The Complex Reality of Income Inequality in America

>> Scott: It's a great pleasure to introduce my friend and colleague Josh Rauh, the co-director of the program. Josh is the Ormond family professor of finance at Stanford's Graduate School of Business and a senior fellow here at Hoover. He has a large number of accolades, and I'm not gonna go through.

He formerly served at the White House, where he was principal chief economist on the president's Council of Economic Advisors. And he has taught at the University of Chicago and Kellogg School of Management at the University of Chicago School of Business and Kellogg's Business School at Northwestern. His presentation and talk today will be on taxation, redistribution, and inequality.

Josh.

>> Josh Rauh: Okay, thanks, Scott, for the introduction. Great to see everybody today. So, as Scott mentioned, title of the presentation is taxation, redistribution, and inequality. And this talk is gonna be about, what do we know about inequality in the United States? What is the prevailing media narrative? Is it correct?

And what does the evidence really say? So we're gonna look at a few things in this presentation. We're gonna be looking at both income inequality and wealth inequality. So those are two different things. And how inequality is measured is gonna be very important. It's gonna be important to distinguish between inequality of what I would call market income or earnings in the market, earnings in the labor market.

And inequality that prevails after government intervention. Because we do have a fiscal system where there's a lot of taxation and redistribution that goes on. So it's gonna be important to distinguish between measures of inequality that look at those two different definitions. And then I'm gonna conclude with some thoughts about how much you should be concerned about inequality.

And what policy areas you should think about if you are concerned about inequality. So we'll be starting out with a few simple poll questions. We're using poll everywhere for this, you'll need a device, laptop, cell phone, tablet. And these polls are under pollev.com/rauh. So that might be a different slash than what you use to sign in for the session day, pollev.com/rauh.

By the way, that's how you pronounce my name, Rauh. And so everybody pulled up. Get there and then in a second I will activate the first poll question. Now, the first question is not a factual question. It actually asks whether you agree or disagree with a certain statement.

And after you've answered it, I also want you to make a note for yourself. Just in your own notes that you're taking, to just consider the following question, which is, what evidence would I need to be shown to change my mind? So if you disagree with the statement ask yourself, well, what evidence would I need to be shown for me to agree with the statement?

If you agree, ask yourself what evidence would need to be shown to disagree. So just for example, okay, let's say I asked you whether you agree or disagree with the statement, younger people are happier than older people. Okay, if I've asked you that statement, some of you might agree, some of you might disagree.

Click on your answer. And the thought process I want you to go through is to ask yourself, what evidence would I need to see to make me change my mind? So suppose you think younger people are happier. Your answer might be, well, a large scale happiness study that showed older people reporting that they were happier might convince me.

Although on the other hand, that might not be enough, because maybe you don't really trust statistics about self-reported happiness. So maybe there's some other evidence you'd wanna see that you need to make you change your mind. Okay, so here we go. So, first poll question, do you agree or disagree with this statement?

The wealthy do not pay their fair share in taxes. Wealthy do not pay their fair share in taxes. Agree or disagree, what do you think? So you actually have five categories, strongly agree, somewhat agree, neither agree nor disagree, somewhat disagree or strongly disagree. And then, as I said, take a second to just ask yourself, okay, well, what would I need to see to change my mind?

What kind of evidence would lead me to change my mind? Cuz answering that question shows that you're approaching this issue with an open mind. So that's what we wanna see. Okay, so 100 people, 102. The vote count is going up. I'm glad everybody's voting. Okay, this is good, it's an opinion question, not a factual question.

So I think we're pretty much where we'd wanna be here. 113 votes, about the number of people in the boot camp. I did make it so that you can't vote more than once here. So you can't vote both early and often. So I'm gonna close it up now in three seconds, so answer if you haven't answered.

Three, two, one. Okay, we're locked up and we're gonna see what the responses are. Okay, pretty big heterogeneity in results here in your views. 20% of you strongly agree that the wealthy do not pay their fair share in taxes. 22% somewhat agree, 13% of you are more agnostic, 32% somewhat disagree, and 13% strongly disagree, okay, very interesting.

So I would say that I guess 42% of you either strongly agree or somewhat agree, I think that's kind of a good benchmark. Let's look at how this looks relative to national polls about income inequality, because I'm not the first person to ask this kind of question in a poll.

Actually, it turns out that organizations like Gallup and Pew Research ask these kinds of poll questions fairly regularly. So here are some results. Two polls, one asked whether people agreed or disagreed with the statement, it bothers me a lot that some wealthy people don't pay their fair share.

Do you agree or not with that statement? And they found that 60% of all US adults agreed with that. They felt that it bothered them a lot that some wealthy people don't pay their fair share. 77% of Democrats and 43% of Republicans. Very similar poll question. There's too much economic inequality in the country these days, also by Pew Research.

But three years apart, these polls were done three years, really very similar answers. 78% of Democrats, 41% of Republicans, 61% overall. We don't know whether it was the same individual answering the same thing to each question. But it seems like the types of people who are answering yes to this question are probably answering yes to this question as well.

So that's what it looks like in the country overall. So it seems like you're a little bit less bothered by inequality than the country overall. But maybe that's because you did some of the reading, I don't know, and that had already sort of convinced you or moved your priors.

Some people look at this and have a reaction, well, maybe this is just because Republicans are wealthier or live in wealthier places. And therefore they're not as bothered by income inequality. That's not really consistent with just sort of basic headline numbers, right? So median household income in Democratic districts is $61,000 per year, and in Republican districts, it's $53,000 per year.

So it does seem there are some differences between Democrats and Republicans on their views about this issue. And I suppose there are two possible ways you could explain these differences. One could be that there's a different perception among Democrats and Republicans about the amount of inequality that is just out there, right?

So maybe Republicans just think there's less inequality out there than Democrats. Another explanation could be that Republicans are just happier or okay with more income inequality than Democrats. So it could be not that there's any difference in the perception of how much inequality there is. But maybe there's just a difference in how much inequality these two groups of voters would tolerate.

So those are two potential explanatory factors here. So now we're gonna do another poll. And this next poll, I'm not gonna Not give you very much time to answer the question once it's posted, because it's a factual question and I don't want you googling. I'm not interested in testing your googling skills.

I know they're excellent for everybody here, so I don't wanna give you too much time. So for that reason, I'm just gonna give you kinda 10 seconds to answer it. Once it's up there and I've read it, I'm interested in your perceptions. And then we're gonna see how those perceptions match up with reality, okay?

So get ready, okay? Here we go. Approximately what percent of federal adjusted gross income does the top 1% of taxpayers earn? So just to explain, if you thought the top 1% of taxpayers earned 1% of the income, then you would think there's just no income inequality out there, right?

If you think the top 1% earn 12% of the income, then you would say, okay, there's some income inequality. They're earning 12% of the income, and the 99% are earning the rest, okay? So let's do it, let's do it fast, come on. Okay, let's go here, right? Okay, 90, all right, we're getting up there.

Not gonna give you too much time, cuz now it's gonna start getting biased by googling. Three, two, one, and we're gonna lock it here, okay? Let's see what the responses are. Sorry for those of you who didn't get in there in time, but here we go. Okay, so 3% of you said there's no income inequality out there, that the top 1% earn 1% of the income.

13% of you said they earned 12% of the income. The modal of answer, that means the answer that got the most votes percentage wise was 32% of the income, and 15% of you said they earned 42% of the income. So this is kinda increasing order of inequality, all right?

Well, fortunately, this is a factual question, so we can look at the answer. What is the income of the top 1% as a share of the total? Well, actually, I've got on this graph, top 1%, top 5%, 10%, 25%, 50%, okay? Obviously, all taxpayers, that's 100%. So top 1%, the answer is 22.2% of the income.

Top 1% earned 22.2% of the income. So going back to our results here, you can see that about 30% of you got it right. 16% of you thought that there was less income inequality out there than there actually is. But I would say actually, looks like over 50% thought there was actually more inequality in terms of earnings than there actually is, okay?

You can see also the cut-offs here. To be in the top 1% in 2021, your household had to earn over $548,000, that's the cut-off for the top 1%. That's what those people earn. You can also see the rest of the distribution here, top 50% here is 42,000 under this definition.

Okay, next question, all right? This is actually now an opinion question again, so I don't need to rush you through this, you can think about this for a moment. Approximately what percent of total federal taxes SHOULD the top 1% of taxpayers pay? If you were a benevolent leader of the United States or you're a member of Congress and you were gonna propose a restructuring of our tax system.

And you could choose what percent of the federal taxes the top 1% SHOULD pay, what would it be? And you're gonna take as given the fact that the top 1% earned 22% of the income, cuz that's a fact that we saw, okay? So top 1%, they earn 22% of the income.

Approximately what percent of total federal taxes SHOULD they pay? Meaning would you think it would be fair for them to pay? Because after all, first question was about paying fair share and things like that. So what percentage of total federal taxes SHOULD they pay? And by that, I don't mean what SHOULD their tax rate be.

If you think about all the taxes the government brings in as being in one big pile of money, what percentage of that pile of money SHOULD be contributed by that top 1%, okay? So I'll give you a couple more seconds to think through that, right? So, SHOULD it be 1%?

SHOULD it be 10%? SHOULD it be 22%, the same percentage as of the income they earn? SHOULD it be 30%, 40%, 50%? Okay, so feel free to vote on that, okay? I'll give you a few more seconds there, okay? We're above 110, so I know others might be contemplating even more, calculate, devising some kind of Mirrlees modal, calculating some optimal tax rates or something.

I'm just gonna cut it off there, right? We don't need to do that, okay? So let's stop and let's see what the responses are, all right? Okay, so modal answers here. All right, so let's start at the top. So 3% of you said, well, 1% of the people, they SHOULD contribute 1% of the taxes.

Doesn't matter to you that they're earning 22% of the income, your definition of fairness is they SHOULD provide 1% of the taxes. Okay, so 16% of you said 10%, 31% of you said 22%. I presume the logic that, well, they're earning 22% of the income, maybe they SHOULD contribute 22% of the taxes, okay?

Seems logical. Maybe a slightly more 31% must be rounded up. That we're seeing slight differences in these bars here, say that the top 1% SHOULD provide 30% of the taxes, okay? So now we're getting into what would be a somewhat progressive tax code. Meaning, okay, they're gonna provide more of the taxes than their share of income earned, all right?

The modal answers are either 22%, which is the share of income they earned, or the choice that was one notch above that, okay? 15% of you said they SHOULD pay 40% of the taxes, and 3% of you said they SHOULD pay above 50% of the taxes. I was worried that maybe that many people were gonna say more than 50%.

I was gonna have to pull a trick like what Ludwig von Mises said when he stormed out of the Mont Pelerin Society and said, you're all socialists, okay? I'm not gonna have to do that because not that many people answered about 50%. Okay, so we're going to do another factual question now, okay?

But keep this in mind, remember what your answer is, remember what we did. We're gonna do another factual question. And what do you think that factual question is gonna be? Well, of course, now I'm gonna ask you approximately what percent of total federal taxes DOES the top 1% of taxpayers pay in the US, okay?

DOES, and I'm giving you the choices, 1%, 12%, 22%, 32%, and 42%. So it's one of those. I'm not gonna give you that much time for this because, again, you could Google, and I don't wanna test your googling skills. We're up to 85, we're up to 90. Come on, let's answer this quickly so we can get on with the presentation, right?

Let's just pick something. What do you think? All right, about 110 I'm gonna cut it off, okay? Three, two, one, all right, okay, very good. Great participation, everybody, thank you. So let's look at their responses, okay? So modal response, 36% of you said that the top 1% pay 32% of the taxes, which kinda lined up with a lot of what your desire wish was that it should be.

1% of you said that they only pay 1% of the taxes. 26% you said they paid 12%, 7% said they paid 22%, and 30% of you said that they pay 42%, okay? So this is the income share again, top 1% they earn 22% of the income. The answer is that they pay 42% of the taxes, okay?

So they earn 22% of the income, they pay 42% of the taxes. So interesting to reflect a little bit, you should just do some introspection on where this is relative to what you thought was going on and also relative to what your ideal would be, okay? Cuz actually, this is the SHOULD poll response now.

The ideal in this room actually, also, given the fact about how much income that they earn, seems to be that they SHOULD pay 30% or lower of the taxes. We know they earn 22% of the income, we can sorta argue a bit about SHOULD it be a little less progressive if they're only paying 10% of tax?

SHOULD it be more progressive if they're paying 30% of taxes? Some of you want them to pay 40% or more, 18% of you had 40% or more. And those 18% of you are in line with what today's federal government policy actually is. So that's where we are with income and taxation in the US of the top 1%.

Of course, we could do the similar kind of exercise, and I encourage you to do it on your own with, say, the top 10%. Or maybe you're more concerned about the top 0.1%. One in 1000 people, you can do that same thing. And you can see, in my experience, from polling other audiences, that you get pretty similar results.

People generally tend to overestimate the percentage of income at the top 1% pay, and they tend to underestimate the percent of taxes at the top 1% pay. Okay, so how does this compare with the prevailing media narrative about inequality? Well, the predominant media narrative is one of the exploding inequality, I think it would be fair to say.

So here's one headline I'm gonna present. A number of headlines. Economist Thomas Piketty explains why income inequality is just getting started. Us inequality keeps getting uglier from CNN Business. Massive new data sets suggest economic inequality is about to get even worse. The bottom 90%, no better off today than in 1986.

Take me back to 1986. It's much better to live in 1986 than today. You're not imagining, unless you're part of the top 10%. You're not imagining that the rich really are hoarding economic growth. They're hoarding economic growth. And it's an unequal world. It doesn't have to be. So it sounds from the media as though a new gilded age has arrived where the top 1% were getting rich at the expense of everyone else.

A lot of these articles, they cite research. And what is the research that they cite? I'm gonna tell you, I wanna do a quick step back with some of the big questions. So first big question that we're gonna look at here is what's actually going on with economic income inequality in the country?

So both the level, we saw a little bit about the level all ready. We're gonna look now at some of the trends. The trends, how has it been evolving? And how much should or shouldn't the government use redistributive economic policy to address income inequality? We've seen a little bit, I gave you a bit of a teaser or a taste as to what's going on today with income inequality and also how much redistribution the federal government is doing today.

But it's gonna be a little more complicated than that, right? There's some other things we're gonna have to consider. We're gonna have to consider how things have evolved over time, maybe some comparisons to other countries. We might also be interested in how much redistributive policy the government is really doing when you factor in the federal, state, and local levels of the economy.

Go ahead. The words adjusted gross income reflect the IR's broadest income measure that you consistently get reported on a tax return. And that's also gonna be the measure that the economists who have been talking about and promoting the idea of increased income inequality are gonna use. It's just a standard measure.

Now, there are many things that are not included in adjusted gross income and they are not reported on tax returns. And what we're gonna see is that a lot of those things are actually sources of income that are more prevalent among lower income people than higher income people.

Because adjusted gross income is, it does not include all of the deductions that people can take, it's gross. And the adjusted part is really a pretty minor, minor change. But the real issue is that there's just a lot of income that doesn't show up on tax returns, and that's gonna be a challenge for measuring inequality.

Yeah.

>> Josh Rauh: Yes, very good. We're gonna get there. As I said at the beginning, we're gonna look at two measures, income inequality and wealth inequality. So we're gonna do it. I fully agree.