Equity, Diversity and Inclusion

This is how inequality could be hurting the US economy

A homeless man sleeps on a park bench in Logan Square on the Benjamin Franklin Parkway in Philadelphia, Pennsylvania, September 23, 2015. Benjamin Franklin Parkway, a stretch of cultural centers and grassy parks where homeless sleep and tote their belongings in plastic bags, is undergoing papal security checks and cleanup that will displace some of the downtrodden that Francis champions. Philadelphia, a city of 1.5 million people, counts about 5,500 people living on the streets or other unsheltered areas, but that number does not include those in some of the city's poorest areas, homeless services group Project HOME said. The parkway, which will host two events attended by Francis, has been designated a top U.S. Secret Service security zone for the visit. Picture taken September 23, 2015.   REUTERS/Mark Makela

Inequality in the U.S. could have prolonged the Great Recession. Image: REUTERS/Mark Makela

Pedro Nicolaci da Costa
Editorial Fellow, Peterson Institute for International Economics
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US inequality has become so extreme that hyperbolic headlines about how much wealth is in the hands of a few families in this country have ceased to shock.

But economists are increasingly worried that inequality is not just hurting the poor but also dampening the overall economy's growth potential.

Three researchers at the Federal Reserve Bank of Chicago reviewed the recent literature on the issue to examine whether "the changing distribution of wealth intensified and lengthened the effects" of the Great Recession of 2007-2009

"It is important to ask whether the widening gap between the rich and poor has any direct effects on macroeconomic aggregates and, in particular, on the severity of the Great Recession, when output and consumption dropped precipitously and were slow to recover," write Gene Amromin, Mariacristina De Nardi and Karl Schulze wrote in a Chicago Fed Economic Letter.

US inequality has gotten so bad in recent years that researchers have been forced to drill down into the gap between the top and bottom of the richest 1%. The most influential research has come from economists Thomas Piketty, Emmanuel Saez, and Gabriel Zucman.

Piketty and Saez find the income share of the top 1% of Americans rose from roughly 15% to 22%. The income share of the top 0.1 percent rose from 6% to 11%, while the income share of the top 0.01 percent rose from 2.5% to about 5%.

After-tax income nearly tripled for the top 1% between 1980 and 2014; it almost quadrupled for the top 0.1%. And posttax income for the 0.01 percent surged 423%.

In contrast, after-tax income for the entire US population rose 61%.

The Chicago Fed authors argue that high inequality, unmatched in other developed nations, reinforces "the importance of thinking about borrowing constraints and marginal propensities to consume in richer frameworks in which the constraints are not simply synonymous with holding little in the way of net worth."

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In practice, this means strong overall economic growth can mask substantial pockets of weakness and vulnerability among lower-income consumers.

"The models also stress the consequences that unequal access to financial liquidity can have on consumption dynamics during an economic downturn," they write.

"As we show, various measures of household constraints have permanently increased in the wake of the Great Recession, raising the need for caution in thinking about an economy's response to aggregate shocks."

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Equity, Diversity and InclusionEconomic Growth
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