Billionaires, Wealth Distribution, and Wealth Taxes—Part One

The distribution of wealth has been the subject of much discussion. Wealth tax proposals have been made to address it. Before these proposals can be considered, the cause of wealth inequality must be understood. This is the subject of today’s Commentary. Next week’s Part Two of this discussion will focus on the proposals for addressing it. Let’s try to be fact-based and rational.

The dramatic growth of wealth since the industrial revolution has been driven by increases in productivity. A unit of work today creates far more value, and generally more compensation, than it did historically. Until the 1980s, the workforce at large benefited from this progress and the level of wealth inequality generally declined. Since that time, however, several global developments have disrupted this trend and altered the distribution of wealth. The St. Louis Fed reports that the wealth of the top 10% of the population grew from 67% of total wealth in 1989 ($22 trillion) to 77% in 2016 ($66.9 trillion), while the wealth of the bottom 50% declined over the same period from 3% ($1 trillion) to 1% ($.9 trillion).

Economists cite several reasons for this, including trade agreements, tax policy, the financial crisis, the state of American education, etc. Fundamental to all these factors, however, is the change in the supply and demand of labor that has occurred over this period.

Work is rewarded in a free market based on the dynamic of supply and demand. Work that requires relatively rare skills demands higher compensation than work that does not. Unique skills; advanced education; athletic capacities; creativity in music, technology, or business; and unusual capacities to lead and inspire others are all rare. Higher compensation over time leads to greater wealth, be it in the form of savings, real estate, company ownership, etc. The return on accumulated wealth compounds its growth.

Two developments have altered these dynamics. First, globalization has created a single market for labor, increasing the supply particularly of unskilled labor from countries like Mexico, China, and India. Second, advancements in automation and artificial intelligence have reduced the demand for both unskilled and semiskilled labor. Both of these factors have put downward pressure on the price of labor.

At the other end of the spectrum, highly skilled workers such as doctors, lawyers, academics, technologists, executives, athletes, and entertainers have not been subject to these dynamics and have experienced a growth in relative compensation. Partners in prestigious law firms bill at $1,000 per hour, plastic surgeons earn $501,000 on average, $100 million contracts abound in the MLB, and a talk show host and entrepreneur is now one of the country’s wealthiest women.

A factor that affects all labor, not just the least skilled, is that after remaining stable for generations, labor’s share of national income versus capital declined from 75% in 1980 to 70% today.

Technology has accelerated these trends. While traditional industries required large amounts of capital, time, and unskilled or semiskilled labor to create wealth, technology now enables entrepreneurs to create value with relatively small amounts of these inputs. For example, in 1979 General Motors’s employment peaked at 1.45 million and it was valued at $14.7 billion. In contrast, Facebook went public in 2012 at a value of $104 billion while employing only 4,600 employees.

Technology and automation have also made it more difficult to transition between jobs. For example, as cars became more sophisticated, workers were able to upgrade their skills in order to stay in demand. Today, however, retraining in order to program and manage the machinery of automation is not easy and leaves many behind. The consequences for income are shown in the following Brookings Institute chart.

These challenges are heightened for the poor, who must struggle to compete while overcoming the trauma of poverty, the absence of pre-K education, poor schools, the inability to afford college, and the difficulty of recovering from economic setbacks.

Although Senator Sanders is fond of saying that “there has been a massive transfer of wealth from those who have too little to those who have too much,” there has been no such “transfer.” Wealth created over the past 30 years has simply been created and retained by a smaller and smaller number of people. Even the advisors to Senator Warren and architects of her wealth tax, Emmanuel Saez and Gabriel Zucman, state in their book The Triumph of Injustice that the evidence “doesn’t prove that the fortunes earned by the ultra-rich have been gained at the expense of the rest of the population.”

Sanders, Steyer, and Warren all propose wealth taxes as a way to address inequality in America. How should we think about them? This is the subject of next week’s Commentary: Part Two.