Obama’s other task: Stimulating equality

By: Edward N. Wolff
Source: The Jakarta Post, February 6, 2009

With unemployment climbing in the US and other OECD countries, job creation is a key objective for policymakers. President Obama recently proposed to increase public spending by about $600 billion over the next two years to create an additional four million jobs. But Obama is also concerned with reversing a sharp rise in income inequality. Is it possible for leaders to do both at the same time?

The answer is unequivocally yes, but only if they focus on government spending rather than reforming their tax systems. America’s tax system has surprisingly little redistributional punch. Using a measure of “comprehensive income” – money income, total capital gains on wealth, imputed rent on owner-occupied housing, non-cash government benefits, and public consumption – income taxes are generally progressive.

Federal income taxes as a proportion of income increase steadily from 2 percent at the 10th percentile to 14 percent at the 90th percentile, but then falls off slightly to 13 percent at the very top.

On the other hand, social security taxes are mildly regressive. Social security taxes rise gradually from 5 percent at the 10th percentile to 9 percent at the 80th percentile, stay there at the 90th percentile, but then fall off sharply to 5 percent at the top. This decline reflects the wage cap on social security taxes.

The total tax burden on families also includes sales taxes, which are steeply regressive, and property taxes, which are progressive. Total personal taxes are mildly progressive, increasing steadily as a share of income from 14 percent at the 10th percentile to 28 percent at the 90th percentile, but then falling off sharply to 22 percent at the top.

On the other hand, total transfers have a much bigger equalizing effect on incomes. Cash transfers, like social security and unemployment insurance, are highly equalizing. When the value of non-cash government benefits are also included, total transfers become extremely progressive. As a proportion of income, they fall almost continuously, from 50 percent at the 10th percentile to 2.5 percent at the very top.

But government spending on goods and services has distributional consequences, too, and can be allocated to actual beneficiaries in much the same way as government transfers. Public consumption is just as progressive as transfer payments.

As a proportion of income, it declines almost continuously, from 34 percent at the 10th percentile to 3 percent at the very top. When you add together government transfers and public consumption and subtract taxes paid, you get a figure for net government expenditures.

It is not just the poor who benefit from net governmental expenditures. The middle class is also a big beneficiary. Between 1959 and 2005, about half of the growth of the middle class’s income came from increased net government expenditures.

Indeed, from 2000 to 2004, the increase in net government expenditures accounted for 150 percent of income growth, as other sources of income shriveled up.

As Obama and other leaders around the world implement stimulus packages in months ahead, they should recognize that the question of who benefits goes beyond the number of jobs created. Government spending, no less than government transfers, has actual beneficiaries. If these packages target education or sanitation, fire, police, and highways, they can create jobs and reduce inequality.


The writer is Professor of Economics at New York University.