Income Inequality Is Both A Problem And A Symptom

Paul Graham recently published two essays in which he challenges the idea that economic inequality is a problem.

Since the 1970s, economic inequality in the US has increased dramatically. And in particular, the rich have gotten a lot richer. Some worry this is a sign the country is broken.

I’m interested in the topic because I am a manufacturer of economic inequality. I was one of the founders of a company called Y Combinator that helps people start startups. Almost by definition, if a startup succeeds its founders become rich. And while getting rich is not the only goal of most startup founders, few would do it if one couldn’t.

I’ve become an expert on how to increase economic inequality, and I’ve spent the past decade working hard to do it. Not just by helping the 2400 founders YC has funded. I’ve also written essays encouraging people to increase economic inequality and giving them
detailed instructions showing how.

So when I hear people saying that economic inequality is bad and should be eliminated, I feel rather like a wild animal overhearing a conversation between hunters. But the thing that strikes me most about the conversations I overhear is how confused they are. They don’t even seem clear whether they want to kill me or not.

As someone who believes that extreme income and wealth disparities are indeed bad let me be clear: no, Paul, I do not want to kill you, nor do I want to kill Y Combinator, though upon reflection I can see how someone could get that idea.

My first reaction on reading these essays was: he’s attacking a straw man.  Surely everyone realizes that wealth inequality is merely a symptom, not the actual disease.  But then I went and took another look at some of the political rhetoric being bandied about and I realized that this is far from clear.  For example, here is what Bernie Sanders has to say about it:

The issue of wealth and income inequality is the great moral issue of our time, it is the great economic issue of our time, and it is the great political issue of our time.

The reality is that since the mid-1980s there has been an enormous transfer of wealth from the middle class and the poor to the wealthiest people in this country. That is the Robin Hood principle in reverse. That is unacceptable and that has got to change.

Despite huge advancements in technology and productivity, millions of Americans are working longer hours for lower wages. The real median income of male workers is $783 less than it was 42 years ago; while the real median income of female workers is over $1,300 less than it was in 2007. That is unacceptable and that has got to change.

There is something profoundly wrong when one family owns more wealth than the bottom 130 million Americans.

If you stopped reading there you might be forgiven for assuming that Sanders thinks the solution to this problem is to simply re-distribute wealth from the rich to the poor.  And indeed, some of his policy proposals seem to reinforce this idea.  He wants to raise taxes on corporations and the ultra-wealthy (“Demand… that the wealthy and large corporations pay their fair share in taxes…”), raise the minimum wage, and have the government pay for college tuition.

If you look more closely, though, the Right Answer is actually in there, but it’s buried pretty deep inside the leftist rhetoric:

The reality is that for the past 40 years, Wall Street and the billionaire class has rigged the rules to redistribute wealth and income to the wealthiest and most powerful people of this country.

This is the problem.  It is not income or wealth disparity per se.  If the differences in income and wealth were entirely reflective of people’s productivity and contributions to society there would be no problem.  But they aren’t. Instead what is happening is that the ultra-wealthy are using their disposable income to buy political influence, then using that influence to get laws passed that allow them to collect rents.  They then apply the proceeds of those rents to buy more political influence.  The result is a positive-feedback loop that concentrates power in the hands of a small minority and thus undermines both democracy and capitalism.

Graham doesn’t buy this:

Not everyone who gets rich now does it by creating wealth, certainly. But a significant number do, and the Baumol Effect means all their peers get dragged along too.

The Baumol Effect, in case you didn’t know, is the tendency of wage increases that come from increases in productivity to “spill over” into jobs where there have been no productivity increases.  In other words, it’s trickle-down economics under a fancier name.  The problem with trickle-down economics is that wealth only trickles to a few places.  I can only wear so many clothes, drive so many cars, live in so many houses, hire so many house keepers.  Once I have everything I want, I’ll stop spending money on stuff and start spending it on… well, if society is lucky I’ll start investing it in startups.  If society is not so lucky, I’ll start buying politicians.

Here’s Graham’s bottom line:

You can mitigate this with subsidies at the bottom and taxes at the top, but unless taxes are high enough to discourage people from creating wealth, you’re always going to be fighting a losing battle against increasing variation in productivity.

Graham is saying that you can’t solve the “problem” of wealth inequality without suppressing or destroying the wealth-creating processes that led to the inequality in the first place.  And who would want to kill that golden goose?

But this is a false dichotomy.  It completely ignores the other cause of inequality, the fact that “Not everyone who gets rich now does it by creating wealth.”

It is possible to address this problem without killing the golden goose.  How?  By rolling back some of the legislation that was put in place by undue political influence.  At the very least, we should strive for a non-regressive tax system, which is what we have now.  If we are to be the kind of nation that we like to think we aspire to be, we should also have enough social safety nets in place that people do not end up destitute through no fault of their own.  We can do all these things without destroying the incentive to innovate.

So why doesn’t Graham recognize and advocate this?  Perhaps it’s because two of his biggest golden geese — Uber [See correction below] and AirBnB — are actually relying on exactly the kind of political influence I’m calling out here in order to survive and prosper.  Both of these companies have business models that rely to a certain extent on doing end-runs around regulations that apply to their competitors.  It is no accident that both of these companies have quietly hired a small army of lobbyists.

So once again, let me be clear: I do not want to kill Y Combinator, nor do I want to kill Uber or AirBnB.  I am in fact a very happy Uber user.  They provide a terrific service.  They’ve raised the bar on taxi companies, which very much needed to be done.

On the other hand, I also want an effective, democratic government to provide infrastructure, protect people from extreme economic contingencies (like war and hurricanes), prevent people from profiting from economic externalities (like pollution) and provide oversight for well-regulated, free and transparent markets.  And that’s not the direction we’re heading.  We’re heading towards political power being concentrated irreversibly in the hands of a small minority.  We’re heading towards oligarchy.

And that is a problem.

[UPDATE:] Turns out Uber is not a YC company.  I could have sworn they were, but I was wrong.  I apologize for the error.  (But AirBnB is a YC company, so my main point still stands.)

You can read more entries by Ron Garret at his website, Rondam Ramblings

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