Economic Inequality: Facts, Theory and Significance

Studies | Economy | Government | Social

No. 312
Tuesday, June 10, 2008
by David R. Henderson


The Factors Behind Income Inequality

Before discussing the increase in income inequality, it is important to understand some of the major factors behind whatever level of income inequality actually exists.  When noneconomists think about income inequality, they tend to picture families in all income quintiles looking pretty much alike except for income and ethnicity.  They think one or both parents in lower-quintile families work just as many hours as parents in high-income families, if not more.  They assume the only difference is that low-income parents work for very low wages.  But this picture is false for a number of reasons.

“The number of family members working makes a big difference in its income level.”

Number of Workers.  High-income households are not likely to consist of one person earning a very high income (as is often assumed); rather, they are likely to have two or more income earners.  Consider the income numbers for 2006, reported by the Census Bureau [see Figure I]:

Workers per Household, 2006

  • A whopping 81.4 percent of families in the top quintile have two or more people working, and only 2.2 percent have no one working.
  • By contrast, only 12.6 percent of families in the bottom quintile have two or more people working; 39.2 percent have no one working.
  • The average number of earners per family for the top quintile is 2.16, almost three times the 0.76 average for the bottom quintile.5

Amount of Work.  Census data also show a large difference in full-time work.  Of the 15.69 million families in the bottom quintile, less than one-third (5.36 million) have a head of household (the Census Bureau now calls them “householders”) working full-time; in the top quintile, more than three-fourths (12.38 million) of families do.

Furthermore, the 12-to-1 ratio of total income of the highest-income quintile to the lowest-income quintile shrinks considerably when their income per week of work is compared.  Commenting on late 1970s data, economist Alan Blinder pointed out:

“[T]he richest [by which Blinder means ‘highest-income’] fifth of families supplied over 30 percent of the total weeks worked in the economy…while the poorest [by which Blinder means ‘lowest-income’] fifth supplied only 7.5 percent.  Thus, on a per-week-of-work basis, the income ratio of rich and poor was only 2-to-1.  This certainly does not seem like an unreasonable degree of inequality.”6

Age. TheCensus data reveal something else many people find surprising:  the correlation between income and age [see Figure II].7 There is a life cycle to income. Workers, whether high-school dropouts, high-school graduates or college graduates, tend to start out at a low income, increase their income with experience, and then have lower incomes late in their careers or in retirement.

“Workers’ incomes rise with age and experience.”

 

Workers per Household, 2006

In the lowest quintile, for example, only 33.2 percent of households are headed by someone in the age group from 35 to 54; peak earnings typically occur within this age range.  In the highest quintile, by contrast, 58.5 percent of household heads are between the ages of 35 and 54.  As would be expected also, the lowest quintile has a much larger proportion of elderly household heads more than 75 years of age — 11.5 percent versus 2.3 percent for the top quintile.  The lowest quintile also has more young heads of households ages 15 to 24 — 10 percent versus 1.1 percent for the top quintile.

Immigration.  In 1999, 16.8 percent of the foreign-born population was poor, versus 11.2 percent of native-born Americans.8 A higher immigration rate increases inequality; however, it can do so without making a single person worse off.  This is because immigrants, although poor by U.S. standards, are likely still better off than they were previously.  In addition, adding these immigrants does not directly change the economic status of Americans.  The point is that increased immigration can make the data on inequality look far worse than the reality.


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