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Commentary By Gerald Auten

Historical Perspectives on Income Inequality and Economic Mobility

Economics Employment

The following is an excerpt from Economics21’s new inequality primer, Income Inequality in America: Myths and Facts.

Widely-cited figures from Thomas Piketty, Emmanuel Saez, and the Congressional Budget Office—showing that the top one percent’s share of income has increased over time—have been influential in debates over income inequality. The CBO trend is slightly lower than the Piketty-Saez trend because it uses a broader measure of income, adjusts for family size and makes other important improvements. In general, most studies have found a long-term trend of rising inequality. Richard Burkhauser, Philip Armour, and Jeff Larrimore, in the research described above, found that the trend flattens out after 1990 once employer provided health care is accounted for as part of earnings.

These studies compare cross-section views of the population over time. The actual experiences of individuals over time can be quite different. Thus it is important to also consider income mobility, variability, and other aspects of income dynamics over time. 

Increasing inequality potentially affects mobility because it means that the “steps” on the income ladder are further apart, making upward mobility more difficult and potentially leading to reduced mobility over time. The ratio of income cutoffs for the top one, five and 20 percent income classes to median income has generally grown over time. For example, the income cutoff for being in the top one percent rose from about 6.5 to 8.8 times median income from 1987 to 2011. Similarly, the ratio rose from about 3.0 to 3.7 for the cutoff for the top five percent.

Because of the discussions about widening income gaps and the fact that the experiences of individuals and families can differ from cross-section results, it is important to look at income mobility and how this has changed over time.

The income measure used in this analysis is intended to provide a broad measure of current year cash income using consistent tax data starting in 1987. In addition to the regular income that is reported on returns, the measure adds back non-taxable social security benefits, which is the single largest transfer payment program, and tax-exempt interest. It also adjusts for net operating losses, which are really business losses in previous years, and makes other adjustments to arrive at this year’s cash income. 

While the tax filing rate for individuals age 25 to 65 is quite high, one problem with using tax data is how to account for non-filers. For the results from the 2013 paper (intergenerational mobility), income of non-filers was estimated using information returns filed with the IRS, i.e., W-2s, K-1s, and other types of income information returns.

 

 

It is common to examine income mobility by tracking people’s positions in the income distribution over a 10-year period. There are three ways of looking at mobility: mobility relative to the comparable population, mobility relative to the initial sample, and absolute income mobility. Figure 5 shows the results of the first approach by tracking individuals age 25 and older from their initial income quintile in 1996, to their 2005 quintile. In this figure, they are compared to the population that was 25 and older in 2005.

Auten and Gee (2009) found that 43.7 percent of those initially in the bottom quintile were in the bottom quintile 10 years later as well, represented in the upper left cell. This means more than half (56.3 percent) moved up to a higher income quintile. About 4.5 percent had moved to the top quintile. About 69 percent of the top income quintile remained in the top income quintile again 10 years later.

Of those that were in the top 1 percent in 1996, fewer than half, only 41.5 percent, were there 10 years later. In the tax data, the analysis was able to look at the top 0.1 percent and the top 0.01 percent, where the percentages of people who remain in the top groups were even lower (less than 25 percent for the top .01 percent). This suggests that top income earners are not a static group, year-after-year. 

 

 

Notice that the totals in the bottom row are not equal to 20 percent for each quintile. This is because there are new people in the population 10 years later: new immigrants and new 25 year-olds who, typically, have lower incomes. In addition, the population is growing 1 percent per year, because of immigration and births, so that there are more slots in the top 1 percent. As a result, those in the initial population tend to move up in the overall distribution: 27.6 percent of the initial population was in the top income quintile by 2005.

 

 

Figure 6 again compares everyone 25 and older in 1996—but instead compares them to the same group 10 years later. Under these conditions, it is more difficult to move up in the population because there are no new entrants to the comparison population. The numbers are going to show more people staying at the bottom, but also fewer people staying at the top. This is the traditional way mobility studies have been done, but it ignores population growth and new entrants to the population.

 

 

In order to see whether real, family-size adjusted incomes are increasing or decreasing, we need to consider the third way we looked at mobility: absolute income mobility. As shown in Figure 7, real incomes rose 77 percent for people initially in the bottom quintile and by 8.6 percent for those initially in the top quintile. The higher you are in the distribution, the less your relative income increase is. Real incomes of those initially at the top of the distribution tend to decline. The real income of the median taxpayer in the top 1 percent fell by nearly 31 percent over this period. For those initially in the top 0.1 percent and 0.01 percent, the drops in median income are even more dramatic: around 70 percent for the top 0.01 percent.

The median real income rose by 22.7 percent over this period, in contrast to some comparisons of cross-sections over time. Thus, real incomes were found to be rising for a majority of the population when the incomes of specific individuals were examined.

A significant part of the income mobility story is the life cycle of income: incomes are typically lowest for people in their first jobs, rise with seniority and promotions, and then decline after retirement. That is why we would expect people age 46 to 55 to be over-represented in the top income groups.

One way of seeing the effects of the life cycle of income is to follow the Baby Boomers, Generation X and the other generations as some of them occupy positions in the top one percent. Back in 1987, 79 percent of the top 1 percent was occupied by the Greatest Generation and the Silent Generation. Over time their share declined, however, and was down to 22 percent by 2010. On the other hand, in 1987, the Early Baby Boomers (then 32 to 41) accounted for only 16 percent of the top class—though their share rose to a peak (reaching 33 percent) in their early 50s. In 2010, the combined Early and later Boomer generations occupied 59 percent of the top one percent. The changing occupation of the top by new generations provides another illustration of the turnover at the top of the income distribution.

In 2011, 3.2 percent of Baby Boomers were in the top 1 percent. (As a ratio, this means Baby Boomers were 3.2 times the random probability of being in the top 1 percent.) In 2011, Baby Boomers, then in the 56-65 age group, were just past their peak earnings. Thus, if we are looking for “villains”, we can blame the Baby Boomers: they have more than their “fair share” of top incomes, at least for now. This is another way to see the effect of the life cycle of income on one’s position in the overall income distribution.

Mobility is mostly concerned with longer-term movements, but we also want to think about short-term income variability and turnover at the top as well. Forty-one percent of those in 2005 were there again in 2010, but only 25 percent of them had been there every year. Most people in the top one percent in a given year are likely to be there only once or for a few years, and others bounce in and out of the top one percent. It’s not the same people in the top one percent every year.

One of the important mobility questions is whether mobility has decreased as income gaps have widened and the steps on the ladder are further apart. In an examination of two 10 year periods, 1987 to 1996 and 1996 to 2005, there was identical mobility from the bottom quintile in the two periods, as 43.7 percent in the bottom quintile remained there after 10 years. In other words, 56.3 percent moved up. Overall, there is slightly more upward mobility into the top income groups in the more recent period even though the income gaps were wider. For example, 2.6 percent from the bottom quintile rose to the top quintile, as compared to 2.1 percent in the earlier period. But since this earlier analysis did not have access to the information returns of non-filers and the differences are small, it is safer to conclude that income mobility has basically stayed the same over the two periods. 

 

 

How is it possible that relative income mobility remained the same even though the income gaps widened over time? Figure 8, above, shows the percentage changes in median cash income in the two time periods by income quintile and for the top 1 percent. In every quintile, the percentage increases in real family-size adjusted income were larger (or more positive) in 1996-2005, than in the earlier period. The change in median income for those in the top quintile went from negative to positive. In other words, absolute income mobility increased as there was more upward change in real income in the more recent period—and this offset the wider steps in the income ladder. As a result, relative income mobility remained about the same.

The results in Auten and Gee (2009) are not the only ones to find income mobility relatively unchanged. At a presentation at the recent American Economic Association meetings (available as NBER Working Paper 19844), Raj Chetty and his co-authors presented results indicating that intergenerational mobility has remained relatively unchanged among the more recent birth cohorts. Adding their results to those of earlier studies, they conclude that intergenerational mobility did not change significantly between the 1950 and 1970 birth cohorts.

Conclusions

It is important to keep in mind that people’s incomes and positions in the income distribution spectrum can change considerably over time: over a life cycle, across generations, and even in the short-term. Many studies have shown that there is considerable income mobility and opportunity for low-income people to move up in the income distribution. While the outcomes are not fully distributed equally, many people in the bottom do indeed move up—and some move up to the top income groups. People looking at the same data may, however, disagree on whether the observed income mobility is sufficient or fair, as well as on what policies are most appropriate.

Taken from the Economics21 issue brief, Income Inequality in America: Myths and Facts.


Gerald Auten is a Senior Research Economist in the Office of Tax Analysis, U.S. Treasury Department.

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