Richard Epstein on Income Inequality

Income and wealth inequality is a hot topic in political and economic conversations today. Just recently Thomas Piketty, an economist at the Paris School of Economics, came out with a book, Capital in the Twenty-First Centurywhich has as its main thesis that capitalism as an economic system naturally tends toward extreme income inequality, that, if not checked, will result is catastrophic social consequences. He proposes a world-wide global progressive tax that would levy higher taxes on the rich in order to subsidize the poor. The belief that income inequality is a major problem in society is ubiquitous and ever-increasing. However, classical and neoclassical economists have been pointing out for decades that such belief is ill-founded and misleading. I believe that Piketty, and those along with him (like Paul Krugman and President Obama), who continually trump up charges against the wealthy on the basis of income inequality are wrong in their views. And part of the reason I think this is due to the work of Richard Epstein (among many others). Epstein is one of the foremost thinkers in law and politics today. He is currently the Lawrence A. Tisch Professor of Law at the New York University School of Law and he regularly appears and writes for the Cato Institute and the Hoover Institution. In the two videos below Epstein explains why the fears about income inequality are unfounded. Let me give my own thoughts before showing the videos.

It’s important to realize that income inequality is not a bad thing in an economy, but really a sign of economic and social health. Let me explain why.

  • First, it is a natural outcome of human differences: education, experience, skills, hours worked, job type, proficiency, productivity, responsibility, etc. To think that everyone who works and receives pay for their productivity would receive the same amount is absurd. The burden falls upon those who expect income equality to explain why this should be the natural state of humans in a diverse market economy where one is free to pursue their own eduction, develop their skill sets, work as little or as much as they want, and innovate and create according to their passions. But what about the 1% you say? They certainly don’t deserve that much money (millions, billions), right? My response to this objection is that if those who are paid millions have not received their pay by illegal means, then there is nothing wrong with it. Do you know how much a CEO of an oil company or financial institution should make? Do you know the amount of responsibility they have, the capital, investments, profit and loss, and success or failure of their shareholders rests upon their business decisions and leadership? If you don’t think this is a big deal, you’ve obviously have not met a Bear Stearns shareholder who lost everything when they failed during the 2008 financial crash. Many people feel offended by someone making millions of dollars a year, but they have no idea as to why such individuals are paid this much to begin with. In addition, their outrage is usually the result of the false assumption of a fixed-pie, zero-sum economy in which wealth is static so that those who take more leave less for the rest of us (see point five below). If you are not willing to understand the economics of wages, incomes, wealth, incentives, and responsibilities, then I would suggest not speaking out on it since you will more likely be speaking from ignorance.
  • Second, wages, which determine income, are driven by supply and demand within the economy, meaning they can’t just be arbitrarily set to whatever one wants without adverse side effects. Many people ignore the law of supply and demand and in doing so wreak havoc and negative consequences in society. If there is a large demand for a highly skilled and qualified individual to oversee a large company with multiple assets and products, but few of these people are available, then these jobs will be advertised at a higher income pay than if supply was greater or demand weaker. Part of this has to do with competition between similar jobs. A company looking for such a person might like to hire and pay the person a lower income than that job is going for on the market; but if they were to do this, they would never be able to hire someone (or they’d hire an unqualified person) because similar jobs would be paying much more and would attract these individuals. The fact that wages and income are not arbitrary, that they can’t be changed at the drop of a hat, and they aren’t being overseen by some evil group of CEOs and/or politicians means that we should not be overly concerned about who is being paid what. Incomes are organically determined by the market and are intrinsically fair and just unless foul play is involved. Unfortunately, most American simply assume that foul play is going on with the wealthiest 1-5% of Americans; however, the burden of proof lies upon them to show that this is the case.
  • Third, income at a given time is not indicative of income mobility as real people move between income brackets throughout their lives (including the top brackets). This phenomenon has been noted dozen of times over. Far more important than a single data point taken at a snapshot point in time comparing incomes across brackets is the mobility of flesh and blood people (not just “households”) between income brackets. The majority of people who start out at or slightly above the poverty line will move out of that bracket and into middle or upper income levels by the end of their lifetime. In addition, a sizable minority of people (20-30%) who are in the top 5-10% income bracket move down into a lower income bracket at some point in their life. The point is that the “rich” is not composed of a static group of people; nor are the “poor.” These groups are composed of different people each year. The mobility of people between income brackets indicates income opportunity, which is far more important than what an individual makes in any given year.
  • Fourth, income inequality acts as an incentive for those who are lower in the income brackets and gives them hope and opportunity of upward mobility. This is not hard to understand. Unfortunately, few people realize that incentives – both positive and negative – are an incredibly important factor in an economy in determining people’s behavior and choices. (The failure to account for incentives was a major reason the socialist economy of the Soviet Union failed miserably). If we systematically marginally tax the wealthy 50%, 60%, 70% or more of their annual income, this disincentivizes those who could create wealth within a society from doing so, which leads to less production of goods and services (think: Steve Jobs and the wealth, goods, services, and jobs he created through Apple). This has a direct negative impact on the regular citizen who benefits enormously from innovative and responsible entrepreneurs who provide the goods we consume, the jobs we need, the market liquidity necessary for investment and loans (i.e., car loan, mortgage, school loan, etc.), and the quality of life we are able to achieve.
  • Fifth, modern financial economies are not zero-sum wealth games, meaning even if the 1% own 90% of the current worldwide wealth, there is still no limit to how wealthy I (or you) can become. Wealth is created and destroyed; it is not static and unchanging. In 1900 the total worldwide wealth was about $2 trillion; by 2015, it had grown to $223 trillion, more than a 100% increase. The assumption that there is only a fixed amount of money or wealth within an economy, or even globally, that must be divided up evenly among everyone is false. This is one of the most ubiquitous and insidious lies that pervades our thinking as citizens, and it must be corrected. The very wealthy are not just taking a huge slice of the pie; they are growing the wealth pie so that even if they take a lot, they are contributing even more to the total amount of wealth that you and I can benefit from. (The common metaphor for this phenomenon is “a rising tide lifts all boats,” where the tide is the wealth in a society which is being increased (rising) by wealth-creators which ends up benefiting everyone). The upshot of this is that the absolute amount of money the top financial gainers in an economy make is irrelevant. What matters more is what they are doing with their money, not how much they currently have. Are they investing it wisely, using it for venture capital, innovation, research and development, and other positive and ethical uses? Or are they using it in destructive, unethical, or illegal ways?
  • Sixth and finally, income inequality is not intrinsically immoral or unjust; those who say this must demonstrate why it is so. Just because someone makes a lot of money – hundreds or thousands of times more than someone else – does not mean it is dirty money. There is nothing immoral about making a lot of money in and of itself. What matters more are two things: how that money is made (legally or illegally? Was anyone harmed in the process?) and what is done with that money after it has been acquired. I would propose that for Christians, these two issues are exactly where the biblical focus lies, not on any certain amount.

Listen to Richard Epstein talk about the good side of income inequality. He focuses on incentives, the rate of return for consumers vs entrepreneurs, adverse affects of taxes on production, tax rates and tax shelters, the quality of government investment, the relationship between wealth and political power, estate taxes, and much more. If you don’t understand most of this, just realize that income and wealth in a market economy is much more complex than the one minute news clip on the evening news or the article you read on the Huffington Post make it out to be. Don’t let yourself be dumbed down by media and talking points (either liberal or conservative). Start researching and do some digging into these issues in order to more fully – and wisely – comprehend it.

For a longer, and much more complex lecture by Epstein, see below.

At some point I hope to do a “resources” page on income inequality with all the various articles, reports, and books I’ve read or know of that address this issue. This is a topic that not only is prevalent in our national conversation but is marked by a fair amount of misinformation and ignorance, something I’m deeply concerned about and would like to try to remedy. In addition, perhaps I will write a piece expanding on the six points above. But for now, I hope this helps!


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