Saturday, May 5, 2018

Trends in household income inequality: comparing the U.S. and Britain on labor, marriage, and government transfers

A recent paper highlighted by the Institute for Fiscal Studies and forthcoming in Journal of Public Economics presents an intriguing look at the relationships between individual labor market outcomes, household composition/spousal labor market outcomes, government tax and transfer systems, and household income inequality in the U.S. vs. Britain over the past four decades.

Blundell et al. (2017)'s descriptive analysis compares individual labor market outcomes in the two countries' by education level, income level, and gender and compares spousal labor market outcomes and government tax and transfer systems to provide a comprehensive look at the components of household income inequality. Their analysis enables us to connect each country's experience of/response to key shared events - including the rise in female labor force participation, the decline in low-skilled labor, and the 2007-08 financial crisis and recession - to household income inequality.

Many of the findings presented confirm existing ideas about the interaction between the tax and transfer system and labor market outcomes. The paper adds value in its use of micro data through 2015 and its use of data that has been standardized to facilitate comparison between the two countries. It adds to a literature on the role of the welfare state in exacerbating or alleviating individual-level labor market inequalities. This literature, and the inequality literature more broadly, formed the crux of the late economist Tony Atkinson's life's work and his numerous contributions in the field built the foundation for modern studies of inequality.

In fact, in his work on redistributive preferences and the welfare state, Atkinson (2000) discusses the responses of various countries to the universal shift in labor markets in industrialized countries away from low-skilled labor: "We are concerned not only with policy before and after a shift in the external circumstances, but also with how different societies respond to the same shift. It is striking that a number of OECD countries have in common a rise in the inequality of market incomes (incomes from earnings and investments) between 1980 and the mid-1990s, but that the outcomes in terms of disposable outcomes (after direct taxes and social transfers) differed."

So as not to diminish the rich nuances in Blundell et al. (2017), I only mention that one of the paper's findings is exactly this: inequalities in market incomes between the two countries are very similar but this is not the case for the disposable incomes at the household level. I discuss the findings below.

Inequality in male labor market outcomes has increased significantly in both countries
  • The two countries' experiences in the Great Recession were different: in the U.S., real incomes for the most part kept pace with inflation whereas Britain experienced a sharp drop in real incomes, particularly for the top income percentiles and the educated. Adjustment in the U.S. came in the form of declines in employment rather than in real wages whereas in Britain employment on both intensive and extensive margins was relatively robust. 
  • I suspect there are a couple reasons for the disparity:
  1. High subsidization of capital vs. labor may bias the U.S. economy towards lower but more productive employment levels (due to higher investments in capital).
  2. Stricter labor market regulation in Britain may imply that adjustments to shocks take the form of real wage declines rather than layoffs and declines in employment.
  3. Differences in the composition of employment between the two countries post-recession (numbers of full-time, part-time, and self-employed workers) may impact the aggregate figures on wage growth and hours worked.
  • This discussion is connected to the authors' second finding: while both countries have experienced a significant rise in male income inequality in the past four decades, in the U.S. this increase is largely driven by male hourly wage inequality whereas in Britain it is driven by fewer hours worked by men at the bottom of the distribution. Therefore while employment was relatively robust in the Britain it is because any response to the recession was part of a longer term trend in decreasing hours for male low-skilled workers on the intensive margin.
    • This is clearly illustrated by the green dotted lines in the two graphs below on hours worked for G.B. Men who left education at or below 16 years of age and U.S. Men with less than high school education. The line on the left for G.B. indicates a steep downward trend beginning 1995.
  • Finally, the authors provide evidence of the wage stagnation in the U.S. continues to make headlines. They state that the only group of male workers that has a higher median real wage today compared to 1979 is those with a college education (compared to those without high school, those with high school, and those with some college who have not seen any improvement to their real wages in the past four decades). 
Lower marriage rates among the bottom half of the income distribution indicate inequalities in household composition and spousal income

Assortativeness of marriage - the tendency for people to marry others who are found in roughly the same area of the wage distribution - is a trend that has only increased in the U.S. in the past twenty years (in Britain it has remained constant). A second, commonly discussed finding is the decline in marriage rates - among the entire wage distribution but more sharply among the lower half of the income distribution including low-skilled and unemployed men. Together the findings indicate that, rather than alleviate male earnings inequalities, the marriage market has likely amplified those inequalities.

The tax and transfer system in Britain has done a much better job of ensuring that the inequality in male labor market outcomes has not translated into large household income inequalities

The following image presented by the authors is the most striking:  while male earnings inequality (red dotted line) has increased steadily in both countries and perhaps even more sharply in Britain, household net income inequality (labor earnings plus government transfers minus taxes) in Britain has not grown in the past twenty years. This is not the case in the U.S. indicating that tax and transfer systems in Britain have done a much better job at ensuring that disparities in male labor market outcomes have not translated into as large disparities in net household income. 

The authors identify the following when discussing the disparity in tax and transfer outcomes between the U.S. and Britain:
  • Much more generous social welfare programs in Britain vs. the U.S. in particular due to successive Labour governments from 1997-2010. 
    • The one and very important exception being the recessionary period: in the U.S., average transfer generosity increased greatly in response to the recession and were in place through the six-year recessionary period whereas in Britain, fiscal consolidation policies beginning in 2011 indicated a reduction in social programs. 
  • Welfare policy in Britain that does not link transfers to work status indicating net income growth of non-workers whereas this is not the case in the U.S. where the generosity of welfare for non-working families declined greatly in the past two decades.
Follow-up questions 

The study raises several further points of research/questions to be answered by existing research - 

What are the differences in structural factors that led the decline in low-skilled labor to manifest itself as a decline in hours worked in Britain vs. a stagnation of real wages in the U.S.? In Britain, real wages experienced a sharp decline only during the recession and prior to the recession were even on the uptick for most men. Yet their hours of work had been declining for decades. To research this further we would need to look at the labor force participation rates of low-skilled men to determine whether the U.S. experienced similar decreases in employment (though on the extensive rather than intensive margin) that are masked by lower labor force participation rates among low-skilled men.

Through what channels did monetary and fiscal policy in the U.S. in the recessionary period contribute to the stabilization of real wages? The decline in real wages in the recession and post-recession Britain has been attributed to a number of factors - high inflation due to high energy prices, expansion of lower-paid, self-employment or part-time jobs rather than full-time jobs, limited investment in capital and as a result low levels of productivity - a number of which should also be issues in the U.S.

Though the study doesn't delve deeply into female labor market outcomes it paints an interesting picture of stability in women's employment and wages over the past forty years and particularly during the recession. This is likely due to higher relative attrition of women from the labor force at times when jobs are hard to be found given that men remain the main earners in most households, but again we would need to see the labor force participation rates to be sure. 

  1. Blundell, R., Joyce, R., Keiller, A.N., Ziliak, J.P. (2017). Income inequality and the labour market in Britain and the US. Journal of Public Economics. 
  2. Atkinson, A. (2000). The welfare state, budgetary pressure and labour market shifts. Scandinavian Journal of Economics.
  3. Atkinson, A. (1992). Towards a European social safety net. Fiscal Studies.

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