Category: Data Source

A number of you have asked me what I think of their response.  The first thing I noticed is that Auten and Splinter make several major criticisms of PSZ, and yet PSZ respond to only one of them.  On the others they are mysteriously silent.

The second thing I noticed is that PSZ have been trying to deploy the slur of “inequality deniers” against Auten and Splinter.  I take that as a bad epistemic sign.

I was in the midst of writing a longer post, but then I received the following from Splinter, and I cannot come close to his efforts or authority:

Here is a short response to yesterday’s comments by Piketty, Saez, and Zucman (PSZ) on Auten and Splinter (forthcoming in JPE). These are variations on prior comments that Jerry and I addressed in 2019 and 2020. 

First, PSZ say audit data suggest adding underreported income implies little change in top 1% shares. We agree. But their approach increases recent top 1% shares about 1.5 percentage points, with about 50% of underreported business income going to the top 1% by reported income. However, Johns and Slemrod (2012) found only 5% of underreporting went to the top 1% by reported income. This discrepancy is because PSZ allocate underreported income proportional to reported positive income, which ignores that a substantial share of business underreporting (about 40%) goes to individuals with reported negative total income, where misreporting rates are the highest (Table B3 here). The concentration of underreporting at the bottom of the reported distribution causes substantial upward re-ranking when adding underreported income, but that’s mostly ignored in the PSZ approach. The PSZ approach also implies that someone who decreases their underreporting rate by increasing their reported income is allocated more underreporting. That’s backwards. 

In contrast, our approach fits prior estimates from audit data, makes use of many years of audit data, and improves upon prior approaches. We find that underreported income slightly lowers top 1% pre-tax income shares and slightly increases after-tax income shares (Figure B6 here), which is consistent with the audit data. For example, 16% of underreporting is in our top 1% ranked by true income, far less than PSZ’s near 50%-allocation and a bit under the 27% in Johns and Slemrod because we improve upon prior approaches that misallocate undetected underreporting (discussion here). Contrary to the assertions and approach of PSZ, our Figure B5 (bottom panel, here) shows­ that re-ranking between reported and true (reported plus underreported) income matters substantially. PSZ appear confused about the difference between ranking by reported versus true income. Our underreporting allocations (as are theirs) must be based on reported income because that is all one observes with the primary tax data we both use. But, unlike their method, our allocations are done such that we match the re-ranking implied by audit data. Therefore, we match both the distributions by reported and true income after re-ranking (top two panels of Figure B5, here). 

Second, income missing from individual tax returns has shifted from the top to outside the top. The shift from the top was from movements out of closely-held C corporations, whose income is missing from individual tax returns, to passthrough businesses, whose income is on individual tax returns. This created growth in the top share of taxed business income. The growth in PSZ’s top share of untaxed business income, however, is due to their skewed allocation of underreported income that re-allocates underreported income to the top of the distribution. Outside the top, the growth of missing income is from increasing tax-exempt employee compensation, especially from health insurance (see Figure B16 here).

Third, PSZ suggest that top wealth and capital income shares should run parallel over the long run. This is a problematic assumption. Economic changes can push down capital income shares relative to wealth shares. For example, interest rates fell dramatically between 1989 and 2019—the federal funds effective rate fell from 9 to 2 percent. This tends to decrease the ratio of interest-income to bond-wealth and therefore falling interest rates likely increased the gap between top income and wealth shares. Also, much of top wealth patterns are driven by passthrough business, but this is fully or two-thirds excluded from PSZ’s definition of “capital” income here. When fully including passthrough business, the Auten–Splinter top 1% non-housing “capital” income share increased by 5 percentage points between 1989 to 2019, about two-thirds the Federal Reserve’s estimated increase in top 1% wealth shares. Therefore, the Auten-Splinter estimates are broadly consistent with increasing top wealth shares.

 The Auten–Splinter approach is fundamentally a data-driven approach (Table B2 here). Based on Saez and Zucman’s (2020) suggestions and conversations, our more recent work adds new uses of data to account for high-income non-filers, flexible spending accounts, and depreciation issues from expensing. Where we rely on assumptions, alternative ones suggest top 1% shares change little, see Table 5. Our headline finding of relatively flat long-run top 1% after-tax income shares is robust.

Auten and Splinter had presented versions of those points previously, as they note.  Yet PSZ present them as naive fools who somehow forgot to think about these issues at all, and PSZ do not, in their reply, consider these more detailed presentations of the point and defenses of the  Auten-Splinter estimates.  So I don’t think of the PSZ response as especially strong.

Here are relevant Auten and Splinter points from back in 2020.  Phil Magness offers commentary.

That is the topic of my latest Bloomberg column, here is one bit:

As recent research indicates, the recent inflation has been very costly. The 2021-2022 inflation cost more than 3% of national income in France, Germany and Spain, and about 8% of national income in Italy, higher costs than what a typical recession would bring.

It is striking how much those costs fall on the elderly, which is one reason that lowering inflation rates has been such a priority. The elderly usually have the most accumulated savings, and less time to make up for inflationary losses by subsequent compounding. Older people are also more likely to own homes, so face higher home heating bills when energy prices rise. Overall, in the last several years, a low-income retired household in Italy might have taken income cuts of up to 20%, while a middle-aged household in the euro area might have seen a typical income cut of 5%.

…Not everyone lost from the inflation. Young households in Spain, for instance, gained more than 5% in income. The simplest way a household might gain from inflation is that its debt liabilities decline in real, inflation-adjusted value. On average, the young are more likely to be in debt than the elderly, and own fewer assets. Inflation also tends to lower the value of tenured jobs, such as in academia, and younger people are less likely to hold such posts. The young also tend to have more time in their lives to adjust to negative economic shocks, by for instance geographic or career migration.

Overall, an estimated 30% of the households in the euro area gained from the inflationary shock. Almost half of 25- to 44-year-olds benefited.

On net, the inflation remains a clear negative.  But how many other eurozone policies manage to favor the young?

Here is the underlying research by Filippo Pallotti, Gonzalo Paz-Pardo, Jiri Slacalek, Oreste Tristani, and Giovanni L. Violante.