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Economics 2 Professor Christina Romer Spring 2017 Professor David Romer
LECTURE 14
RISING INEQUALITY
March 7, 2017
I. OVERVIEW OF RISING INEQUALITY
A. Types of income and rising income inequality
B. Reasons rising income inequality is important
II. SOME FACTS ABOUT TRENDS IN INCOME INEQUALITY OVER TIME
A. Piketty and Saez’s question
B. Data and approach
C. Findings
D. Possible concerns
III. EXPLAINING RISING LABOR INCOME INEQUALITY
A. Framework
B. Increased trade (globalization)
C. Skill-biased technological change
D. Imperfect labor markets and changes in economic power
1. Declining union membership
2. Declining real minimum wage
3. Changing social norms
IV. POSSIBLE REMEDIES FOR RISING INCOME INEQUALITY
A. Improved access to high-quality education and job training
B. Trade adjustment assistance
C. Place-based policies
D. Wage-based policies
E. Income redistribution
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LECTURE 14 Rising Inequality
March 7, 2017
Economics 2 Christina Romer Spring 2017 David Romer
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Announcements
• Hand in Problem Set 3.
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I. OVERVIEW OF RISING INEQUALITY
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Sources of Income
• Labor Income:
• Income a person receives from working.
• Wages or salary.
• Capital Income:
• Income a person receives from returns on capital.
• Capital refers to holdings of machines, real estate, stocks, bonds, etc.
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Focus of Today’s Lecture
• Rising inequality in labor income.
• Key fact is that income inequality has risen substantially in the past few decades.
• What are the sources of rising labor income inequality and possible remedies?
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Why Might We Care about Rising Labor Income Inequality?
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II. SOME FACTS ABOUT TRENDS IN INCOME
INEQUALITY OVER TIME
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Piketty and Saez’s Data
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…
…
…
…
Sample Entries from the Statistics of Income, 1933
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Piketty and Saez’s Calculation
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“Fractile”
• A slice of a distribution defined by percentiles.
• Examples:
• The 99th percentile and above.
• Between the 90th and 95th percentiles.
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Source: Piketty and Saez.
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Source: Piketty and Saez, Figure 3 (2016 update).
0%
2%
4%
6%
8%
10%
12%
1913
1918
1923
1928
1933
1938
1943
1948
1953
1958
1963
1968
1973
1978
1983
1988
1993
1998
2003
2008
2013
Top
0.1%
Inco
me
Shar
e
FIGURE 3 Top 0.1% US Pre-Tax Income Share, 1913-2015
Top 0.1% income share (incomesabove $2.0m in 2015)
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Source: Piketty and Saez, Figure 5 (2016 update). Series display the share of capital income (excluding capital gains) and dividends in total income (excluding capital gains) for the top 0.5% income quantile.
0%5%
10%15%20%25%30%35%40%45%50%55%60%65%
1916
1921
1926
1931
1936
1941
1946
1951
1956
1961
1966
1971
1976
1981
1986
1991
1996
2001
2006
2011
Shar
e (in
%),
excl
udin
g ca
pita
l gai
ns
FIGURE 5 The Capital Income Share in the Top 0.5%,1916-2015
Capital income Dividends
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Source: Piketty and Saez, Figure 9 (2016 update). Figure shows the share of wage income going to various fractiles.
4%
5%
6%
7%
8%
9%
10%
11%
12%
13%
14%
1927
1932
1937
1942
1947
1952
1957
1962
1967
1972
1977
1982
1987
1992
1997
2002
2007
Shar
e (in
%)
FIGURE 9 Wage Income Shares for P90-95, P95-99, and P99-100, 1927-2011
P90-95 P95-99 P99-100
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Key Findings
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Possible Concerns about the Evidence
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III. EXPLAINING RISING LABOR INCOME INEQUALITY
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Overview
• Look at two explanations within the supply and demand model of a well-functioning labor market.
• Globalization
• Skill-biased technological change
• Also look at some explanations premised on imperfect labor markets and employer power.
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Income Inequality and Skills
• Low-skill jobs are those requiring relatively little education (home healthcare aides, janitors, food-service workers).
• High-skill jobs are those requiring high levels of education (doctors, engineers, accountants, computer programmers).
• Changes in the relative wages of low-skill and high-skill workers parallel the trends in rising income inequality.
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Source: David Autor, “Skills, Education, and the Rise of Earnings Inequality among the ‘Other 99 Percent’.”
Real Wages of Full-Time Male Workers by Educational Level
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Framework
• Consider the markets for low-skilled and high-skilled labor.
• The labor supply curve comes from utility maximization on the part of households.
• Its position depends on tastes and on the number of workers with the relevant skills.
• The labor demand curve in each case comes from profit maximization on the part of firms.
• It is the MRPL curve for a given type of labor.
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Markets for Workers with Different Skill Levels
Low-Skill High-Skill
LH
WH
LL
WL
LL1
WL1
SL
DL1
WH1
LH1
SH
DH1
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U.S. Exports and Imports (as a share of GDP)
Source: Bureau of Economic Analysis.
0
5
10
15
20
25
1960
1965
1970
1975
1980
1985
1990
1995
2000
2005
2010
2015
Per
cent
Imports
Exports
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Globalization
• What U.S. industries likely expand or contract when trade increases?
• The U.S. tends to have a comparative advantage in goods that use high-skilled labor (and so exports those).
• The U.S. tends to have a comparative disadvantage in goods that use low-skilled labor (and so imports those).
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Globalization
Low-Skill High-Skill
LH
WH
LL
WL
LL1
WL1
SL
DL1
WH1
LH1
SH
DH1
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Supply and Demand Diagram for an Export Good
P1US
Q1US
DUS
Q
P SUS
PWorld World Price with Trade
U.S. Price without Trade
QDUS QS
US Exports
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Supply and Demand Diagram for an Import Good
P1US
Q1US
DUS
Q
P SUS
PWorld World Price with Trade
U.S. Price without Trade
QSUS QD
US Imports
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Skill-Biased Technological Change
• Technological change in recent decades has tended to favor high-skilled workers.
• Technologies such as computers make high-skilled workers more productive, and so shift out the MRPL for high-skilled workers.
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Skill-Biased Technological Change
Low-Skill High-Skill
LH
WH
LL
WL
LL1
WL1
SL
DL1
WH1
LH1
SH
DH1
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Skill-Biased Technological Change (continued)
• Technological change in recent decades has tended to favor high-skilled workers.
• Technologies such as computers make high-skilled workers more productive, and so shift out the MRPL for high-skilled workers.
• If the technological change is so skill-biased that it actually replaces some low-skilled workers, it could shift back the labor demand curve in the low-skill sector.
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1955 2013
Auto Factory
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Skill-Biased Technological Change
Low-Skill High-Skill
LH
WH
LL
WL
WL1
SL
DL1
WH2 WH1
LH1LH2
SH
DH2
DH1
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Source: Economic Report of the President 2010.
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The Race between Education and Technology
• Skill-biased technological change tends to increase inequality.
• Increases in education tend to decrease inequality.
• In the 1950s and 1960s, the two forces roughly balanced.
• Starting around 1970, increases in education slowed, so the effects of skill-biased technological change dominated.
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Imperfect Labor Markets and Changes in Economic Power
• Labor markets may be imperfect.
• For example, employers may not face lots of competition in the labor market, and so are able to get away with paying workers less than their MRPL.
• In this case, changes in factors mitigating these imperfections can affect income inequality.
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A Lower Negotiated Wage Market for Low-Skilled Workers
D1
L
W S1
WN1
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A Lower Minimum Wage Market for Low-Skilled Workers
D1
L
W S1
W1
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Federal Minimum Wage
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Changing Social Norms?
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IV. POSSIBLE REMEDIES FOR RISING INCOME
INEQUALITY
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Increased Education
Low-Skill High-Skill
LH
WH
LL
WL
LL1
WL1
SL1
DL1
WH1
LH1
SH1
DH1
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Rates of Return on Human Capital Investment
Source: James Heckman, “Skill Formation and the Economics of Investing in Disadvantaged Children.”
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Trade Adjustment Assistance
• Program designed to help workers who lose their jobs or face reduced wages because of trade.
• Job training, help with job search, extra unemployment benefits, wage subsidy for a while after reemployment.
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Place-Based Policies
• Policies aimed at helping depressed areas.
• Tax benefits, subsidies, and other incentives for employers to come into a troubled locality.
• Funds to develop job training programs appropriate to the available employment.
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Wage-Based Policies
• Policies like a higher minimum wage to try to raise wages directly.
• Increases in the Earned Income Tax Credit.
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Effect of Raising the Minimum Wage Market for Low-Skilled Workers
D1 L
W S1
W1
W2
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Effect of an Earned-Income Tax Credit Market for Low-Income Workers
D1 L
W S1
W1
L1
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Redistribution
• Government can tax high-income households and use the revenue to provide benefits to low-income households.