2003). Human Capital Policy. In J. Heckman & A. Krueger (Eds.), Inequality in America: What Role for Human Capital Policies? (pp. 77–240). MIT Press Books, 1.
  • Piketty, T., & Saez, E. (2006). The evolution of top incomes: a historical and international perspective. American economic review96(2), 200-205.
  • Piketty, T., & Saez, E. (2014). Inequality in the long run. Science344(6186), 838-843.
  • Piketty, T., Saez, E., & Stantcheva, S. (2014). Optimal taxation of top labor incomes: A tale of three elasticities. American economic journal: economic policy6(1), 230-71.
  • Case, A., Lubotsky, D., & Paxson, C. (2002). Economic status and health in childhood: The origins of the gradient. American Economic Review92(5), 1308-1334.

Nuno Gomes

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s