Has Economic Inequality in the West Increased Since 1897? Probably Not.
Many people have heard about the 20-80 rule. This is Pareto's famous law.
Vilfredo Pareto was an Italian economist teaching in Switzerland in the late 19th century. In what remains the most important economics book never translated English, published in 1897, Pareto observed that the distribution of wealth in every European country he examined revealed that approximately 20% of the population owned about 80% of the capital of the country.
This distribution, known as a power law, operates in many fields outside of income distribution and wealth distribution. There is no clear explanation by any economist or other social theorist on why this distribution exists. This is one of the reasons why economists rarely discuss it in detail. It seems to fly in the face of statistical reality: the bell-shaped curve. But it is so universal, and has been for so long, that anyone who dismisses it as irrelevant is probably making a mistake.
One of the criticisms of capitalism, whether of the free market variety of 1900 or the variety today, is that it creates massive wealth inequality. Here is the problem. We are told that we are living in an era of increasing wealth inequality. But do statistics bear this out? Has there been a significant change?
Here's an example of a piece of propaganda that relies on a study of wealth inequality that is utterly oblivious to what Pareto discovered in the late 19th century. In a recent article on income inequality, which appeared in the perennial Left-wing British newspaper, The Guardian. It summarizes a report issued by a Left-wing organization, Oxfam. We are informed of the following:
This "capture of opportunities" by the rich at the expense of the poor and middle classes has led to a situation where 70% of the world's population live in countries where inequality has increased since the 1980s and 1% of families own 46% of global wealth -- almost £70tn.
I have no doubt that something like this distribution is true. What it proves is the following: over the last century there may have been a decrease in inequality.
Let me explain the statistics of the Pareto power curve. The same 20-80 distribution appears all the way up. So, if 20% of the population owns 80% of the wealth, then 4% of the population, meaning 20% of 20%, owns 64% of the wealth (80% times .8). Let us carry this up one step further. This means that .8% of the population, meaning 4% of 20%, owns about 51% of the wealth (64% times .8). The normal Pareto distribution indicates that 1% of the population should own something in the range of 55% of the wealth, not 46%. Therefore, the 46% figure points to a decrease in inequality.
The Pareto distribution can change a little -- nation to nation, generation to generation -- but it does not change much.
Yet Oxfam says that there has been an increase in inequality. It blames this supposed increase in inequality on a decrease in graduated income taxation. There was a decrease in the steep graduated taxes in Great Britain and the United States in the 1980s, but in the United States, graduated income taxes went up slightly under Clinton. But, generally, steeply graduated rates have been reduced somewhat over the last three decades in the West. Yet we are told that economic inequality has increased over the last 30 years.
What we need to assess the effects of the welfare state is a series of studies of income distribution, country by country, spanning every 20 years, that shows whether the Pareto distribution has changed, when, and for how long. These results need to be compared with the tax rates in each period. Is there any correlation? My guess: there would not be. But before the defenders of wealth redistribution are taken seriously, they need to provide this evidence. They have yet to do so. We have waited a century.
Nowhere in Oxfam's report is there any mention of Pareto. There never is in these propaganda pieces. It would be too embarrassing. It would require that they provide evidence that anything has changed. They would have to explain why it is that, after a century of welfare state taxation, wealth has not been redistributed much, if at all.
85 PEOPLE AT THE TOP
The press release referred to an Oxfam study of world economic inequality. It made a statement that 85 people possess the same amount of wealth as 3.5 billion people. That was the headline in The Guardian and dozens of other newspapers. It was a powerful headline. The study is here.
The question is: is this true? This needs detailed evidence -- more than the report offers. Also needed: is this a shift from previous generations? This also needs evidence.
Second, even if it is true, are these 85 people as productive, through capital investment, as the poorest half the world's population? In other words, if these 85 people had become high school teachers, and if no one had replaced them in their positions, would half the word's population possess twice as much wealth as they do today? If so, where is the evidence that their productivity/wealth would have doubled, had these 85 people never gotten rich?
Did these 85 people get rich by stealing from the 3.5 billion? If so, where is the evidence? How did these 85 people reach down to confiscate half the wealth of these people, who live in third world nations or in rural areas of China and India?
Then there is the question of non-monetary income. Economist P. T. Bauer a generation ago warned that monetary statistics issued by governments underestimated real income.
If the 85 did this under the present welfare state system, which began to be imposed in the second decade of the twentieth century, how did they do this? How was it that, despite the massive increase in taxation and economic regulation since 1914, the wealthy have retained their wealth and even increased it in comparison to the poor? Put another way, what difference did the modern welfare state make in income distribution? The statistically correct answer seems to be this: "Not much." Today's inequality is close to where it was in 1897.
Oxfam then goes on to make an amusingly naïve appeal to the super-rich to abandon their personal self-interest. Oxfam pleads with them to stop using tax havens to shield their wealth from the taxation of the nations in which they live. Oxfam blames tax havens. But where is the evidence of this supposed cause-and-effect relationship? It is not in the report.
DAVOS WEEK
Oxfam released its report and its press release in the week of the annual meeting of the super-rich at Davos, Switzerland. Oxfam is calling on those gathered at WEF to pledge to do the following:
This press release is one more example of welfare state interventionism, adopted in the name of helping the poor. But the welfare state has reduced economic growth, and therefore it has reduced the wealth of the poor. It calls for more of the same. Nevertheless, income distribution has not changed much since 1897, despite graduated taxation, government-funded healthcare systems, government-funded retirement systems, and all the rest of the welfare state's interventionism.Support progressive taxation and not to dodge their own taxes;
Refrain from using their wealth to seek political favors that undermine the democratic will of their fellow citizens;
Make public all the investments in companies and trusts for which they are the ultimate beneficial owners;
Challenge governments to use tax revenue to provide universal healthcare, education and social protection for citizens;
Demand a living wage in all companies they own or control;
Challenge other members of the economic elite to join them in these pledges.
CONCLUSION
Economic inequality will continue. The only question is this: how big will the overall economic pie be? The rich are going to get their share of the wealth, which means they're going to get Pareto's distribution. Anyone who says that this is not an economically fair share has to show why it is that, in every society studied, something like this distribution exists. Certainly, on a worldwide basis, this has not changed much, as the Oxfam report reveals. If this is not fair, then why have the welfare states of the world produced pretty much the same economic distribution as the non-welfare states? Why do we see the same Pareto distribution attacked by the Left, generation after generation, when the Left has able to get its policies of graduated taxation and the welfare state passed in every Western nation? Why doesn't this distribution ever change significantly and permanently in the direction of equality?
The Left never asks this. The Right never asks it. But I keep asking it.
When you see a call for the politics of the fair share, you know that some organized political group is after your money in the name of taxing the rich. I wrote about this in 1993, in my article, "The Politics of the Fair Share." Nothing has changed since then.