Results for “piketty”
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Recent trends in top income shares

You may recall that some time ago Alan Reynolds (Reynolds responds here) challenged the results of Piketty and Saez on rising income inequality in the United States.  There has now been a systematic look at biases in the data, with the goal being to reconcile data from the Current Population Survey with IRS measurements.  Burkhauser, Feng, Jenkins and Larrimore report their results:

Although the vast majority of US research on trends in the inequality of family income is based on public-use March Current Population Survey (CPS) data, a new wave of research based on Internal Revenue Service (IRS) tax return data reports substantially higher levels of inequality and faster growing trends. We show that these apparently inconsistent estimates can largely be reconciled once one uses internal CPS data (which better captures the top of the income distribution than public-use CPS data) and defines the income distribution in the same way. Using internal CPS data for 1967–2006, we closely match the IRS data-based estimates of top income shares reported by Piketty and Saez (2003), with the exception of the share of the top 1 percent of the distribution during 1993–2000. Our results imply that, if inequality has increased substantially since 1993, the increase is confined to income changes for those in the top 1 percent of the distribution.

An ungated version is here.  As I read this paper, the Piketty and Saez result, with some modifications for 1993-2000, basically holds up.  It's also worth noting that recent increases in inequality do relate mostly to the top one percent.  That's all for pre-crash times, of course.

Handicappling the Clark medal

Justin Lahart reports:

Friday, the American Economic Association will present the John Bates Clark medal, awarded to the nation’s most promising economist under the age of 40.

The Clark is often a harbinger of things to come. Of the 30 economists who have won it, 12 have gone on to win the Nobel, including last year’s Nobel winner, Paul Krugman. Other past winners include White House National Economic Council director Lawrence Summers and Steve Levitt, of Freakonomics fame. Since it was first awarded in 1947, the Clark has been given out every two years, but beginning next year it will be given out annually.

With a deep pool of young talent to draw from, there’s no sure winner. But among economists, the clear favorite is Esther Duflo, 36, who leads the Massachusetts Institute of Technology‘s Jameel Poverty Action Lab with MIT colleague Abhijit Banerjee.

Ms. Duflo has been at the forefront of the use of randomized experiments to analyze the effectiveness of development programs. If teacher attendance is a problem in rural India, for example, what happens if teachers are given cameras with date and time stamps and told to take a picture of themselves and their students each morning and afternoon? Ms. Duflo and economist Rema Hanna tried it out and found that in the “camera schools,” teacher absences fell sharply and student test scores improved. Does giving poor mothers 60 cents worth of dried beans as an incentive to immunize their children work? It works astoundingly well. By answering these kinds of problems, Ms. Duflo, her colleagues, and the many economists around the world she has helped inspire, are uncovering ways to make sure that money spent on helping poor people in developing countries is used effectively.

Harvard University‘s Sendhil Mullainathan, who founded the Poverty Action Lab with Ms. Duflo and Mr. Banerjee, is also likely on the Clark short list. He’s a leading light in the fast-growing field of behavioral economics, studying ways that psychology influences economic decisions. For one paper, he and frequent co-author Marianne Bertrand sent out fictitious resumes in response to want ads, randomly assigning each resume with very African American sounding or very white sounding names. The resumes with the very white names got far more call backs. Mr. Mullainathan, 36, is also applying behavioral economics insights to development problems. One insight: The behavioral weaknesses of the very poor are no different than the weaknesses of people in all walks of life, but because the poor have less margin for error, their behavioral weaknesses can be much more costly.

Emanuel Saez at the University of Calif.-Berkeley, another Clark candidate, has been tenaciously researching the causes of wealth and income inequality around the world, with a focus on the what’s happening at the very tip of the wealth pyramid. But because there is very little data on the very rich, Mr. Saez, 36, and his frequent co-author Thomas Piketty have combed through income tax figures to come up with historic estimates. Among their findings: That before the onset of the financial crisis, the income share of the top 1% of families by income accounted for nearly a quarter of U.S. income – the largest share since the late 1920s.

I’ve been waiting for a paper like this

Steve Kaplan and Joshua Rauh write:

We consider how much of the top end of the income distribution can be
attributed to four sectors — top executives of non-financial firms
(Main Street); financial service sector employees from investment
banks, hedge funds, private equity funds, and mutual funds (Wall
Street); corporate lawyers; and professional athletes and celebrities. 
Non-financial public company CEOs and top executives do not represent
more than 6.5% of any of the top AGI brackets (the top 0.1%, 0.01%,
0.001%, and 0.0001%).  Individuals in the Wall Street category comprise
at least as high a percentage of the top AGI brackets as non-financial
executives of public companies.  While the representation of top
executives in the top AGI brackets has increased from 1994 to 2004, the
representation of Wall Street has likely increased even more.  While the
groups we study represent a substantial portion of the top income
groups, they miss a large number of high-earning individuals.  We
conclude by considering how our results inform different explanations
for the increased skewness at the top end of the distribution.  We argue
the evidence is most consistent with theories of superstars, skill
biased technological change, greater scale and their interaction.

Here is the link, here is the non-gated version.  How about this bit from the text?:

…the top 25 hedge fund managers combined appear to have earned more than all 500 S&P 500 CEOs combined (both realized and estimated).

This is important too:

…we do not find that the top brackets are dominated by CEOs and top executives who arguably have the greatest influence over their own pay.  In fact, on an ex ante basis, we find that the representation of CEOs and top executives in the top brackets has remained constant since 1994.  Our evidence, therefore, suggests that poor corporate governance or managerial power over shareholders cannot be more than a small part of the picture of increasing income inequality, even at the very upper end of the distribution.  We also discuss the claim that CEOs and top executives are not paid for performance relative to other groups.  Contrary to this claim, we find that realized CEO pay is highly related to firm industry-adjusted stock performance.  Our evidence also is hard to reconcile with the arguments in Piketty and Saez (2006a) and Levy and Temin (2007) that the increase in pay at the top is driven by the recent removal of social norms regarding pay inequality.  Levy and Temin (2007) emphasize the importance of Federal government policies towards unions, income taxation and the minimum wage.  While top executive pay has increased, so has the pay of other groups, particularly Wall Street groups, who are and have been less subject to disclosure and social norms over a long period of time.  In addition, the compensation arrangements at hedge funds, VC funds, and PE funds have not changed much, if at all, in the last twenty-five or thirty years (see Sahlman (1990) and Metrick and Yasuda (2007)).  Furthermore, it is not clear how greater unionization would have suppressed the pay of those on Wall Street.  In other words, there is no evidence of a change in social norms on Wall Street.  What has changed is the amount of money managed and the concomitant amount of pay.

There is a great deal of analysis and information (though to me, not many surprises) in this important paper.  The authors also find no link between higher pay and the relation of a sector to international trade.

Alan Reynolds’s *Income and Wealth*

1. I don’t agree with the most notorious claim of the book, namely that income inequality hasn’t gone up over the last few decades.  Gary Burtless has a good, non-polemical look at the data.  See also Bruce Bartlett.  Personally I am struck by what I know about philanthropy, art markets (booming prices, driven by wealth) and academic salaries.  At the micro-level each of these areas appears to reflect a trend of rising income inequality.  Even before I had heard of Piketty and Saez, I felt I was seeing their result right before my eyes.  In terms of more formal data, I also was much influenced by the Thomas Lemieux piece I cited earlier today (Reynolds cites it too, I might add, approvingly, though without considering this angle), which shows that composition effects virtually require income inequality to be rising.  Reynolds would have had a better book if he simply stated that income inequality isn’t going up as much as some people have claimed.

2. The book is of course polemical in style, so it is no surprise it would occasion polemical responses.  Nonetheless I have been disappointed by much of the critical reaction to the book, most typically Jonathan Chait at NR.  With any book, whether you like its attitude or not, the first questions are what the book gets right and what we can learn from it.  (I am someone who had GMU economics Ph.d. students read Barbara Ehrenreich’s Nickle and Dimed.)  Many of the critics aren’t asking these questions but rather they are using debating points, or attacks against Reynolds, to dismiss the book altogether.  On many issues Reynolds is correct or at least he makes arguments worth considering.  Often he is simply a massive tonic of common sense when countering the fuzzier-minded of egalitarian arguments.

Neither Reynolds nor the critics try hard enough to get at the real issues, namely which kinds of inequality are present, which are problems, and which are worth worrying about.  The Reynolds book would have done better to try to give us a deeper understanding of the actual problems, whatever they may be, and less to respond to the critics number-by-number; the latter approach rarely convinces many people. 

On specific points, the critics are too dismissive of consumption data, and Reynolds defends them too passionately.  And what about happiness?  Are there special problems concerning unequal health care?  Just how bad is emergency room care relative to gold-plated insurance plans?  Is the biggest problem of the poor, as one MR commentator points out, simply having to hang around other poor people?

Overall both philosophy (a rigorous treatment of which complaints are exactly complaints about inequality) and sociology are badly needed in this debate.  On both sides of the fence I yearn for just a bit more Amartya Sen.  The numbers, one way or the other, taken alone, aren’t going to convince very many people.

Alan Reynolds on *Income and Wealth*

…The
architects of these estimates, Thomas Piketty of École Normale
Supérieure in Paris and Emmanuel Saez of the University of California
at Berkeley, did not refer to shares of total income but to shares of
income reported on individual income tax returns-a very different
thing. They estimate that the top 1% (1.3 million) of taxpayers
accounted for 16.1% of reported income in 2004. But they explicitly
exclude Social Security and other transfer payments, which make up a
large and growing share of total income: 14.7% of personal income in
2004, up from 9.3% in 1980. Besides, not everyone files a tax return,
not all income is taxable (e.g., municipal bonds), and not every
taxpayer tells the complete truth about his or her income.

For
such reasons, personal income in 2004 was $3.3 trillion, or 34.4%,
larger than the amount included in the denominator of the Piketty-Saez
ratio of top incomes to total incomes. Because that gap has widened
from 30.5% in 1988, the increasingly gigantic understatement of total
income contributes to an illusory increase in the top 1%’s exaggerated
share.

The same problems affect Piketty-Saez estimates of share of
the top 5%, which contradict those from the Census Bureau (which also
exclude transfer payments). Piketty and Saez figure the top 5%’s share
rose to 31% in 2004 from 27% in 1993. Census Bureau estimates, by
contrast, show the top 5%’s share of family income fluctuating
insignificantly from 20% to 21% since 1993. The top 5%’s share has been
virtually flat since 1988…

Unlike
the Census Bureau, Messrs. Piketty and Saez measure income per tax unit
rather than per family or household. They maintain that income per tax
unit is 28% smaller than income per household, on average. But because
there are many more two-earner couples sharing a joint tax return among
high-income households, estimating income per tax return exaggerates
inequality per worker.

…the
amount of income Messrs. Piketty and Saez attribute to the top 1%
accounted for 10.6% of personal income in 2004. That 10.6% figure looks
much higher than it was in 1980. Yet most of that increase was, as they
explained, "concentrated in two years, 1987 and 1988, just after the
Tax Reform Act of 1986." As Mr. Saez added, "It seems clear that the
sharp, and unprecedented, increase in incomes from 1986 to 1988 is
related to the large decrease in marginal tax rates that happened
exactly during those years."

That 1986-88 surge of reported high
income was no surprise to economists who study taxes. All leading
studies of "taxable income elasticity," including two by Mr. Saez,
agree that the amount of income reported by high-income taxpayers is
extremely sensitive to the marginal tax rate. When the top tax rate
goes way down, the amount reported on tax returns goes way up. Those
capable of earning high incomes had more incentive to do so when the
top U.S. tax rate dropped to 28% in 1988 from 50% in 1986. They also
had less incentive to maximize tax deductions and perks, and more
incentive to arrange to be paid in forms taxed as salary rather than as
capital gains or corporate profits.

The top line in the graph shows
how much of the top 1%’s income came from business profits. In 1981,
only 7.8% of the income attributed to the top 1% came from business,
because, as Mr. Saez explained, "the standard C-corporation form was
more advantageous for high-income individual owners because the top
individual tax rate was much higher than the corporate tax rate and
taxes on capital gains were relatively low." More businesses began to
file under the individual tax when individual tax rates came down in
1983. This trend became a stampede in 1987-1988 when the business share
of top percentile income suddenly increased by 10 percentage points.
The business share increased again in recent years, accounting for
28.4% of the top 1%’s income in 2004.

As was well-documented years
ago by economists Roger Gordon and Joel Slemrod, a great deal of the
apparent increase in reported high incomes has been due to "tax
shifting." That is, lower individual tax rates induced thousands of
businesses to shift from filing under the corporate tax system to
filing under the individual tax system, often as limited liability
companies or Subchapter S corporations.

IRS economist Kelly
Luttrell explained that, "The long-term growth of S-corporation returns
was encouraged by four legislative acts: the Tax Reform Act of 1986,
the Revenue Reconciliation Act of 1990, the Revenue Reconciliation Act
of 1993, and the Small Business Protection Act of 1996. Filings of
S-corporation returns have increased at an annual rate of nearly 9.0%
since the enactment of the Tax Reform Act of 1986."


Switching income
from corporate tax returns to individual returns did not make the rich
any richer. Yet it caused a growing share of business owners’ income to
be newly recorded as "individual income" in the Piketty-Saez and
Congressional Budget Office studies that rely on a sample individual
income tax returns. Aside from business income, the top 1%’s share of
personal income from 2002 to 2004 was just 7.2%-the same as it was in
1988.

In short, income shifting has exaggerated the growth of top
incomes, while excluding a third of personal income (including transfer
payments) has exaggerated the top groups’ income share. [emphasis added]

There are
other serious problems with comparing income reported on tax returns
before and after the 1986 Tax Reform. When the tax rate on top salaries
came down after 1988, for example, corporate executives switched from
accepting stock or incentive stock options taxed as capital gains
(which are excluded from the basic Piketty-Saez estimates) to
nonqualified stock options reported as W-2 salary income (which are
included in the Piketty-Saez estimates). This largely explains why the
top 1%’s share rises with the stock boom of 1997-2000 then falls with
the stock market in 2001-2003.

In recent years, an increasingly
huge share of the investment income of middle-income savers is accruing
inside 401(k), IRA and 529 college-savings plans and is therefore
invisible in tax return data. In the 1970s, by contrast, such
investment income was usually taxable, so it appears in the
Piketty-Saez estimates for those years. Comparing tax returns between
the 1970s and recent years greatly understates the actual gain in
middle incomes, and thereby contributes to the exaggeration of top
income shares.

In a forthcoming Cato Institute paper I survey
a wide range of official and academic statistics, finding no clear
trend toward increased inequality after 1988 in the distribution of
disposable income, consumption, wages or wealth. The incessantly
repeated claim that income inequality has widened dramatically over the
past 20 years is founded entirely on these seriously flawed and greatly
misunderstood estimates of the top 1%’s alleged share of
something-or-other.

Opinions?  I am embarrassed to admit I have yet to read Pikaetty and Saez.  If you would like an alternative perspective from that offered by Reynolds, here is Paul Krugman.

Addendum: Here is Greg Mankiw on same, with related links.

Income inequality over time

How great a share has the top ten percent of the American income distribution earned over time?

Ben Muse tells us (based on, Income Inequality in the United States, 1913-1998, by Thomas Piketty and Emmanuel Saez):

In 1917, the top 10% of “tax units” had about 40% of national income. The percent of the income earned by this group rose until about 1929, ranged from about 44% to about 46% until 1940, then plummeted to the area of 32% during the war, and sat there until about 1972. From 1972 to 1998, the share of income received by this group rose almost continuously, ending the period in the area of 42%.

Here is the graph (click to expand):

IncDist.jpg

Breaking the top 10% into even finer gradations we see that:

Percentiles 90-99 appear to rise gradually from 1917 to 1940, do the 1940 WWII drop, then, following the war, begin a long sustained increase through 1998.

But the top percentile is all over the place. The authors had enough data to start this series up in 1913, before the start of WWI. It plummets on U.S. entry into the war and during a post-war depression, rises through the boom of the 1920s, peaking in 1929, plummets with the onset of the Great Depression, and again with the onset of WWII, then continues to fall following the war, bottoming out about 1972, and then rising over the period 1972-1998. A large part of this last rise takes place in 1987 and 1988, following the Tax Reform Act of 1986….

What else do we learn? War and other disruptions appear to damage capital income more than labor income. If that is the case, a healthy and peaceful society might have increasing income inequality. In other words, if we are lucky, income inequality will increase even more.