While the world's richest have seen a dip in their stock holdings, those on the bottom of the wealth scale will bear the heaviest burden of the crisis.
Our Grand Fortunes, Our Grand Waste
Good things trickle down from the top, cheerleaders for privilege insist, when wealth concentrates. In real life, suggests economist Robert Frank, inequality makes things worse even for its ostensible beneficiaries.
Research & Commentary
February 08, 2015
Cornell University economist Robert Frank can do grand theory. He has authored textbooks on both micro and macro economics, including two with fellow economist Ben Bernanke, who would later go on to chair the Federal Reserve Board.
But Robert Frank can also zero in on the most mundane aspects of our daily lives. Why, for instance, do we spend so much time stuck in traffic commuting — and hit so many potholes?
Big picture, little picture. Frank has explored both. What drives his exploring? A deep concern, as scholar and citizen, about our widening inequality.
What’s concentrating wealth in America today? What impact is this concentrating having on us? In vividly titled books like The Winner-Take-All Society and Luxury Fever, through engaging columns and op-eds in the popular press, Frank has been working for decades to shove these questions onto the public agenda.
From his office high above Cayuga’s waters in upstate New York, Frank spoke recently with Inequality.org co-editor Sam Pizzigati about the promise of a less unequal world — and the prospects for it.
You’ve noted that inequality today is “feeding upon itself.” What do you mean?
Robert Frank: I have in mind mainly the process where labor market advantages get translated from parents to children. Top jobs today pay much more than they used to, and the competition to get them has become much more intense.
Credentials naturally play a bigger role in determining who has a shot at these jobs. If you want to be an analyst for JPMorgan — which 90 percent of the graduates from Princeton seem to want to be when they finish their education — having a résumé that says Princeton on it gives you a way better shot at landing an interview with JPMorgan than if you’ve come from Slippery Rock State.
The firms that are hiring for these positions just don’t have the resources to wade through the mail sacks of applications they get every time they post an opening. So their first cut is to say we’ll talk to the close-by kids from Harvard, Yale, and Princeton. And that’s more than enough to fill their slots. Plenty of good people are available elsewhere, of course. But why do these firms need to look further afield if they can simplify the process by looking at only a small subset?
Whether you get into Harvard, Yale, or Princeton in the first place has come to depend on a lifetime of résumé building. Competition has become intense to get into the elite preschools. We have superstar tutors to prepare you for the SATs. For elite jobs, the doors are closing earlier and earlier.
Kids who graduate from low- and middle-income families, meanwhile, have a huge debt load by the time they graduate. At a time when they ought to be building up savings and buying a house, they’re paying down student loans. There’s just a growing gap.
I think the rhetoric about inequality focuses mainly on justice and fairness. Fairness has an absolutely cogent role to play in the discussion. But I think we can much more easily agree on what’s wasteful than we can on what’s unjust or unfair.
Economist Robert Frank
Some people look at inequality and see unfairness. You see that unfairness. But you also see incredible waste.
Frank: I think the rhetoric about inequality focuses mainly on justice and fairness. Fairness has an absolutely cogent role to play in the discussion. But I think we can much more easily agree on what’s wasteful than we can on what’s unjust or unfair. Those latter terms are much more contestable.
Nobody thinks it’s better for the rich if all our mansions grow from 50,000 to 55,000 square feet. Everybody intuitively gets the idea that this increase just raises the bar that defines how big a mansion you need if you’re rich to be able to entertain in the style that’s expected of you.
Similarly, for your daughter’s wedding, we’re spending 30 grand on that now on average. We used to spend 10 grand. Nobody believes that marrying couples are happier because we spend so much more now.
We’re spending more because the bar has been raised. Why has that bar been raised? It’s because people at the top have so much more money. They spend more on their celebrations, and that spending then cascades down one level at a time.
We have a simplicity movement in the United States today, people saying that we don’t need all the stuff we have now, that if we just stopped obsessing over having more stuff, we could escape the rat race and lead happier lives. Is it harder to escape the rat race in a deeply unequal society?
Frank: Absolutely. If you could escape on your own, then the case for government needing to intervene would be much weaker.
I think the voluntary simplicity response is fine within limits, but if you want your kids to go to a good school, you have to buy a house that’s more expensive than the norm in your area — because the good schools in any local area are where the more expensive houses are.
If you buy a house that’s less expensive than that norm, your kids are going to end up going to a school that’s regarded as substandard. And you can’t “pull yourself together” — for the sake of simplicity — and think that cost away.
Now you could say to yourself, I really don’t need a Gucci handbag, I really don’t need four lattes a day. I can get by without any of that. But if I’m a median earner, I’m not going to be responsive to a call to “pull myself together” and quit trying to send my kid to a school of at least average quality. That’s just not a reasonable demand to make of any parent.
And if you can’t afford a house in a centrally located good school district, then you move further out to find a good school district you can afford — and have to endure the punishing effects of a long commute by car to work.
That point about commuting brings up another theme in your work: the hidden costs of inequality. You’ve written, for instance, about the impact of inequality on home prices.
Frank: In housing and other cases, we see something I’ve called “expenditure cascades.” People at the top start these cascades. They spend more, and that’s just because they have more money. Our income growth has gone to the top, and so, of course, the people at the top build bigger houses. It would be bizarre if they didn’t.
The people just below the top, they travel in the same social circles. They see people at the top build houses with ballrooms so they can have their daughter’s wedding reception at home. So now the people just below the top, they need a ballroom, too. Or maybe the people at the very top are having dinner parties for 36, not 24. So people just below the top need bigger dining rooms.
It’s through comparisons like these every step of the way down that the frame of reference shifts and shapes what people feel they need. And if you don’t invoke this kind of process, you can’t explain why the median newly built single-family house in the United States is now 50 percent larger than its counterpart from 1970.
Median earners today don’t have more money in real terms than median earners in 1970, or not much more. Why are they spending so much more on houses? Because others like them are spending so much more. Why are others like them spending more? That’s because people at the top are spending more on houses and that cascades all the way down.
You’ve also talked about marriage and the relationship between inequality and divorce.
Frank: Marriage counselors will say that people come to see them for a whole laundry list of reasons. But it’s rare that a couple that seeks counseling doesn’t include on the list of problems they’re having some form of financial distress. We see higher divorce rates in counties where inequality has increased the most.
We have all sorts of indexes for the American economy today: stock indexes, consumer confidence indexes, and on and on. You have an index that speaks more directly to American families. You call it the “toil index.”
Frank: This “toil index” tracks how many hours median earners have to work each month to earn the rental equivalent price of the median-priced house. That number was about 40 — and fluctuated very little — between 1950 and 1970. So if you worked 40 hours a week back then, you’d spend the first week of every month earning enough money to rent a house at the median price level. The next three weeks would be for everything else.
Now since inequality started rising roughly in 1970, the median house price has been skyrocketing, but the median wage has seen very little change. In 2006, the number of hours you had to work to pay the rent on a median-priced house hit about 100 hours a month. So that’s the additional burden for families in the middle.
Someone could say, well, if you don’t want to work so long, just work 40 hours. But if you do, then your kids will go to a school where they have metal detectors out front.
The politicians who talk the most about waste today don’t talk about it in your terms. They talk about going after “waste, fraud, and abuse in government spending” as an alternative to raising taxes on the rich.
Frank: We do have some wasteful government programs, that’s true, and we’ve had attempts to limit waste in government, some successful, but most of them face very tough sledding.
That’s because government programs don’t come into existence by accident. They exist because their constituents want them. People fight bitterly to keep whatever benefits they’ve been able to secure for themselves. Cutting a government program, even if it’s wasteful, can be very difficult to do because of the pushback you get.
And so when we do cut government programs, we typically focus more on the ones where the constituents who want them are the least able to push back against proposals to cut them. And the things that you end up cutting aren’t typically the things that, on reflection, we ought to be cutting.
During the Bush years, they cut nutritional assistance programs for poor mothers with small children. Every dollar you spend on such assistance pays back much more than one dollar in future benefits. But if you focus on cutting waste in government, that’s typically where the cuts come.
Waste in the private sector, meanwhile, is way grander in scale than waste in the public sector and way easier to cut. If people realized that they didn’t need to spend as much as they’re spending now to achieve the goals they’re trying to achieve, they’d be happy to sign on to an alternative where everybody reduced spending on wasteful things and increased spending on things that would make much more of a difference.
The easiest illustration of that to my eye, as somebody who likes cars, would be to imagine yourself a rich person in a world where low taxes on the rich let you drive a Ferrari that costs a third of a million dollars. But the low revenue that government collects from those low taxes on the rich means that your government can’t afford to maintain the roads.
So you drive that Ferrari on roads riddled with foot-deep potholes. That’s world one.
In world two, the rich pay higher taxes. They drive less expensive cars, maybe a Porsche that costs half as much as a Ferrari. But the revenue from higher taxes on the rich helps maintain roads at a high standard. So the rich in world two drive on roads that are conducive to making the best use of a fine machine.
Who’s happier, someone who’s rich and drives a Ferrari on a pothole-ridden road or somebody who’s relatively just as rich and drives a less expensive but still superb luxury car on good roads? No one could say with a straight face that the Ferrari driver on the pothole road would be happier.
We’ve seen a couple incidences recently where the super rich have justified their extravagance — their outlays for super yachts, for instance — on the basis of the jobs this extravagance creates.
Frank: We did have a luxury tax on yachts back in the 1990s, and people stopped buying yachts from New England shipyards and started buying them from shipyards abroad. We destroyed some jobs and had nothing for show for it. So our aim shouldn’t be to tell people they can’t build yachts. Let them build whatever yacht they want.
The simplest and least intrusive reaction to the expenditure cascade problem would be to tax people on what they spend, at progressive rates, rather than on their income, and then maintain demand in the economy in ways that actually make a difference for people.
If taxing spending is such a great idea, people ask me, how come we don’t do it? That’s a fair question.
People typically have a knee-jerk response to higher taxes: I’d have less money and I’d be less able to get what I want if I paid higher taxes. And it’s true most of the time that when we experience events that cause us to have less money, we’re less able to get what we want.
But if taxes on the rich went up, the rich would still be able to get the things they want. The reason for that? The things the rich want are things there aren’t enough of. So they have to bid against one another to get them. The highest bidders win. When your taxes go up and mine go up, if we’re both rich, that doesn’t affect the bidding contest for those things we both want. Those things end up in the same hands as before.
The difference between what happens when I have less and what happens when everyone has less, that’s a simple distinction to understand. If enough people in key nodes, in conversation networks, do start to understand it, then it’s easy to imagine that opinions about these sorts of things could start changing very rapidly.
Anyway, that’s the sustaining hope for me. But I haven’t seen any real evidence that the tipping point is nigh.
An assortment of political leaders over recent years, Democrats and Republicans alike, have called for a tax on spending, a consumption tax. You’ve called for a steeply progressive consumption tax. What’s the difference?
Frank: Well, ordinary sales taxes are consumption taxes. You pay on everything you buy a fixed percentage of the price of the product. In New York, it’s 8 percent plus a little bit. In some states, it’s 3 percent.
The argument against a sales tax? It’s very regressive. The poor consume virtually all of their income. So they pay tax on everything. The rich save a good portion of their income, so much of their income is essentially free from sales taxes.
The progressive consumption tax is a very different animal. It resembles the income tax very closely. You report your income the same as you do now, ideally in a more simplified form. You document how much you save during the year. That’s what we do now for 401(k) accounts.
The difference between those two numbers, what you earn less what you save — minus a big deduction, say $30,000 for a family of four — would be your taxable consumption.
The tax rate would start very low. So if you have a low amount of taxable consumption, you’d probably pay less in taxes than you do under the current income tax.
The more you spend, the higher the rate. At the very top level of consumption, if you’re consuming several million dollars a year, we could have a very high tax rate on the next dollar you spend.
This would be a powerful and non-bureaucratic incentive to get people to ask themselves, do I really need this big an addition onto my mansion? Do I really need to have a $10 million coming-of-age party for my daughter?
Of course, if we had a progressive consumption tax, we would also need a robust estate tax, to take into account that rich people would die with more savings.
Talking estate tax brings us to the idea of a wealth tax. You’ve spent some time in France. Have you had a chance to sit down with the French economist Thomas Piketty.
Frank: I’ve met him several times. I know his proposal for a tax on wealth. If I were the person in charge and could enact any tax structure I saw fit, I would be very strongly drawn to his wealth tax proposal.
But I think, politically, if you say to the rich, we’re going to tax the wealth you’ve accumulated, it would be very hard under current political arrangements to get a government to adopt that as an actual change in tax policy.
If I were to say to the rich instead that we’re going to make your savings tax-free, as opposed to taxing them the way we do now, lots of rich people would sign on to that.
So if I had a limited amount of political capital to spend, I would not propose going directly after accumulated wealth in the form of a 1 percent a year tax as Piketty has proposed. I would go first for the progressive consumption tax and then, through the estate tax, try to recover much of the tax-exempt savings at the time of death.
The truly thoughtful wealthy person doesn’t want to leave $100 million to an heir. That’s not a good thing to grow up knowing that you’re going to be getting $100 million on your 25th birthday.
You write for professional journals. But you also write accessible books and do a lot of writing for the general public, most notably via your column every fifth Sunday in the New York Times.
Frank: I’m getting old, and my first priority is getting the broadest possible hearing for the argument I summarized in a recent Vox piece online.
I also summarized that argument in my most recent book, The Darwin Economy: Liberty, Competition, and the Common Good. That book didn’t sell all that many copies. Fewer people read books than they used to. So I’m casting about, experimenting to see what formats gain traction.
The Vox format elicited a robust response from readers. So maybe online, smaller-form pieces that people access indirectly through social media will be how to reach people most easily in the future.
I don’t know how exactly this will shake out. But I’m experimenting now, trying to find the most efficient way to enter the conversation on these issues.
It’s so frustrating to think that all these hard problems we face could be solved without having to give up anything we care about. There’s so much waste in the system. If we could just steer some of those dollars to other uses, we could be so much further ahead than we are.
Do you have a new book in the works?
Frank: I do. I’ve just sent the first draft of it to Princeton University Press. It’s called Success and Luck.
Chance events influence life outcomes, including market success, far more profoundly than most of us realize. One consequence of our failure to recognize this: We cling far more tenaciously to every dollar that comes our way if we’re successful than we’d be inclined to do if we understood the pivotal role that chance played in our success.
What’s the best introduction into your work for folks who haven’t yet ventured into it?
Frank: There’s a short book that I published in 2007. It’s called Falling Behind: How Rising Inequality Harms the Middle Class, and it’s mercifully short. A fairly painless read, with lots of pretty pictures!
Sam Pizzigati co-edits the Institute for Policy Studies online Inequality.org weekly. His latest book: The Rich Don’t Always Win: The Forgotten Triumph over Plutocracy that Created the American Middle Class (Seven Stories Press).