Productive Inequality

This post is a continuation of the Oversimplification 2012 post-article.

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Is inequality necessary to provide people with incentive?  Does the fear of failure, foreclosure, unemployment, bankruptcy, or government welfare and food stamps make people impassioned to succeed?  Another way to ask this question is this way:  Is the fear of shame, by family, by society, by the status quo a necessary motivator in a free-market society?  No.  Histories of great civilizations promoting inequality are laden with economic and societal collapses that show otherwise.  Advocates of traditional free-enterprise, or capitalism, often argue that if a nation does not have total economic freedom and the correlated supporting government policies (small government), then that is a blatant step toward communism or socialism.  These arguments cloud and grossly oversimplify our current crisis and the causes.

The Power of an Illusion

Having much less inequality does not equate to socialism or communism.  On the contrary, less inequality (but not full equality) for the mid-term and long-term improves a nation’s gross domestic product (GDP).  When citizens have incentives based on real hopes and realized achievements due to accessible social educational tools, workforce opportunities, and economic mobility, a country’s GDP is more stable and more efficient.  Honestly, it is a simple sports concept:  a well-oiled, concerted team is stronger and more successful than a fragmented, polarized team of hyper-competitive individuals.  What makes this simple sports concept embarrassing, perhaps even deplorable, is when a team owner, or team captain claim and receive bonuses above and beyond the actual performance or decline – in some cases disaster – of the organization or team.  Yet in the 2008 financial plunge, CEOs and their élite echelon did just that while the expendable lower workers lost their jobs and homes.  Do not mistake this philosophy of the nation’s business élite as necessary incentive compensation schemes.  It is merely guaranteed high compensation for good performance or bad performance; a handout for the CEO title, not the performance of his firm.

Political economists tend to place the fault of America’s growing inequality on various market or policy-factors not aligned with their own party.  However, singling out one or two spokes in a failing wheel does not address the functionality or non-functionality of the remaining spokes, or the wheel as a whole.  Yes, changes in computer technology created a change in skill-biased technology.  Yes, the weakening of labor unions and less-scrutinized executive pay has contributed.  The role of financialization in a global economy has contributed.  Joseph Stiglitz, author of The Price of Inequality and Nobel Prize winner in economics feels, however, this tunnel-vision is missing the bigger picture.  He states that if any of these factors were central:

“…we don’t have to sit idly by and accept the consequences.  Greed may be an inherent part of human nature, but that doesn’t mean there is nothing we can do to temper the consequences of unscrupulous bankers who would exploit the poor [and uneducated] and engage in anti-competitive practices.  We can and should regulate banks, forbid predatory lending, make them accountable for their fraudulent practices, and punish them for abuses of monopoly power.”

Stiglitz goes on to elaborate several other contributive forces and how to “temper” or punish abuses, but he later notes that growth in America’s financial sector as a spoke, or portion of the total U.S. income, has clearly added to increased inequality, i.e. “to both the wealth created at the top and the poverty at the bottom.”  As I will point out below, the movement and growth of inequality and increased disparity was no accident; financial executives knew beforehand what was likely to occur.

The exceptional 2011 film “Margin Call” which portrays the beginning hours of the 2008 crisis.

Is wealth always the reward of hard work and resilience?  Is wealth always determined by an individual’s time-invested:  70-hour, 80-hour work weeks, or 7-days a week, 50 weeks of the year?  Of course not!  If this were true, then we could conclude that wealthy drug-cartels are wonderful “hard workers”.  Yet, this is a logic still promoted and distorted by age-old political campaigns.  In the kindergarten and elementary classrooms, these tales of rags-to-riches by hard persistent work ring true, but in the arena of highly intelligent, misguided or non-violent orators of political-business eloquence, it requires an equal amount of sleuth by 70% of a disadvantaged common population.

Less Inequality Equals Less Volatility

No matter what the various causes of our economic crisis, all of them must be addressed.  Stiglitz references another accomplished economist, James K. Galbraith, professor from the University of Texas at Austin.  Galbraith goes into detail about why instability is directly and closely linked with high inequality, particularly in global financialization.  The U.S. economy is naturally a major component in the world market, and it follows then that U.S. economic policy-makers are also major components.  After researching and compiling some 50-years of data, both European and U.S. economic data, his striking discovery shows that in economies that are more egalitarian have markedly lower unemployment and hence lower inequality.  But I must allow Mr. Galbraith to explain his discovery in his own words.  Below is his four-part interview series discussing his book, Inequality and Instability, which precisely explains why the United States must become more egalitarian to avoid future civil collapse and revolt.

Why does any of this matter?  Of what importance or impact will this analysis have on my life and my family?  That answer is simple:  association.  You are associated with this life, with this planet, with your countrymen, with your parents and with your offspring.  And you have a choice to make that association better than when you found it or became part of it, or you have the choice to ignore it or oppose it.  Either way, you are associated.  The question then becomes what part, what role are you going to play?

Philosophical questions aside, the more related question here to this 3-part blog/post is Are you interested in perpetual wealth-accumulation for yourself, or are you interested in making this world and those around you a happier place?  One outlook is egocentric, the other is altruistic.

The Fallacy of “Productive Inequality”

As I alluded to in my previous two paragraphs, everything is connected or associated.  One person’s words and actions will affect or be felt by those around them.  The interactions within a family will affect families next door, or coworkers, or fellow schoolmates.  Naturally, this explains why the Department of Health & Human Services quarantines major viral infections:  to decrease the outbreak.  The point being here is that inequality (moral or economic) leads to instability, and instability leads to unemployment, and unemployment leads to weak local and national output, which in turn leads to weak demand or stagnation, which leads to recession…and that ironically, over the long-term increases the risks on the wealth the egocentrics accumulated.  However, it is not enough for me to spout-off personal opinions, substantiated or not by history, facts, or reliable sources.  I must show that I have done the homework, or at least a large part of the homework.  Thus, let me again turn to Nobel Prize winner, Joseph Stiglitz.

Beyond the costs of the instability to which it gives rise, there are several other reasons why high inequality – the kind that now characterizes the United States – makes for a less efficient and productive economy.  We discuss in turn (a) the reduction in broadly beneficial public investment and support for public education, (b) massive distortions in the economy (especially associated with rent seeking), in law, and in regulations, and (c) effects on workers’ morale and on the [problematic myth] of “keeping up with the Joneses” [or a consumer-driven society].

Let’s look more closely at the three reasons Stiglitz puts forth.

Declining Public Investment and Support for Public Education

We all know that an automobile will not run without fuel.  We know that without the apple there is no applesauce.  Without the photon particle, there are no vibrant visible colors.  A basic principle in economics 101 is that the private-sector cannot be successful without an efficient active public-sector, and vice-versa.  However, these two sectors cannot fully function by themselves or necessarily in conjunction.  There needs to be rules-of-the-game established to keep the markets and sectors playing fairly.  This is where government is vital.  It makes sure that the infrastructure stays fair and healthy.

A flourishing industrialized nation requires public investment:  roads, scientific research, civil services such as ambulances and ER services, police and prisons, firehouses staffed with firemen, seaports, airports, and basic quality education.  These are just a few of the investments needed for a modernized society to remain peaceful and progressive.  Leaving these public-sectors to the whims of the “free-markets” or a private investor will and has led to declining investment.  The consequences of public under-investment are a heightened risk and paranoia on the part of the private-sector, as I alluded to earlier.  A neutral entity, the government, must be actively involved to keep the playing-field, the economy fair and efficient.  There has to be a healthy stable balance between BOTH sectors.  Otherwise, the common workers (the 70% population) have less incentive, perhaps no incentive to patriotically work for the whole, much less the upper percentile.

During the periods of good sufficient public investment, the United States as well as the world reaped the benefits of government-sponsored research, health, and education!  Some examples in research during the 20th century:  information technology, internet, and biotechnology.  In health:  immunizations, declines in heart disease, safer healthier foods, cleaner drinking water, public waste, motor-vehicle safety, family planning, healthier child-bearing and hence lower infant mortality rates, and infectious disease control.  In education, these fields mentioned could not have been possible without good-to-great public investment.  Yet, at the current rate of public investment these great innovations are becoming fewer and far between.  Stiglitz warns:

Our failure to make these critical public investments should not come as a surprise.  It is the end result of a lopsided wealth distribution in society.  The more divided a society becomes in terms of wealth, the more reluctant the wealthy are to spend money on common needs.  The rich don’t need to rely on government for parks or education or medical care or personal security.  They can buy all these things for themselves.  In the process, they become more distant from ordinary people [ala Syrian President al-Assad or French Queen Marie Antoinette].

The wealthy also worry about a strong government – one that could use its power to adjust the imbalances in our society by taking some of their wealth and devoting it to public investments that would contribute to the common good or that would help those at the bottom [or their perceived competitors/threats?]While the wealthiest Americans may complain about the kind of government we have in America, in truth many like it just fine:  too gridlocked to redistribute, too divided to do anything but lower taxes.

Public education, it’s funding and performance is one of the hottest most controversial issues in modern America.  Although our nation’s educational system has evolved well since 1870, there is no silver-bullet policy or program – nor has there been a policy-program – that can get perfect results.  Perfect, or near perfect results happen on an individual and family unit basis.  The rhetoric of school reform frequently overlooks the impact of individual, family, business owners, and educators on determining educational results.  If an adolescent chooses to play Xbox instead of doing homework or studying, no amount of educational reform or opportunity will meet the desired results – and sadly, parents let their/our future-citizens do this.  Quality education requires personal and family initiative, a characteristic that is infamously difficult to create or impose.

Where individual or family initiative is not the problem, however, lays the construction area of public investment.  Ignoring this resource has grave mid and long-term social and economic consequences.  “When we diminish equality of opportunity,” writes Stiglitz, “we are not using one of our most valuable assets – our people – in the most productive way possible.”  In the earlier blog-post, The Land of Opportunity?, I conveyed how bleak higher-education and wage-mobility existed in America for children of impoverished and middle-income parents.  The cost of college tuition is rising faster than median incomes.  This begs the question, are student loans the golden-brick road to opulence?  No.  Once again, the financial sector is wrought with oppressive interest rates and perverse incentives.  And from this money-trap comes a slew of further unregulated abuses.

In 1976, and again in 1984, lawmakers in Congress made it increasingly harder for college graduates to discharge student loans in bankruptcy.  This had the adverse affect of lenders executing no responsibility to decide whether the educational institutions would provide a degree that would truly enhance their future income.  Still later in 2005 with the Bankruptcy Abuse Prevention and Consumer Protection Act, Congress made it near impossible to discharge any student loan – federal or private – unless the borrower was able to prove in court (more money expended) a severe health or work disability.  This made student loan discharges the same debt as criminal fines or child support fines.  These acts were all lobbied through by the financial sector.  During these four decades the for-profit college and universities, with wealthy executives and endowments, blocked all attempts to regulate and hold accountable these same institutions to extensive countermeasures upon exploitative recruiting of students from low-educated poor families, thus making them ineligible for loans.

There is another after-shock of decreasing public education support and declining wage-mobility.  Imagine yourself inside one of these low-income, low-educated homes just described.  You naturally want your children to attend quality schools in order to have a reasonable chance, or better, to gain admission into a quality university, which in turn increases their chances of becoming a well paid worker or business owner.  But to better these chances both parents must work more to make ends meet.  As a result, the family spends less time together.  Now you are unable to supervise this student or other children in their studies.  These families must make difficult compromises, and often those compromises lead to social misconduct or crimes.

Distortions of the Economy

Many of our childhood games teach a basic concept:  he who gains the most resources at their disposal has the best chances of winning.  As we mature in life we realize that unlike the start of these childhood games, where all players begin on a level-playing field, this concept doesn’t reflect real-life circumstances.  This series of blogs expands on this social reality.  Our reality is very well documented throughout a plethora of historical civilizations during several centuries.  And though our American heritage states “that all men are created equal….” even this famous document was written when slavery and slave-rights in America spoke otherwise.  Equality, though the ideal, is most often created.  In political marketing – also known as lobbying – it is no different.  Gift-wrapped equality does not fall from the sky.  It must be created and guarded.

OpenSecrets.org is a Washington D.C. research group which traces funds in federal politics and its correlation and effects on government policies and elections.  Corporations, labor unions, and various organizations spend billions to lobby Congress and federal agencies.  Since 2008 over $3.3 billion dollars have been spent compared to $1.44 billion in 1998; an average $1.66 million increase every year.  And there have been no less than 10,408 lobbyists over this 14-year span; topping out so far at 14,849 in 2007.  What industries or sectors are spending the most in lobbying?  From first to sixth over the last 14 years, pharmaceuticals/health-products was the biggest spender (13 of the 14 years), followed by insurance, electric utilities, business associations, computers/internet, and oil-gas respectively.  Reflecting on these spent resources, Stiglitz writes, “The main distortion to our political system [and consequently our inequality]; the main loser, our democracy.

What happened to our economy was not unforeseen, uncontrollable market forces.  This recession/depression was created.  In order to better understand how it was created, an important business-tactic must first be explained:  rent-seeking.

Investopedia.com is an internet-based group of writers from various economic and investment fields.  Their website defines rent-seeking as such:

“When a company, organization or individual uses their resources to obtain an economic gain from others without reciprocating any benefits back to society through wealth creation.  An example of rent-seeking is when a company lobbies the government for loan subsidies, grants or tariff protections.  These activities don’t create any benefit for society, they just redistribute resources from the taxpayers to the special-interest group.”

Rent seeking distorts our real economy in several different ways.  Executives and corporations who have learned well to rent seek, reap magnificent financial reward.  The accolades and bonuses that they receive may be enormous, however this does not necessarily reflect the social contributions from these rewards; they may not even be beneficial.  The distortions come in a variety of sectors in our economy:  post-undergraduate talent, public services, technology and telecommunications, business finance, and one of the most subtle and maligned of distortions, the environment and its resource depletion to name just six.

Prior to the 2008 crisis the nation’s college graduates sought employment in many professions; such as, research and development, medicine, public services such as government, firemen or law enforcement, or teaching future generations in schools and universities.  However, at the same time an increasing amount of bright graduates were recruited into business finance and investments.  Released in February 2000, during the peak of the tech-boom, the U.S. Bureau of Labor & Statistics’ Occupational Outlook Handbook and Career Guide to Industries (USBLS) showed the five fastest growing occupations being projected from 1998 through 2008 were computer engineers (the most), then computer support specialists, systems analysts, database administrators, and desktop publishing specialists respectively.  Financing and investments were ranked 20th.  Business executives did not make the projection-list.  The same report released in February 2004 showed the 21 of the 30 fastest growing occupations to be again in the computer-related fields but also in health-related fields.  Yet, about this time the USBLS began reporting employment change by salary, i.e. movement in labor by salaries.  In that 2004 report the professional management, business and financial services (including banking) projections were among the best and rising.  The same reports released in December 2007 showed significant increases and rises in employment change by salaries projected in the business-financial services with the most in management at almost a 78% change, the highest of all.

Rent seeking is also prevalent in both the health care sector and the telecommunications sector.  There is a pill for every imaginable ailment in existence.  Pharmaceutical companies now spend enormous amounts of money on marketing to doctors to prescribe their pills and patients to consume them that research, by comparison, has become one of their smallest business expenses.  The majorities of their “research” are spent in generic forms of their brand drugs with minor differences, but nonetheless divide the profits of their rival labs of the same successful drug.  This rent seeking takes away huge amounts of salaries for real research, real investments, and real productivity and places it in the pockets of executives and shareholders.  One quick example of rent seeking in telecommunications would be how “quickly” 10-month old, 1-year or 2-year old cell phones are simply outdated and can no longer function properly with “changing technology or services”.  Therefore, the provider can “only offer a new and improved” phone or package, generally more per month with a new complex contract.  The micro-processing company Intel has done this since at least Windows 3.1 was popular; a once industry-leading Microsoft product.

As mentioned before, rent seeking practices come in more subtle forms such as in environmental deterioration and depletion.  Using the economic successes and profits of our nation’s environmental resources to pad the GDP (Gross Domestic Product) numbers does not reflect the costs to the environment over the long-term.  Oil, water, natural gas, coal, and so on is not sustainable growth.  There is most certainly a diminished wealth of the nation’s resources.  Yet, as of today there is no metric indicator of this cost.  Why?  The oil, coal, or energy firms lobby and fight hard to block government reports, indicators, indices and green accounts because they would be invoiced for extracting a non-renewable resource from our country’s resources; a cost that would cut their excessive profits.  But by not charging the oil, coal, and gas companies a non-sustainability charge, the American government (and average citizen) are giving the corporations an indirect subsidy, favorable tax treatment, and a valuable product well below fair-market prices!  Therefore, one primary aim of rent seeking people and companies are to shape laws and government regulations to their own bottom-line.  Once again, this distorts the true health of the economy.

Worker-morale and the Ever-Elusive Joneses

In order for a worker to labor most efficiently and most loyally, they must believe they are achieving a comfortable future.  This means they must feel they are being treated fairly by their employer.  Certainly one would agree that an unmotivated, under-nourished worker is less productive.  Education experts and scientists have long known that hunger and inadequate nutrition hinder learning.  These were the clear theories of the late 19th and early 20th centuries.  But today, the efficiency of worker morale is more complex.

When the general population experiences anxiety over such worries as losing their home, or “Can I provide my children with a quality education to enable them a prosperous life?”, or “Can I survive beyond retirement age?” these questions reduce workplace efficiency.  But not only does the psychology reduce workplace efficiency, it also impairs the impoverished to analyze properly the choices that might improve their situation.  As the cliché goes, they are living from hand-to-mouth, firmly in the here-and-now.  When one lives in this type of daily stress, it can and often does lead to desperate and irrational decisions.  Harvard economist Sendhil Mullainathan and psychologist Eldar Shafir thoroughly explain this behavioral thinking:

Naturally, this expenditure of physical and cognitive energy by poor or middle-class workers will also hinder the achievement of new improved skills and knowledge.  If this condition persists throughout a nation, productivity will grow slower, and hence the long-term growth of the economy is unstable as well as unsustainable.  And too often over the last decade or so, if a corporation was performing unsatisfactorily, even near bankruptcy, the common worker, not the high-level executives/owners, bore the punishment of lay-off, pay-cuts, or termination.

Joseph E. Stiglitz describes more poignantly the importance of labor fairness in recent economic experiments:

“Or take another [experiment], involving a group of workers performing a similar job.  One might have expected that increasing the wages of some and lowering that of others would increase productivity of the higher-wage worker, and lower that of the lower-wage workers in offsetting ways.  But economic theory – confirmed by the experiments – holds that the decrease in productivity of the low-wage worker is greater than the increase in productivity of the high-wage worker, so total productivity diminishes.”

Yet is this experimental result all that surprising?  When the greater good for the greatest number is continuously ignored or discriminated against in unfair free-market practices and deregulation, the final result is economic recession or collapse.

There is also deeper psychology involved with rent seeking practices within societal inequality that may not be clearly understood.  When we were all young children, there was always some hero or heroes we aspired to be.  When I was a youth and on into my teenage years, I was utterly fascinated and enthralled by the fighter pilots of World War II and their magnificent planes.  To this day, I still have a very high regard for those daring men constantly putting their lives in harm’s way to preserve basic human rights around the globe, often for less fortunate people they had never met, nor would they meet.

In today’s American economic policy and politics, many tax-paying citizens aspire to the upper middle-class, or even the top 10% or 20% financially and their standard of living.  We have seen so far in this article and my previous articles (Oversimplification 2012 and The Land of Opportunity?) how much inequality affects a nation’s economy and efficiency.  Though the popular Trickle-down economic philosophy of many conservative élite is a fanciful fabrication and illusion, trickle-down psychology is tremendously real.  The bottom percentile in our society know and accept that dreams of opulence in the top percentile are fantasies.  However, those in the lower middle, center, and upper middle have serious hopes of attaining the American Success Dream; into the top 20%, 10%, or 1%.  These dreams are sometimes referred to as keeping up with the Joneses.

There is a perfectly good explanation as to why on a scale of global comparison, the United States is one of the busiest and hardest working societies on the planet:  consumerism.  And to keep up appearances with those around us in our communities, many Americans must live beyond their means.

The April 2012 edition of the World Economic Outlook Database published by the International Monetary Fund (IMF) reported the Top 10 industrialized, or advanced economies of the world.  Of course, the U.S. was a member.  However, this listing does not show all industrialized-advance economies in the world which provides a more balanced point-of-view.  There are 35 nations classified as advanced economies.   The United States ranks in the top four in most databases.  According to the Business InsiderApril 13, 2011 and the OECD (the Organization for Economic Cooperation & Development), the U.S. ranks 9th out of 35 nations as the hardest working nation in the world.  With that said, Stiglitz offers refinements as to the differences between America’s work rate and the rest of the world:

“Many years ago Keynes [i.e. John Maynard Keynes] posed a question.  For thousands of years, most people had to spend most of their time working just to survive – for food, clothing, and shelter.  Then, beginning with the Industrial Revolution, unprecedented increases in productivity meant that more and more individuals could be freed from the chains of subsistence living.  For increasingly large portions of the population, only a small fraction of their time was required to provide for the necessities of life.  The question was, How would people spend the productivity divided?

The answer was not obvious.  They could decide to enjoy more and more leisure, or they could decide to enjoy more and more goods.  Economic theory provides no clear prediction, though one might have assumed that reasonable people would have decided to enjoy both more goods and more leisure.  That is what happened in Europe.  But America took a different turn – less leisure (per household, as women joined the labor force) and more and more goods.

America’s high inequality – and individuals’ sensitivity to others’ consumption – may provide an explanation.  It may be that we are working more to maintain our consumption relative to others, and that this is a rat race, which is individually rational but futile in terms of the goal that it sets for itself.  Adam Smith pointed out that possibility 250 years ago:  “this general scramble for preeminence, when some get up, others must necessarily fall undermost.”  [A mentality abundantly demonstrated in our American professional sports:  victory at all costs, while heads roll soon after failure; screams of “clean house!” prevail]  While there is no “right” answer to Keynes’s question according to standard economic theory, there is something disturbing about America’s answer.  Individuals say they are working so hard for the family, but as they work so hard there is less and less time for the family, and family life deteriorates.  Somehow, the means prove inconsistent with the stated end.”

Joseph Stiglitz, John M. Keynes, Adam Smith, and other economists point out an implicit warning.  The U.S. population makes up between 3.8% and 4.5% of the world’s total population.  Yet, as such a small percentage of the world, Americans consume the most electricity, the most corn, much of the coal (2nd to China), the most natural gas, fourth in wheat consumption, an inordinate amount of oil by comparison – leading in the depletion of energy resources.  Not only is there no denying that the U.S. is an economy firmly driven in consumerism, we take the cake and the party too, yet make up a mere 4% of the world population.  This is an ASTONISHING fact!  That Americans are an Earth-devouring people might be an understatement.

We have touched on various causes of our country’s growing inequality and how distortions of our economic health has made it worse, and how declining public investment will further the problem, and how our illustrious free-market economy was supposed to be envied by the world…has become an illusion that is rearing its ugly head.  In my next post/article on this subject:  Unveiling Incentive-Opportunity Fallacies, it needs to be shown that the direction our social and economic state is headed, is eerily reminiscent of the decline and fall of Rome.  As the gap between socio-economic classes widen, and proclaimed “opportunities” and “incentives” of the Right turn into a thin smoke, just like the upper Roman classes and the bottom Roman percentile polarized (e.g. the Occupy Wall Street movement) America will see its democracy crumble unless some well-proven social, political, economic regulations, and more progressive-taxation packages are implemented or revamped.

I hope that the 2012 November elections – and later elections – are seen this way by the 70% – 90% of Americans.  Otherwise, there could very well be another second falling of “Rome” in North America.

For an excellent overview of America’s inequality and severe polarization, watch the documentary Patriocracy by Brian Malone.  It is an accurate portrayal of how today’s American generation is no longer the greatest generation who adapted, compromised, and labored generally as United, but instead has become the greediest, egocentric generation rendering our government dysfunctional and society hyper-polarized.

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