6 Problems With The Way We Think About Income Inequality

Note: An updated version of this article was published in December 2022.

On March 19, the Congressional Budget Office published a 48-page report entitled “The Distribution of Household Income, 2014.” It’s a reminder that the American discussion of income inequality is wholly inadequate to the real challenges facing those most in need of economic opportunity.

There are six basic problems with using income inequality as our lens for thinking about expanding economic opportunity:

1. Gross income is not the same thing as disposable income

Most people who talk about income inequality do so by looking at the size of someone’s paycheck. But a $30,000 paycheck can be a living wage in, say, Kansas in a way it can’t be in San Francisco. Disparities in the cost of living are a material source of economic inequality. NIMBY zoning laws that restrict growth in housing supply, for example, make housing unaffordable for those with below-median incomes. Rising consumer debt levels—a big problem for those with student loans—is another factor that reduces disposable income. The high cost of living in California is why it’s the state with the highest poverty rate in the country, as measured by the Census Bureau’s Supplemental Poverty Measure.

2. Taxes and transfers exist

The U.S. has the most progressive tax code in the developed world. As the below chart from the CBO describes, the vast majority of taxes are paid by those with above-median incomes; the beneficiaries of those transfers—particularly, the financial value of Medicaid and other health care subsidies—are those with below-median incomes. A discussion of income inequality that excludes a consideration of what we already do to redistribute income is, obviously, inadequate.

3. Income is not the same thing as wealth

A focus on income leads us away from appreciating that income is not the same thing as wealth. A retired banker with a paid-off 5 million dollar house may have no wage income. But he has a considerable financial cushion. A young medical school graduate may have the opportunity to make six figures someday, but in the meantime he may have also accumulated $300,000 in student debt and live in a high-cost city. Compared to a one-year snapshot of someone’s income, net worth and lifetime earnings give us a better picture of the distribution of economic opportunity.

4. Single parenthood is highly correlated to poverty

There is a wealth of empirical research indicating a strong correlation between poverty and growing up with a single parent—especially a single mother. As the below chart from Karen Kornbluh illustrates, this correlation is true across the industrialized world. For reasons both cultural and practical, we have not been comfortable confronting this problem.

5. Absolute income is more important than relative income

Our disproportionate focus on relative income—measured by things like the Gini coefficient—tells us little about the actual economic status of those below the median. Do lower-income Americans have basic access to food, shelter, health care, education, and work? Relative inequality is far less problematic if those near the bottom have the resources and opportunities they need to get ahead. Another way to think of this is global: the income of someone we’d consider poor in America would represent the income of someone in the middle class in many parts of the world. The countries with the lowest income inequality, as measured by Gini coefficient, are Ukraine, Belarus, and Slovenia. Those countries, however, rank 108th, 66th, and 35th, respectively, in GDP per capita.

6. Future opportunity is more important than past income

We can’t do anything to change the income someone has earned in the past. But public policy can help expand the opportunities people have in the future. For example, tax and regulatory reform can drive economic growth, and expand the demand for labor. Increased competition for workers, in turn, can lead to higher wages. We can also make it easier for individuals to become qualified for better-paying jobs through education and job training. And, as we saw during the COVID-19 pandemic, if we remove incentives for individuals not to seek work, we lift constraints on their ability to rise out of poverty.

So, that’s a long list of factors that a simplistic discussion about income inequality fails to capture. But it represents the kind of research we are doing at FREOPP. It’s our hope that, by broadening the discussion on economic opportunity, we can bring unexpected allies together and improve the lives of millions.