Jacob: Welcome to Crash Course Economics. I'm Jacob Clifford.
Adriene: And I'm Adriene Hill. The world is full of inequality. There's racial inequality, gender inequality, health, education, political inequality, and of course, economic inequality. Some people are rich, and some people are poor, making it seem pretty impossible to fix.
Jacob: Well, maybe not. There are two main types of economic inequality: wealth inequality and income inequality. Wealth is accumulated assets minus liabilities. It includes the value of things like savings, pensions, real estate, and stocks. When we talk about wealth inequality, we’re essentially discussing how assets are distributed. Income, on the other hand, refers to the new earnings that are continually added to that wealth. So when we talk about income inequality, we’re focusing on how that new income is distributed. Point is, they’re not the same.
Let’s go to the Thought Bubble.
Adriene: Let's examine both types of inequality at the global level. Global wealth today is estimated at about $260 trillion and is not distributed equally. One study shows that North America and Europe, while having less than 20% of the world’s population, possess 67% of the world's wealth. China, which has more people than North America and Europe combined, only has about 8% of that wealth. India and Africa together account for almost 30% of the population but share only about 2% of the world's wealth. Since we're teaching economics, let’s focus on income inequality.
These ten people represent everyone on the planet, lined up according to income—from the poorest over here to the richest over here. The first group represents the poorest 20%, the second poorest 20%, the middle 20%, and so on. If we distributed $100 based on current income trends, this group would get about $83 of that money, the next richest would get $10, the middle would get $4, and the second poorest group would receive $2, while the poorest 20% would get just $1.
Branko Milanovic, an economist specializing in inequality, describes this as an "economic big bang": "At first, countries' incomes were all bunched together, but with the Industrial Revolution, the differences exploded. It pushed some countries onto the path to higher incomes while others stayed where they had been for millennia." According to Milanovic, in 1820, the richest countries in the world—Great Britain and the Netherlands—were only three times richer than the poorest, like India and China. Today, the gap between the richest and poorest nations is roughly 100:1. The gaps are getting bigger and bigger.
Thanks, Thought Bubble. The Industrial Revolution created a lot of inequality between countries, but today, globalization and international trade are accelerating it. Most economists agree that globalization has helped the world's poorest people, but it has also benefited the rich far more. Harvard economist Richard Freeman observed, "The triumph of globalization and market capitalism has improved living standards for billions while concentrating wealth among the few." So, it’s a mixed bag. The very poor are doing a little better, but the very rich are now much richer than everyone else.
There are other reasons why inequality is growing. Economists point to something called "skill-biased technological change." The jobs created in modernized economies are more technology-based, generally requiring new skills. Workers with the education and skills to do those jobs thrive, while others are left behind. In a way, technology has become a complement for skilled workers but a replacement for many unskilled workers. The end result is an ever-widening gap between not just the poor and the rich but also the poor and the working class. As economies develop and manufacturing jobs move overseas, only low-skill, low-pay and high-skill, high-pay work remain. People with few skills fall behind in terms of income.
In the last thirty years in the U.S., the number of college-educated people living in poverty has doubled from 3% to 6%, which is alarming. Meanwhile, during the same period, the number of people with a high school diploma living in poverty has risen from 6% to a staggering 22%. Over the last fifty years, the salaries of college graduates have continued to grow, while, after adjusting for inflation, high school graduates' incomes have actually dropped. This is a compelling reason to stay in school!
There are other factors contributing to the widening income gap: the reduced influence of unions, tax policies favoring the wealthy, and the acceptance of CEOs earning salaries many times greater than those of their employees. Additionally, race, gender, and other forms of inequality exacerbate income equality.
Jacob: Let’s dive into the data for the United States. We'll start by mentioning Max Lorenz, who created a graph to illustrate income inequality. Along the bottom, we have the percent of households from 0-100%, and along the side, we have the percent share of income. By the way, we’re using households rather than just individuals, since many households have two income earners. This straight line represents perfect income equality, where every household earns the same income. While perfect income equality might look nice on the surface, it's not really the goal. When different jobs have different incomes, people have an incentive to become a doctor, entrepreneur, or YouTube star—the jobs society really values.
This graph, called the Lorenz curve, helps visualize the depth of inequality. In 2010, the U.S. Census Bureau found that the poorest 20% of Americans made 3.3% of the income, while the richest 20% made over 50%. So that's pretty unequal, but has it always been like this? In 1970, the bottom group earned 4.1% of the income, and the top earned 43.3%. By 1990, the inequality increased, so the 2010 numbers are just a continuation of that trend. It isn’t just the poorest group that's losing ground; over those 40 years, each of the bottom 80% of households earned smaller shares of the total income.
Now, from the Lorenz curve, we can calculate the most commonly used measure of income inequality—the Gini Index. Without diving too deep into the math, it's basically the size of the gap between an equal distribution of income and the actual distribution. Zero represents complete equality, while 100 represents complete inequality. You might be surprised to learn that the U.S. doesn’t have the highest income inequality, but it does have the highest among Western industrialized nations. The UK has the highest in the EU.
Adriene: The debate over income inequality isn't about whether it exists; it obviously does. The fight is over whether it's a problem and what should be done about it. Let's start with those who don’t think it’s a significant issue. They argue that while data suggests the rich are getting richer and the poor are getting poorer, this may not be accurate. It could be that all groups are making more money but that the rich's share is simply growing faster.
For example, let’s say you own an apple tree, and we pick 10 apples. You keep 6 and give me 4. A week later, we pick 20 apples; you take 15 and give me 5. My share of the total went down from 40% to 25%, but each of us still got more apples. It’s true that people in the lowest income bracket have earned a little more money in the last 40 years, but in the last 20 years, that average income has been falling. Meanwhile, the rich have continually gotten richer.
So, what does the richest person on earth have to say about this? Bill Gates stated, “Yes, some level of inequality is built into capitalism. It’s inherent to the system. The question is, what level of inequality is acceptable? And when does inequality start doing more harm than good?" There is a growing group of economists who believe that today’s income inequality in the U.S. is doing more harm than good. They argue that greater income inequality is associated with numerous problems, citing studies that show countries with more inequality also have higher rates of violence, drug abuse, and incarceration.
Income inequality also dilutes political equality because the rich have a disproportionate say in which policies get enacted, and they have an incentive to promote policies that benefit them. So, how do we address this inequality? There’s not much consensus on this. Some argue that education is the key to closing the gap. Basically, workers with more and better education tend to have the skills that justify higher incomes. Some economists advocate for an increased minimum wage, which we will discuss in another episode. Additionally, arguments exist that access to affordable, high-quality childcare would greatly help.
Some believe governments should do more to provide social safety nets, focus on increasing employment, and adjust the tax code to redistribute income.
Jacob: Some economists call for the government to increase income and capital gains taxes on the wealthy. In the U.S., income taxes are already somewhat progressive, which means there are tax brackets that require the rich to pay a higher percentage of their income. Currently, the tax rate peaks around 40%, but some economists propose increases to 50% or 60%. One idea is to close loopholes that the wealthy use to avoid paying taxes. Other economists argue that taxing the rich may not be as effective as reducing regulation and bureaucratic red tape.
It's unclear which path we will take, but extreme income inequality at both the national and global levels needs to be addressed. The motivation for improving income inequality may stem from a genuine desire to help people and level the playing field or from a fear of potential social upheaval. Either way, this issue cannot be ignored.
Adriene: Even Adam Smith, the most classical of classical economists, stated, “No society can surely be flourishing and happy if the far greater part of its members are poor and miserable.”
Thanks for watching. We'll see you next week.