Wednesday, February 13, 2008

Income/Spending/Wealth Distribution

If you spend much time reading blogs, particularly economics blogs, one of the topics you're sure to have noticed this week relates to income distribution. Now the concept and the topic both have particular relevance now that the political campaigns (also known as "the silly season") are upon us. What with politicians and pundits bandying the "r" word around with self-serving abandon, it's hard to not think about "how who gets how much". Even I touched on the topic last week.

But the real discussion began with an op-ed piece in The New York Times. (HT to Greg Mankiw.) Authored by a couple of economists at the Federal Reserve Bank of Dallas (one of whom, Michael Cox, was featured in the video I recommended last week), the piece suggested that while many are concerned about the widening income gap, it is the spending gap that may be a better measure of how well off we are, relatively speaking. And that gap is considerably narrower than the income gap, indicating things are not as bad as some would have us believe.

This was followed by comments and other posts pointing to a paper by two economists at the University of Chicago that was also published by the National Bureau of Economic Research (NBER). (HT to Arnold Kling on Econlog.) And there are other posts of interest on the blog site for The Economist.

This brings us to one last post and the focus of my blog. An entry on Consider the Evidence by Lane Kenworthy sums up the issue very well. It's the data. What is being measured and compared - income, wealth, or spending? They are all different. And comparing one to the other or misusing terms makes it difficult for people to understand the picture. That goes for the personal picture as well as the big picture.

Students need to learn to dissect information they receive and to have the tools that allow them to do so. Back in the early days of this blog, I asked How Do You Teach Rich? The question related to teaching students how to differentiate between income, wealth, and spending. And the debate that has swirled around the blogosphere this week basically boils down to that question. Because knowing how we slice and dice the data is crucial to understanding this debate. Policy-makers, politicians and pundits use the different data to tell different stories. And the story does differ according to the data that's used. It is very possible that a person can be in the lowest income segment, and still be living comfortably off of savings (wealth). Indeed, when we teach the importance of saving and investing in a personal finance course, we are preparing students for just that. There will come a time in life when our students will need to draw on wealth to augment reduced income. Yet, the topic comes up on the national stage and many of us act as if we're talking about a different issue.

The original op-ed piece does not misrepresent anything, but it is a way of looking at economic facts that is different from the view some would have us embrace. It's not better. It's not worse. It is different. And it is valuable. Just like our student's grasping the idea that income is different than wealth is different from spending is valuable. And I think it's worth the time and effort.

I look forward to your comments.


Meds said...

I liked the original op-ed piece from Sunday's "week-in-review" section. I found the graph on expenditures to be ridiculous to look at, but I enjoyed the article and felt it raised very valid points about the spending gap amongst the quintiles of income distribution. My students found it alarming that even the lower middle class households spend more than they take in. I hope many other economics educators used that article this week in their class discussions.

sparrowsfall said...

If inequality leads to faster growth, so everyone's better off long-term, then i--arguably--doesn't matter. Wealth has (by far) the highest inequality. So, does wealth inequality create economic prosperity? Over the long term, apparently not:

Steve Roth said...

I don't know why it took me so long to realize this, and I'm utterly at a loss as to why better-equipped souls like Paul Krugman didn't realize it instantly. Cox and Alm do, after all, point out the fundamental failing of their whole analysis:

"While some of these families are mired in poverty, many (the exact proportion is unclear) are headed by retirees and those temporarily between jobs, and thus their low income total doesn’t accurately reflect their long-term financial status."

Retirees—and the presumably gigantic gap between their collective earnings and spendings—have to be a huge factor. They're in the bottom quintile of earnings, but they're spending everything they've amassed over 65 years. And, uh...students? Who are being supported by well- or at least better-off parents who are nevertheless not part of the "household"?

The sticky issue of "life stages" (my children earn nothing, but the little hoodlums sure seem to consume a lot) is basic to the most freshman-level macro-equity analysis. Why aren't people who know better pointing this out?

Absent this "unclear" information, the whole Cox and Alm thing seems to tell us exactly...nothing.

Tim Schilling said...

The Cox/Alm piece reference in this blog does not provide relate to the issues you reference.

However, if you check out the Federal Reserve Bank of Dallas's annual report from the mid-1990s does provide further discussion regarding the very fact you mention. Our income changes over time.

My point is that, too often, when we discuss the issue of income distribution, we don't take wealth
into account. Likewise, we act as if the segments, whether quartiles,
quintiles, or deciles, are static segments. They are not.

Thanks for bringing the issue farther forward.