More Excerpts from Winner-Take-All-Politics

Chapter 2: How the Winner-Take-All Economy Works

…Most economists on both sides of the political spectrum argue that government policy is at best a sideshow to the inequality circus….

On the liberal side, economist and former Clinton Treasury official Brad DeLong of the University of California at Berkeley says: “I can’t see the mechanism by which changes in government policies bring about such huge swings in pre-tax income distribution.”

This skeptical response, however, makes three elemental mistakes.

The first is to miss the strong evidence that government…policy has grown much more generous toward the fortunate….

Equally, if not more, important is what we call “drift”—systematic, prolonged failures of government to respond to the shifting reality of a dynamic economy…turning the other way…when fast-moving economic changes make existing rules and regulations designed to rein in excess at the top obsolete….

The third problem…. Government rules make the market, and they powerfully shape how, and in whose interests, it operates….

Just stop for a moment to contemplate how different economic affairs would be in our nation without basic property rights or government regulated financial markets and you begin to appreciate how pervasive the role of government really is….

Computers, increased global capital flows, and the development of new financial instruments have made it possible for savvy investors to reap (or lose) huge fortunes almost instantly…. But such technologically driven explanations have little to say about why the hyperconcentration of income at the top has been so much more pronounced in the United States than elsewhere. Nor do they come close to explaining just how concentrated economic gains have become….

After all, plenty of the so-called financial innovations that their complex computer models helped spawn proved to be just fancier (and riskier) ways of gambling with other people’s money, making quick gains off unsophisticated consumers, or benefiting from short-term market swings…. Former Fed chairman Paul Volcker was no doubt channeling a widespread sentiment when he said in 2009 that the last truly helpful financial innovation was the ATM.

What is more, government policy not only failed to push back against the rising tide at the top in finance, corporate pay, and other winner-take-all domains, but also repeatedly promoted it. Government put its thumb on the scale, hard. What’s so striking is that it did so on the side of those who already had more weight. We can see this most clearly in the most transparent case of government abetting inequality: the gutting, over the course of three decades, of progressive taxation at the top of the economic ladder….

When you take into account all federal taxes—including payroll taxes, which only hit the rich lightly, and corporate and estate taxes, which once hit the rich much harder than they do today—tax rates on the rich have fallen dramatically….

[Looking at] the effective average federal rate—what people actually pay—those in the top 1 percent pay rates that are a full third than they used to be despite the fact that they are much richer….

The federal tax code is still progressive overall. But what used to be a key feature of the code—its steep progressivity at the very top income levels—has simply disappeared. The richest of the rich now pay about the same overall rate as those who are merely rich. Indeed…, the upper middle class…are paying an average federal tax rate not much lower than that paid by the superrich….

If the effect of taxes on their income had been frozen in place in 1970, a very big chunk of the growing distance between the superrich and everyone else would disappear.

This dramatic change in tax policy didn’t happen magically….

In 1939, as the nation still grappled with the Great Depression, 35 percent of Americans agreed with the (very strongly worded) statement that “government should redistribute wealth by heavy taxes on the rich.” In 1998, 45 percent agreed; and in 2007, 56 percent did….

Just as Willie Sutton robbed banks because “that’s where the money is,” tax evasion by the rich is where the money is…. Yet…audits of high-income taxpayers and businesses have plummeted….

Another way:… loopholes… Take one of the more egregious examples: the ability of private equity and hedge fund managers to treat much of their extraordinary income as capital gains, subject only to a 15 percent tax rate….

Policy has become less generous toward the vast majority of Americans who have been on the losing side of rising inequality….

In the majority of rich nations for which we have evidence…, inequality created by the market has been significantly softened by a greater government role….

Can the absence of a government response to rising inequality really be treated as a forum of policy? Absolutely—when it takes the form of “drift,” the deliberate failure to adapt public policies to the shifting realities of a dynamic economy….

Government has rewritten the rules of the market in ways that favor those at the top….

Governments do redistribute what people earn. But government policies also shape what people earn in the first place, as well as many other fundamental economic decisions that consumers, businesses, and workers make. Practically every aspect of labor and financial markets is shaped by government policy, for good or ill….

Even the word “redistribution”…suggests the refashioning of a natural order by meddling politicians…

Beyond the stunning shifts in taxation already described, there were three main areas where government authority gave a huge impetus to the winner-take-all economy: government’s treatment of unions, the regulation of executive pay, and the policing of financial markets….

In the private sector,… unionization plummeted from nearly a quarter of workers in the early 1970s to just over 7 percent today….

In 2005, more than half of nonunionized private-sector workers said they wanted a union in their workplace….

In short, American unions did not just happen to be in the way of a fast-moving economic train. They were pushed onto the tracks by American political leaders….

The pay-without-performance world of executive compensation….

In 1965, the average chief executive officer (CEO) of a large U.S. corporation made around twenty-four times the earnings of the typical worker. By 2007, average CEO pay was accelerating towards three hundred times typical earnings….

CEOs have been able to take advantage of a corporate governance system….

Stock options are used in other nations too, but they are much more often linked to long-term rather than short-term performance, as well as to firm performance relative to industry norms….

The financier John Bogle has contended that instead of an “ownership society” in which managers serve owners, the United States is moving toward an “agency society” in which managers serve themselves….

Another possible check on managerial autonomy, private litigation, was radically scaled back by mid-1990s legislation engineered by congressional Republicans….

When the Financial Accounting Standards Board, which oversees accounting practices, tried to make firms report the costs of stock options like other compensation in the early 1990s, it was beaten back by a bipartisan coalition in the Senate galvanized by industry opposition….

Corporations were able to beat back the sorts of reforms that would have put the most effective checks on managerial autonomy…. They quite effectively resisted efforts to increase the ability of shareholders to influence the governance of firms, including compensation practices….

…complex new financial products that, for most Americans, offered limited benefits and sometimes real economic risks. For the financial sector, however, the new instruments and expanding freedom to use them created astonishing opportunities: to increase the number of transactions (with intermediaries taking a cut on each one), to ratchet up leverage (and thus potential profits), and to increase the complexity and opacity in ways that advantaged insiders. Not coincidentally, all of these developments increased the risk to the system as a whole…. As Martin Wolf of the Financial Times observed acerbically in 2008, “No industry has a comparable talent for privatizing gains and socializing losses.”…

The net effect was not an idealized free market, but a playing field tilted in favor of those with power, connections, lack of scruples, and the ability to play the profitable but systematically risky new game….

Suddenly, and increasingly, financial professionals were earning much more than similarly educated workers. Perhaps as much as half of their expanding pay premium, Philippon and Reshef calculate, can be linked to the deregulation wave….

The real story…is what our national political elites have done for those at the top, both through their actions and through their deliberate failures to act….

Americans have found themselves buffeted by dislocating market forces while their government has seemed mired in gridlock and beholden to concentrated economic power….

+++

From Winner-Take-All Politics: How Washington Made the Rich Richer--And Turned Its Back on the Middle Class, by Jacob S. Hacker and Paul Pierson.