Yves here. I’m glad to see Lance Taylor taking on some pet ideas about inequality and low growth that have sadly gotten a following among policymakers. Or to put it another way, too many economists have been reluctant to take the most obvious cause of inequality seriously: that businesses-owners and the wealthy conducted a very successful class war against workers, particularly organized labor whose negotiations provided an anchor for both other blue collar and white collar wages and working conditions.
BTW, I had the pleasure of meeting Lance Taylor last year. He came to the meetup in Bailey Island, Maine.
By Lynn Parramore, Senior Research Analyst at the Institute for New Economic Thinking. Originally published at the Institute for New Economic Thinking website
In Lance Taylor’s new book, Macroeconomic Inequality from Reagan to Trump, the noted economist examines how and why the United States, starting in the 80s, started to break down into a sharply divided country of haves and have-nots.
How it happened is hotly debated among experts. Is it the lofty rate of return on wealth enjoyed by the affluent? Or the impact of monopolistic corporations that can charge high prices for basic goods and services? What about globalization? Technological change?
Taylor, Emeritus Professor of Economics at the New School for Social Research, reveals what he sees as the insidious invisible hand that has been slipping into the pockets of ordinary people and stealing their chances for security and prosperity. This is not some natural process, he holds, but the outcome of deliberate choices and policies made by people who do not prioritize the wellbeing of most Americans. As a result, we are well on our way to constructing a society more unbalanced than what prevailed in the Gilded Age.
In the following interview with the Institute for New Economic Thinking, Taylor explains his approach to the problem of inequality and why the conclusions in his book stand in contrast to those of many of his colleagues. He issues a strong warning that misguided assumptions and methods of today’s mainstream economics block us from confronting one of the most pressing challenges of our time.
Lynn Parramore: In your new book, you name wage repression as the biggest driver of inequality in the U.S. over the last several decades. Your conclusion differs from many who have studied the issue, such as Thomas Piketty, who theorized that inequality is caused mainly by a tendency of profits to run ahead of the growth rate in the economy. What’s different about your take?
Lance Taylor: Piketty & Co. deserve a lot of credit for using tax and other data to estimate how income distribution differs across households over 200 years. The question is, what explains these differences?
I wanted to analyze how income differences among various kinds of households (poor, middle class, and affluent) came about over time. That meant drilling down into macroeconomic indicators as well as the data associated with the various industries in which people worked and the streams of income they received from them.
Özlem Ömer and I assembled what we needed by reworking Congressional Budget Office data along the lines of the U.S. Bureau of Economic Analysis (BEA) National Income Accounts. This allowed us to look at both macroeconomics and individual industries or sectors — 16 in all.
We studied changes in the structure of payments, employment, and output of products and services across these 16 sectors. What we found is that except in volatile and low-profit agriculture and mining sectors, real wages grew less rapidly than productivity since around the time of Reagan’s presidency. Wage shares decreased, but profit shares increased at the industry and macro levels, and the money from those profits ended up in the pockets of business owners and the wealthy instead of being shared.
For the most part, Americans workers have been working more productively, but they haven’t been getting paid for it due to forces that aren’t natural and inevitable. Wage repression doesn’t just happen.
It is apparent that something other than the market is at work here – like power relations, ideology about unemployment levels, and many innovations in business strategy, such as subcontracting. These are all feeding on and reinforcing processes within national political institutions that are more and more reflective only of business interests and concerns.
LP: You’ve noted that mainstream economists have been getting the story on inequality wrong. Why is that?
LT: Mainstream American PhD students are brainwashed into believing crazy economic theory.
The history for “new Keynesian” macroeconomics goes back to the “Neoclassical synthesis” that economist Paul Samuelson and many of my former colleagues at MIT developed in the immediate postwar period. One can always hope that it will change. But here’s the reality: insofar as the ideas of academics influence politics and policy formation, mainstream analysis today will not help in reducing economic inequality.
Economists would refer to my approach to inequality as a post-Keynesian way of looking at the problem, because there is no obvious way you can explain the changes observed in terms of the kind of Neoclassical microeconomics that is typically taught today in economics departments – the framework of supply, demand, and games that “ optimizing agents” play around them.
LP: Some point to monopolistic corporations, especially Big Tech, as key contributors to inequality. The idea is that companies with this kind of power can charge more for basic goods and services, for example, which hits ordinary folks hard. What’s your view?
LT: My research does not show Big Tech monopolies as a major part of the inequality story.
Since 1970, the overall corporate profit share of U.S. national income has risen 8%. The corporate share of America’s income as a nation is now around 46% — which is a huge number. Yet, the current share in income of profits in the information sector is just a bit more than 3%. Throw in parts of retail (Amazon) and you might get up to 5%. If this is Big Tech, the share of its profits in income is actually much less than the share of the real estate rental and leasing sector, which stands at 14%.
When we analyzed profit share growth across sectors over time, we found that the big movers were actually manufacturing, wholesale, retail, finance-insurance, and information — in that order. So, the narrative of Big Tech as a principal driver of rising profits and inequality is just wrong.
A very important part of the story is the spread of low wage across major parts of the whole economy. For example, seven low wage/low productivity sectors including education and health, accommodation and food, and business services saw their share in output between 1990 and 2016 fall from 48% to 41%. Meanwhile, their share of total employment rose from 47% to 61% with an essentially constant share of total wages (56%).
In effect, the structure of production is being hollowed out, and the U.S. is becoming what many analysts are starting to refer to as a “dual economy” — one with good wages for a minority of people who work in areas like finance or technology, and stagnant or falling wages for the majority who work in sectors such as retail with relatively high productivity growth but low wages. That pushes overall inequality way up.
LP: Just how bad has inequality in the U.S. gotten in your view?
LT: Things have become very alarming, and there are no quick fixes.
To a large extent, rising corporate profits are transferred to the lucky few households in the top 1% of the income distribution through interest, dividends, and capital gains. Everybody else is stuck or falling behind.
The extreme inequality we are witnessing today didn’t develop overnight: It took five decades of steady growth in the overall profit share — adding up to a full 8% increase in that share, as I’ve noted — to land the economy in its present distributional mess.
I’ve experimented with mathematical models of the economy in which I test out the effects of various policies that might help reduce inequality. The results are pretty sobering: even if the government enacted fairly aggressive policies to put money in people’s pockets, it would probably take decades to get things back to what we had in the U.S. in the 1970s. At that time, things were far from perfect, but there was more balance in the economy.
Unfortunately, mainstream economists do not learn post-Keynesian macroeconomics, so they may not see the full extent of how dire things have become. That was painfully obvious in Piketty’s book, Capital in the Twenty-First Century. His famous explanation for inequality, which posits that it occurs when rates of return on capital are greater than growth in the real economy (and, by extension, growth in wages), is not really an explanation at all. It’s actually just a statement of what happens if the economy simply grows at a constant rate, what in the jargon is called the “steady state.” That assumption is also implicit in his recent book, Capital and Ideology. You can’t hope to reverse trends in inequality until you figure out what is driving it.
The problem of inequality is so urgent that it demands a whole new conceptual framework, which I have tried to offer in my book.
LP: Your work suggests that this process of wage repression is not natural and inevitable. Who or what has been holding down wages and how are they doing it? How do class conflict, politics, and the role of the Fed and doctrines like the natural rate of employment play into this?
LT: There are a lot institutional factors which have held wage increases below growth of productivity.
One is macroeconomic austerity, both in practice and as an ideology pushed by those who take an anti-labor stance. Political conflict also plays a role. This is behind federal inaction on labor issues and the rise of state-level right-to-work laws.
Employers also use divide-and-rule employment tactics in a “fissuring” labor market – you see things like pitting regular full-time employees against contractors or gig economy workers. When employers insist on non-poaching and non-competition clauses in contracts, maintaining stagnant minimum wages (now gradually increasing), and maintaining a low ratio of employment to the population (rising prior to the pandemic), inequality results.
Changes in trade and technology have also reduced labor’s bargaining power – think of globalization and outsourcing. But note that most of the 16 sectors examined in the book are industries classified as “non-traded.” The main exceptions are manufacturing, finance-insurance, information, mining, and agriculture. I have no doubt that import competition and outsourcing destroyed jobs in traded goods while contributing to onshore productivity. There is less foreign competition in wholesale and retail trade. Better inventory management and information processing pushed up productivity and generated low wage employment (think McDonald’s, Walmart, Amazon).
Economists, especially those at the Federal Reserve, used to talk a lot about the “natural rate of employment” –the idea that the number of people working is somehow determined by the market and ought not to be interfered with. In reality, this is just is a disguised version of another idea dating to the turn of the 20th century — which strangely, after around 2015, took over the mainstream — of a supposed “natural rate of interest.”
This notion holds that there is a certain interest rate which will keep the economy at the ideal place between overheating and recession. Natural interest rate theory says that the rate will adjust to bring the demand for goods and services into equality with supply. Milton Friedman’s old story relied on changes in prices, which empirically just don’t happen, to bring the economy into equilibrium at full employment. The same story was baked into the mainstream Phillips curve analyses used by economists, which assumed that getting too close to full employment leads to overheating and inflation.
LP: Why is wage repression detrimental to the overall economy? Some argue that raising wages will hurt us because we’ll pay more to buy stuff if the cost of labor is passed on to the consumer. Or maybe businesses will freeze new hires or look to outsource labor to other countries. How do you respond?
LT: While it’s true that outsourcing has played a role in holding wages down when it comes to businesses involved in traded goods, this is likely to become less important as supply chains are shortened in response to the Covid-19 pandemic. Some companies see the fallout of the pandemic and want to cut back on sourcing from other countries, and perhaps there will be some reshoring of jobs.
On the question of higher prices, if higher wages outrun price inflation plus productivity growth, it’s possible that you could see prices go up. But that has to happen if workers are to see their share of the national income recover from what has occurred in the last several decades. You have to keep in mind that wages still make up more than half of total cost of producing Gross Domestic Product (GDP). The fact that price inflation has been flat for almost four decades is strong evidence for generalized money and real wage repression. Really, that isn’t a good thing for the economy in the long run.
But before you get too worried about higher wages causing higher prices, consider that employers hire in response to the overall demand for goods and services in the economy. Households in the bottom half of the size distribution get about half their income from wages and the other half from government transfers – things like Medicaid, unemployment benefits, Social Security, and so on. They probably have negative saving rates, so higher wages for them could stimulate them to purchase more, which is good for the overall economy. More hiring and better-paying jobs could be the result.
Legend has it that Henry Ford paid his workers well so that they could buy his cars, recognizing that wages and prices are not a zero-sum game.
LP: Are you concerned that employers will use the pandemic as an excuse to repress wages?
LT: Yes, but I hope that the pandemic will mobilize workers to pursue higher wages, even against the institutional barriers mentioned.
LP: You observe that instead of a single, unified economy, America now has two separate economies, a “dual economy.” What does this mean to someone newly entering the job market? How will working life look different?
LT: Of course, race, class, and gender come into play here. The share of the labor force forced into low end jobs has been rising steadily. More and more people will be caught unless there is economic structural change involving producing sectors with relatively high employment having demand growth exceed productivity growth over a period of years. Big Tech will not suffice.
There could be possibilities for health and retail in the Covid era, but laws and labor rules will have to change to realize them.
LP: Your research suggests that it’s not just low-wage workers who are impacted by the wage squeeze. How has the middle class been affected?
LT: Middle class income still mostly depends on wages. People in the middle class have seen their share of national income squeezed from above by the higher income (mostly from profits) of the top 1%, and from below by bigger transfers to low income households. The squeeze has amounted to around 3% of total income – not trivial. Their position is slipping, making things like paying for college or retiring comfortably more and more difficult.
LP: You note that another big factor in surging inequality is the benefits the rich have received from a rise in the prices of assets like stocks, bonds, and real estate, which produce capital gains. Who or what is behind this rise? Why is it a problem for people who aren’t affluent?
LT: This is a bit complicated, but let me try to explain. The story here has to do with both rising profits and interest rates and the decisions of the Fed.
Say you have an asset – you have stock in a company. The value of your stock roughly depends on the flow of income it generates divided by what economists call the “real” interest rate (adjusted to remove the effects of inflation). That is, the value is your stock’s return “capitalized” over time at the ruling interest rate.
Economists talk about something called “Tobin’s q.” That is the ratio of company stock market valuations to the total value of their capital stock. The level of q economy-wide tracks pretty closely to the corporate profit rate (net of taxes, depreciation, and financial payments) capitalized by the real interest rate. Financial payments, that is to say, interest and dividends, from business to households amount to 11% of GDP. Almost half of these payment, 5%, are going to the top 1%.
Why does such a large chunk of these payments go to the rich? People who own assets have enjoyed increasing rates of profits thanks to wage repression and low interest rates since the days of Alan Greenspan, who headed the Fed from 1987 to 2006. The Fed has held down rates with the explicit goal of supporting asset prices. In other words, the Fed gives the rich an extra boost on top of what they get from just rising profits due to wage repression.
Capital gains, or annual increases in asset prices, do not figure in the BEA accounts because they are not an actual cost of production. They come off the top of what the enterprise makes. Capital gains are transfers of wealth from economic actors who issue liabilities to those who hold them. In the conventions of national and financial accounting as practiced by the BEA and the Fed, corporate shares are liabilities issued by business and (mostly) held by households.
Any institutional sector’s increase in wealth is equal to its net saving. The BEA data show that business net saving has fallen short of the sector’s “holding losses” on equity (Fed data) due to rising share prices since the mid-1980s.
In plain English, more than 100% of net profits have been transferred via financial flows and capital gains to households, predominantly in the top 1%. Share repurchases are another, more recently popular vehicle for transferring business net worth to households.
Let’s repeat this point: Through various channels, including capital gains, more than 100% of business profits are getting transferred to households, predominantly in the top 1%. Depending on which source you look at, rich households today hold about 40% of total wealth. Given their access to profit income and high saving rates, my simulation model suggests that their wealth share might tend in the long run toward 60-70% — that’s far higher than it was even during the Gilded Age.
That level of inequality is detrimental to the entire economy. It certainly makes corporations more vulnerable to financial shocks, for example.
LP: Some politicians, including presidential candidate Joe Biden, have expressed interest in raising taxes on capital gains so that wealthier people pay the same rate on this type of income as ordinary people pay on their wages and salaries. Would this be part of the solution? If not, what might work?
LT: The only reason why capital gains are not taxed seriously is the political clout of the rich. They are zealous about protecting their offshore tax havens and “carried interest” while resisting taxation of capital gains.
Back in 1990, President George H. W. Bush (who with his class background certainly represented the well-to-do) was forced into agreeing to tax increases, with a “high” rate of 28% on capital gains. Bush was pilloried by Republicans for reversing his “read my lips” pledge not to raise taxes. Since then there has been no serious proposal, even though realized gains are visible and relatively easy to tax.
The top rate now in the U.S. is 20% on realized gains from assets held more than a year. In contrast, a poor person may be “taxed” at a 30% rate in terms of reduced benefits if she earns some extra money. Clearly this is unfair and helps to cement inequality.
So what can be done? Confronting the outsized power of capital in the U.S. requires bolder thinking than what you generally hear discussed in the political arena. My model simulations show how a 50% tax on gains with proceeds transferred to a wealth fund managed for public purposes could hold the wealth share of the top one percent to around 40%. That would be one approach to the problem. Similar proposals to help balance the power of workers with those of shareholders within companies date back at least to a plan proposed by Swedish labor back in the mid-1970s, known as the Meidner Plan, which almost succeeded in being implemented.