Income Inequality in the United States: Causes and Policy Options
Abstract
Over the past few decades, income inequality in the United States has steadily increased to levels not seen since before the Great Depression. According to the United States Census Bureau, in 2018 the top 1% of earners received over 20% of all pre-tax income, while the bottom 50% of earners only received 13% of pre-tax income. This growing disparity threatens social cohesion and risks long-term adverse economic impacts. The purpose of this research paper is to examine the main causes that have driven rising income inequality in the U.S. The paper will also analyze various policy options that economists argue could help address this issue and promote a more equitable and just distribution of wealth and income.
Introduction
Rising income inequality is one of the most pressing economic issues facing the United States today. A large and growing body of research has documented the steep rise in the concentration of income at the top of the earnings distribution since the late 1970s. While there has always been some degree of inequality inherent in a capitalist market economy, most analysts agree that the extreme levels seen recently pose significant risks if left unaddressed. There is ongoing debate around the root causes of growing inequality as well as the most appropriate policy solutions. The objective of this paper is to provide a balanced analysis of both the drivers of rising inequality since the 1970s as well as the menu of options available to policymakers seeking to promote a more equitable distribution of income and opportunity.
Causes of Rising Income Inequality in the United States
Economists point to several major interrelated factors that have contributed to the sharp increase in income inequality witnessed over the past 40 years:
Technological change and automation – Rapid advances in technology, especially information technologies, have disrupted labor markets and led to rising demand for high-skilled, high-wage workers in areas like computing and engineering. At the same time, many middle-skilled routine jobs have been automated out of existence or outsourced overseas, placing downward pressure on wages. This polarization of job opportunities has contributed to a growing premium on postsecondary education.
Globalization and trade – The integration of the United States into the global economy through increased trade, foreign direct investment, and supply chains has had uneven effects across industries and occupations. While globalization has increased overall U.S. wealth, trade competition from lower-wage countries has reduced demand for less-skilled manufacturing workers. At the same time, many multinational corporations and their high-skilled employees have benefited tremendously from expanded access to new global markets.
Decline of labor unions and minimum wage – Union membership as a percentage of the workforce has declined sharply from over 25% in the early 1970s to just 10% today. This has weakened workers’ bargaining power to demand higher compensation. Additionally, the federal minimum wage has remained stagnant since 2009 and has lost almost 30% of its purchasing power compared to 1968 levels after accounting for inflation. A declining real minimum wage hampers wage growth for low-income Americans.
Taxation and fiscal policy changes – Major tax cuts in 1981 and again in 2001, primarily benefiting upper-income households and corporations, reduced the progressivity of the U.S. tax system. At the same time, declining public investment in education, job training programs, and the social safety net weakened the ability of lower-skilled workers to remain competitive in labor markets over the long run. This has contributed to rising after-tax incomes and wealth concentration among the highest earners.
Executive compensation trends – Growing use of corporate stock options and performance-based bonuses paired with major tax reductions encouraged more lucrative pay packages for CEOs and top executives. From 1978 to 2018, CEO compensation increased over 1000%. Excessive top executive pay has inflated inequality levels according to many experts.
Macroeconomic changes – Some research has found links between rising inequality and other macroeconomic shifts including financial deregulation, private debt accumulation, declining business dynamism, and increasing returns to very large companies in concentrated industries. The causal relationships between these larger economic forces and rising inequality are complex with evidence remaining mixed.
Policy Options for Addressing Rising Income Inequality
Given the multiple drivers of growing income concentration outlined above, economists argue that bold and comprehensive policy solutions may be necessary to reverse recent inequality trends. Possible options discussed by experts include:
Substantial minimum wage increases – Raising the federal minimum wage from the current $7.25 to $15 an hour or higher over time could directly lift pay for tens of millions of low-wage workers. Revenue from higher consumer spending flowing through the broader economy may offset some business costs. Possible employment losses are hotly debated.
Expanding the Earned Income Tax Credit (EITC) – Increasing refundable tax credits like the EITC, which supplements wages for lower-income working families and individuals, is one of the most targeted and effective tools for redistributing income. A more generous EITC could lift millions of children out of poverty.
Improving access to postsecondary education and job training – Offering two years of free community college for all students or subsidized vocational education programs would aid workforce development and help workers remain competitive in changing job markets. Reducing barriers to higher education like tuition costs could promote long-term wage growth and economic mobility.
Reversing anti-union policies and “right-to-work” laws – Recent research suggests that eroding private sector unionization explains between 13-33% of rising inequality since 1973. Reforming labor laws to strengthen workers’ right to organize could support a reversal of declining union membership trends over time.
Tax reform targeting top incomes – Raising tax rates modestly on the highest-earning households while closing loopholes that primarily benefit the very wealthy would increase tax fairness and generate revenue to fund investments in human capital and economic opportunity. A progressive consumption tax is another option.
Improving corporate governance laws – Tighter controls on excessive executive compensation, stock buybacks, non-compete clauses, and other policies that tend to boost returns disproportionately to corporate insiders and top shareholders may help address rising income concentration at the very top.
Expanding “cradle-to-career” social programs – Investing in early childhood education, childcare support, nutrition assistance, healthcare access, and other services that foster thriving communities and break intergenerational cycles of poverty could reduce inequality of outcome over the long run. Such universal policies in other countries tend to foster broader prosperity.
Place-based economic development – Strategic federal and local investments targeted to economically distressed regions and populations could support new job creation, infrastructure development, and community revitalization in areas left behind by broader economic changes. This can supplement portable aid programs.
Expanding paid family and sick leave benefits – Universal paid parental leave, paid sick leave, and affordable childcare options could better support families’ abilities to participate in the workforce on an equal playing field. Many countries with lower inequality have more comprehensive family-friendly policies.
Improving competition policy and antitrust enforcement – Aggressive action to curb rising concentration and anti-competitive behavior in major industries may limit excessive profits flowing disproportionately to corporate owners and executives. This includes heightened scrutiny of megadeals, technology platforms, agriculture sector consolidation, and other issues reducing market competition.
Given the multiple causes of today’s extreme inequality, economists argue that a balanced and comprehensive policy mix incorporating several of these options will be needed to effectively reverse these harmful trends and promote shared prosperity over the long run. Political polarization makes implementing bold reforms challenging in the current environment. With inequality continuing to worsen, the stakes of inaction are rising. Further research is still needed on the most prudent policy packages and their macroeconomic effects. Going forward, reducing economic disparities and expanding opportunity for all will remain vital for U.S. economic health and social cohesion.
Conclusion
To summarize, income inequality has escalated dramatically in the United States since the late 1970s due to multiple factors. Technological progress, trade liberalization, erosion of labor market institutions, tax shifts benefiting top earners, and changing executive compensation trends have all likely contributed to income concentration. Reversing these growing disparities will require attention to root causes and comprehensive policy solutions addressing areas like minimum wages, education access, the tax code, unions, corporate governance, and the broader social safety net. Balanced packages incorporating options like those detailed here may help foster a more dynamically efficient and equitable economy over the long run. Continued research into impacts of alternative policies will aid the search for consensus reforms. Addressing inequality remains vital for ensuring opportunity and prosperity for all Americans going forward.
Andrew Stroud