Are the rich getting richer and the poor are getting poorer?
by Donald J. Boudreaux
The familiar trope, at least as it might apply to America, of the rich getting richer, the poor getting poorer, and the middle classes treading water is disproved by devastatingly large amounts of empirical evidence.
The Flawed Economic Data
Phil Gramm’s, Robert Ekelund’s, and John Early’s brilliant 2022 book, The Myth of American Inequality, convincingly shows that most of the misunderstanding about changes over time in the economic welfare of both non-rich and rich Americans stems from two major flaws in processing and assembling economic data.
The first of these major flaws is the Census Bureau’s failure to add to the incomes of lower-income Americans many of the economic benefits that are transferred to them by government, while simultaneously failing to subtract from higher-income Americans’ reported incomes the amounts they pay in taxes.
The second of these major flaws is the common practice of adjusting for inflation by using the Consumer Price Index – an index known for almost 30 years to substantially overstate the rate of inflation.
There are, in addition to these major flaws, other sources of misunderstanding, such as erroneously concluding that what happens to an average (for example, the hourly wage of the average manufacturing worker) necessarily describes what happens to flesh-and-blood individuals. But cleansing the data of the many errors caused only by these two major flaws alone reveals a much rosier picture of the economic condition of ordinary Americans.
In their Introduction, the authors summarize their key findings:
Remarkably, the Census Bureau chooses to count only $0.9 trillion of that $2.8 trillion in government transfer payments as income for the recipients of those transfers, counting only eight of the more than one hundred federal transfer payment programs and only a select number of state and local transfer payment programs. Excluded from the measurement of household income are some $1.9 trillion of government transfers – programs like refundable tax credits, where beneficiaries get checks from the Treasury; food stamps, where beneficiaries buy food with government-issued debit cards; and numerous other programs such as Medicare and Medicaid, where government directly pays the bills of the beneficiaries.
Americans pay $4.4 trillion a year in federal, state, and local taxes, 82 percent of which are paid by the top 40 percent of household earners. Even though most households never see this money, because it is withheld from their paychecks, the Census Bureau does not reduce household income by the amount of taxes paid when it measures income inequality.
The net result is that in total the Census Bureau chooses not to count the impact of more than 40 percent of all income, which is gained in transfer payments or lost in taxes. The Census data-collection process is the finest in the world, but the assumptions it makes concerning what to count as income distort every statistical measure that incorporates its measure of income. The Census Bureau is accurately measuring what it has chosen to measure, but it is not measuring the right things.
Better Data, Less Inequality
So what happens to the picture of Americans’ incomes when we take fully into account government transfer payments and taxes? Here’s one happy result:
[W]hen you count all transfer payments as income to the households that receive the payments, the number of Americans living in poverty in 2017 plummets from 12.3 percent, the official Census number, to only 2.5 percent.
And here’s another:
[W]hen you include all transfer payments and taxes and look at changes in income inequality over time, you find that income inequality is not rising. It has in fact fallen by 3.0 percent since 1947 as compared to the 22.9 percent increase shown in the Census measure.
Further adjusting household receipts – especially by including the value of employer-paid benefits (which the Census Bureau also wrongly excludes from its data on income) – leads the authors to this sensible conclusion:
[I]t is much harder to argue that the top quintile of households gets too much and the bottom quintile gets too little when the top gets 4.0 times as much rather than the official Census measure of 16.7 times as much.
The picture gets even prettier when account is taken of the fact that higher-income households generally have more members than do lower-income households; specifically today, households in the top income quintile have an average of 3.10 members while households in the bottom income quintile have an average of only 1.69 members:
On a per capita basis the top quintile has only 2.2 times as much income per person living in the household as the bottom quintile, a considerably smaller difference than the 4.0 times as much without any adjustment for household size. But the blockbuster finding is that on a per capita basis the average bottom-quintile household receives over 10 percent more than the average second-quintile household and even 3 percent more than the average middle-income household!
About what they call “the blockbuster finding,” the authors correctly argue that it is evidence that government transfer payments dampen many Americans’ work incentives – a dampening that over time likely prevents these household-income figures from being even more encouraging than they already are.
What about absolute poverty? Gramm, Ekelund, and Early, make clear that in America it has been all but eliminated:
Among families defined as poor, hunger has been virtually eliminated, inadequate housing has all but disappeared, and the amenities of daily life have expanded. These data constitute definitive, independent verification of the vast historical reduction in poverty from 17.3 percent of our population as the War on Poverty began to only 2.5 percent in 2017.
These positive facts about the American economy, like those that I’ll report in my next article, are not welcomed by professors, pundits, and politicians who itch to subject the economy to greater government control.
If the economy is doing well for almost all Americans rather than for only the superrich – if income inequality isn’t very high or growing – if absolute poverty is nearly conquered – the case for interventions such as income redistribution, industrial policy, and a larger welfare state collapses.
So facts such as those that are amply reported by Phil Gramm, Bob Ekelund, and John Early must either be dismissed or ignored. Dismissing these facts is impossible, as these are assembled with scholarly integrity into a compelling picture of American economic success. The only remaining option is to ignore them – an option that I trust readers of this article will not choose.
Donald J. Boudreaux
Donald J. Boudreaux is a senior fellow with American Institute for Economic Research and with the F.A. Hayek Program for Advanced Study in Philosophy, Politics, and Economics at the Mercatus Center at George Mason University; a Mercatus Center Board Member; and a professor of economics and former economics-department chair at George Mason University. He is the author of the books The Essential Hayek, Globalization, Hypocrites and Half-Wits, and his articles appear in such publications as the Wall Street Journal, New York Times, US News & World Report as well as numerous scholarly journals. He writes a blog called Cafe Hayek and a regular column on economics for the Pittsburgh Tribune-Review. Boudreaux earned a PhD in economics from Auburn University and a law degree from the University of Virginia.
This article is courtesy of the American Institute for Economic Research. It was edited to reduce its length, and is licensed under a Creative Commons Attribution 4.0 International License, except where copyright is otherwise reserved. © 2023 American Institute for Economic Research.
