Tax policy and economic inequality in the United States

Tax policy and economic inequality in the United States discusses how tax policy affects the distribution of income, distribution of wealth, and income inequality in the United States. Income inequality can be measured before- and after-tax; this article focuses on the after-tax aspects. Income tax rates applied to various income levels and tax expenditures (i.e., deductions, exemptions, and preferential rates that modify the outcome of the rate structure) primarily drive how market results are redistributed to impact the after-tax inequality. After-tax inequality has risen in the United States markedly since 1980, following a more egalitarian period following World War II.

After a quarter-century of declining inequality following World War II, income inequality increased in the late 1960s and accelerated after 1980. Inequality in wealth and income grew markedly between 1980 and 2009 in the United States.Hacker Jacob S., Pierson Paul. 2010. Winner-Take-All Politics: How Washington Made the Rich Richer and Turned Its Back on the Middle Class. New York: Simon & Schustser.Atkinson, A. B. (2015). Inequality: What can be done?. Harvard University Press.

Overview

Tax policy is the mechanism through which market results are redistributed, affecting after-tax inequality. The provisions of the United States Internal Revenue Code regarding income taxes and estate taxes have undergone significant changes under both Republican and Democratic administrations and Congresses since 1964. Since the Johnson Administration, the top marginal income tax rates have been reduced from 91% for the wealthiest Americans in 1963, to a low of 35% under George W Bush, rising recently to 39.6% (or in some cases 43.4%) in 2013 under the Obama Administration. In addition to the standard rate of 39.6% for individual income exceeding $400,000, there is a 3.8% surcharge on investment income over $200,000 as part of the Affordable Care Act Capital gains taxes have also decreased over the last several years, and have experienced a more punctuated evolution than income taxes as significant and frequent changes to these rates occurred from 1981 to 2011. Both estate and inheritance taxes have been steadily declining since the 1990s. Economic inequality in the United States has been steadily increasing since the 1980s as well and economists such as Paul Krugman, Joseph Stiglitz, and Peter Orszag, politicians like Barack Obama and Paul Ryan, and media entities have engaged in debates and accusations over the role of tax policy changes in perpetuating economic inequality.

Tax expenditures (i.e., deductions, exemptions, and preferential tax rates) represent a major driver of inequality, as the top 20% get roughly 50% of the benefit from them, with the top 1% getting 17% of the benefit. For example, a 2011 Congressional Research Service report stated, "Changes in capital gains and dividends were the largest contributor to the increase in the overall income inequality." CBO estimated tax expenditures would be $1.5 trillion in fiscal year 2017, approximately 8% GDP; for scale, the budget deficit historically has averaged around 3% GDP.

Scholarly and popular literature exists on this topic with numerous works on both sides of the debate. The work of Emmanuel Saez, for example, has concerned the role of American tax policy in aggregating wealth into the richest households in recent years while Thomas Sowell and Gary Becker maintain that education, globalization, and market forces are the root causes of income and overall economic inequality. The Revenue Act of 1964 and the "Bush Tax Cuts" coincide with the rising economic inequality in the United States both by socioeconomic class and race.Massey, Douglas S. "The New Geography of Inequality in Urban America." Race, Poverty, and Domestic Policy. New Haven: Yale UP, 2004. 173-87. PrintKenty-Drane, Jessica L. African Americans in the U.S. Economy by Thomas M. Shapiro. Lanham, Rowman and Littlefield, 2005. 175-81. PrintLubin, Gus. "Wealth And Inequality In America." Business Insider. 9 Apr. 2009. Web. 05 Oct. 2011Corcoran, Mary. "Mobility, Persistence, and the Consequences of Poverty for Children: Child and Adult Outcomes." Ed. Sheldon H. Danzinger and Robert H. Haveman. Understanding Poverty. New York: Russell Sage Foundation, 2001. 127-61. Print.

Changes in economic inequality

Income inequality

Economists and related experts have described America's growing income inequality as "deeply worrying",White House: Here's Why You Have To Care About Inequality Timothy Noah | tnr.com| January 13, 2012 unjust, a danger to democracy/social stability,Winner-Take-All Politics (book) by Jacob S. Hacker and Paul Pierson p. 75Oligarchy, American Style By PAUL KRUGMAN. 3 November 2011 and a sign of national decline."The Broken Contract", By George Packer, Foreign Affairs, November/December 2011 Yale professor Robert Shiller, who was among three Americans who won the Nobel prize for economics in 2013, said after receiving the award, "The most important problem that we are facing now today, I think, is rising inequality in the United States and elsewhere in the world."

Inequality in land and income ownership is negatively correlated with subsequent economic growth. A strong demand for redistribution may occur in societies where a large section of the population does not have access to the productive resources of the economy. Voters may internalize such issues. High unemployment rates have a significant negative effect when interacting with increases in inequality. Increasing inequality harms growth in countries with high levels of urbanization. High and persistent unemployment also has a negative effect on subsequent long-run economic growth. Unemployment may seriously harm growth because it is a waste of resources, generates redistributive pressures and distortions, depreciates existing human capital and deters its accumulation, drives people to poverty, results in liquidity constraints that limit labor mobility, and because it erodes individual self-esteem and promotes social dislocation, unrest and conflict. Policies to control unemployment and reduce its inequality-associated effects can strengthen long-run growth.

Gini coefficient

The Gini Coefficient, a statistical measurement of the inequality present in a nation's income distribution developed by Italian statistician and sociologist Corrado Gini, for the United States has increased over the last few decades. The closer the Gini Coefficient is to one, the closer its income distribution is to absolute inequality. In 2007, the United Nations approximated the United States' Gini Coefficient at 41% while the CIA Factbook placed the coefficient at 45%. The United States' Gini Coefficient was below 40% in 1964 and slightly declined through the 1970s. However, around 1981, the Gini Coefficient began to increase and rose steadily through the 2000s.

Wealth distribution

Wealth, in economic terms, is defined as the value of an individual's or household's total assets minus his or its total liabilities. The components of wealth include assets, both monetary and non-monetary, and income.Abel, Andrew B., Ben S. Bernanke, and Dean Croushore. Macroeconomics. 6th ed. New York: Pearson Education, 2008. Print. Wealth is accrued over time by savings and investment. Levels of savings and investment are determined by an individual's or a household's consumption, the market real interest rate, and income. Individuals and households with higher incomes are more capable of saving and investing because they can set aside more of their disposable income to it while still optimizing their consumption functions. It is more difficult for lower-income individuals and households to save and invest because they need to use a higher percentage of their income for fixed and variable costs thus leaving them with a more limited amount of disposable income to optimize their consumption. Accordingly, a natural wealth gap exists in any market as some workers earn higher wages and thus are able to divert more income towards savings and investment which build wealth.

The wealth gap in the United States is large and the large majority of net worth and financial wealth is concentrated in a relatively very small percentage of the population. Sociologist and University of California-Santa Cruz professor G. William Domhoff writes that "numerous studies show that the wealth distribution has been extremely concentrated throughout American history" and that "most Americans (high income or low income, female or male, young or old, Republican or Democrat) have no idea just how concentrated the wealth distribution actually is." In 2007, the top 1% of households owned 34.6% of all privately held wealth and the next 19% possessed 50.5% of all privately held wealth. Taken together, 20% of Americans controlled 85.1% of all privately held wealth in the country.Domhoff, G. William. Who Rules America?: Power, Politics, and Social Change. Boston: McGraw-Hill Higher Education, 2010. Print. In the same year, the top 1% of households also possessed 42.7% of all financial wealth and the top 19% owned 50.3% of all financial wealth in the country. Together, the top 20% of households owned 93% of the financial wealth in the United States. Financial wealth is defined as "net worth minus net equity in owner-occupied housing." In real money terms and not just percentage share of wealth, the wealth gap between the top 1% and other portions of the population is immense. The average wealth of households in the top 1% of the population was $13.977 million in 2009. This is fives times as large as the average household wealth for the next four percent (average household wealth of $2.7 million), fifteen times as large as the average household wealth for the next five percent (average household wealth of $908,000), and twenty-nine times the size of the average household wealth of the next ten percent of the population (average household wealth of $477,000) in the same year. Comparatively, the average household wealth of the lowest quintile was -$27,000 and the average household wealth of the second quintile (bottom 20-40th percentile of the population) was $5,000. The middle class, the middle quintile of the population, has an average household wealth level of $65,000.