When free market fundamentalists like those in the Bush administration start at federal government action, after two interest rate cuts didn’t do much to stall stop the economy sliding into recession, you know things have reached a crisis point. By the time they start taking baby steps towards a bailout, you can bet that — as with another disaster — many people are well underwater, some have drowned, and some aren’t so much saving themselves as letting the tide carry them.
In the past week, the Bush administration and Federal Reserve chair Ben Bernanke have been making vague gestures that open the possibility an increased government intervention in the aftermath of the subprime debacle. That may be due to a trend which suggests some people caught in the crises spawned by the subprime disaster have found a outlet for their anger that, if number of those who chose that option reaches critical mass, could have consequences beyond what most of us could ever imagine.
It was when Fed Chairman Ben Bernanke mentioned the other "f-word" — after twice tinkering with interest rate reductions, and a handful of additional interventions met with roadblocks in Congress — that I began to think that maybe the full implications of the crises had dawned on the administration, as well as the potential consequences.
However much they might oppose it on ideological grounds, the Bush administration and the U.S. Federal Reserve are inching closer toward a government rescue of distressed homeowners and mortgage lenders.
Ben Bernanke, the Fed chairman, told a group of bankers in Florida on Tuesday that "more can and should be done" to help millions of people with mortgages that are often bigger than the value of their homes.
Though Bernanke stopped well short of calling for a government bailout, he used his bully pulpit to try to push the banking industry into forgiving portions of many mortgages and signaled his concern that market forces would not be enough to prevent a broader economic calamity.
And the news that the Bush administration — packed with deregulation devotees as it is — has started taking baby steps toward tighter regulations (accompanied by headlines that the the subprime mortgage crisis has touched the Carlyle Group) merely confirms it.
A presidential working group issued a broad set of proposals Thursday to correct weaknesses in the way homes are financed so that the sort of problems now crippling the nation’s housing sector won’t recur.
The President’s Working Group on Financial Markets recommended changes in virtually every area of mortgage finance. It called for tougher state and federal regulation of mortgage lending and mortgage brokers. It also supported creating a national licensing standard for anyone who originates mortgages.
Its report is notable, however, for its restraint in expanding federal regulation: the national licensing scheme, for example, still would depend on enforcement by states. Weak local enforcement is one major reason that the housing market grew into a bubble and then burst.
The report also didn’t propose putting the non-bank lenders, who underwrote about three-fourths of the now-toxic sub-prime mortgages, under federal regulation. Non-bank lenders, the largest of which are now in bankruptcy, must follow federal principles that are enforced by states, which often lack the capacity to do so.
You may judge for yourself, based on the above, how serious the administration is or is not. The point is now that some really important people — the actual ownership society — are in trouble, it’s finally time for action.
That’s the "broader calamity" that — and how far it might spread — that’s making the Bush administration and the Republican party nervous about this election year. (And not merely that the subprime crisis has finally hit the Bush family, when the Carlyle Group began getting margin calls on mortgage-backed securities) The calamity may not hit before the ballots are counted come November, but it’s already underway. And in some places it’s not called a calamity. It’s called a revolution.
It starts when people look at their own numbers and see no way to come out on top, and no reason to keep trying, because they realize that they are among those Americans who are poorer than they were a year ago.
Considering the impact of higher prices, a bigger debt burden and sagging home prices, Americans were poorer at the end of 2007 than they were the year before, the Federal Reserve reported Thursday.
The net worth of U.S. households fell by $533 billion, or a 3.6% annual rate, in the fourth quarter of 2007, the first time total wealth has fallen since late 2002, the Fed said.
For all of 2007, household net worth rose 3.4% to $57.7 trillion, the slowest growth in five years. After the effects of 4.1% inflation are included, real net worth fell for the year.
That loss of wealth is due to a record decline in home equity.
Americans’ percentage of equity in their homes fell below 50 percent for the first time on record since 1945, the Federal Reserve said Thursday
Home equity, which is equal to the percentage of a home’s market value minus mortgage-related debt, has steadily decreased even as home prices jumped earlier this decade due to a surge in cash-out refinances, home equity loans and lines of credit and an increase in 100 percent or more home financing.
Economists expect this figure to drop even further as declining home prices eat into the value of most Americans’ single largest asset.
Moody’s Economy.com estimates that 8.8 million homeowners, or about 10.3 percent of homes, will have zero or negative equity by the end of the month. Even more disturbing, about 13.8 million households, or 15.9 percent, will be "upside down" if prices fall 20 percent from their peak.
"Upside down" is another way of saying that some 13.8 million will be saddled with
"under water" mortgages. Upside down or under water, these middle class homeowners do the math and find themselves in an untenable position. They may, however, also be in a position to take some major financial institutions down with them.
All they have to do is get just a little angry. That’s not a stretch for people who’ve bought into the long-standing notion — and some economists would say myth — of what homeownership is supposed to mean in America, only to learn too late what it actually means.
Home ownership is the American dream. Most everyone aspires to owning one. Some 69 percent of us do. For many of us, moreover, the equity value of the home represents the greater part of retirement savings. Why is home ownership so important to us?
One obvious reason is our culture. Ownership reflects permanence, stability, success and pride. Generally, people who own something take better care of it. No one tries to save the hotel when there is a fire. Rental car drivers don’t stop at the car wash. Renting seems so impersonal and temporary. These are emotional factors.
Another seeming attraction is economics. Homes are viewed as an investment. Renting is “just throwing money away.” But here’s where we get it wrong. The dirty little secret: most of the time, home ownership is a lousy investment.
For the middle class homeownership was almost a birthright, taken for granted, and a sign of middle class stability.
Home ownership used to be taken for granted by the American middle class. No longer. Rising home prices have made ownership impossible for many middle-class families, while easy credit and the pressure to overreach during the recent housing run-up have left America with a nasty housing-bubble hangover. Video: How much for this apartment?
The urge to have our own bit of land is etched in the American DNA. As settlers pushed west during the mid-1800s, President Lincoln’s Homestead Act granted land to anyone willing to farm on it. After World War II, Americans streamed into new bedroom communities complete with a garage, a front porch and a Labrador retriever that dug holes in the fenced backyard.
But the homes our parents took for granted are slipping out of reach.
It signifies entrance into the ownership society, or at least a firm foothold from which to start that climb. It’s a sign of having arrived; of having achieved an upward mobility most Americans are taught to desire and aspire to. (Subprime borrowers in economically disadvantaged communities are no less affected, which combines with other factors to make them susceptible to the apparent opportunity to finally attain what would otherwise always be out of reach. That’s something we’ll address later in the series.)
Some who thought they had achieved, the dream of homeownership are discovering that dream has not just slipped out of reach, but slipped right from under them. They’re doing the the math, adding up stagnant wages, rising inflation, plummeting home values, and disappearing equity, and waking up from the American dream, and walking away from the American dream.
What used to be a last resort in economic hard times is now the first course of action. They’re walking away from their homes, first.
In the more innocent days before the debt bubble popped, vulnerable borrowers tended to do everything they could to hang on to their houses. The result was that they would stop paying off their credit cards first, the car loans second and only last would they default on their mortgages.
But for many Americans in the credit bust, especially an overburdened minority, that set of priorities has been turned upside down.
"It’s the American way of deleveraging," said Jochen Felsenheimer, a credit strategist at Unicredit in Munich. "First you sell your house, second you sell your car and in the end you also sell your TV set."
The numbers bear him out. Subprime housing loans started to go bad first, followed with a lag by subprime auto loans and now credit cards.
(But living in your car, if you give up your house, isn’t an option like it was in those "more innocent days," because — as the article points out — cars are the next on the credit crisis hit parade.)
It’s a relatively new phenomenon, but it’s been around long enough to earn a catchy name, "jingle mail." (That’s the sound of keys, mailed in by fleeing homeowners). And it’s spawned a whole new line of business.
When Raymond Zulueta went into default on his mortgage last year, he did what a lot of people do. He worried.
In a declining housing market, he owed more than the house was worth, and his mortgage payments, even on an interest-only loan, had shot up to $2,600, more than he could afford. "I was terrified," said Zulueta, who services automated teller machines for an armored car company in the San Francisco area.
Then in January he learned about a new company in San Diego called You Walk Away that does just what its name says. For $995, it helps people walk away from their homes, ceding them to the banks in foreclosure.
Last week he moved into a three-bedroom rental home for $1,200 a month, less than half the cost of his mortgage. The old house is now the lender’s problem. "They took the negativity out of my life," Zulueta said of You Walk Away. "I was stressing over nothing."
You Walk Away is a small sign of broad changes in the way many Americans look at housing. In an era in which new types of loans allowed many home buyers to move in with little or no down payment, and to cash out any equity by refinancing, the meaning of homeownership and foreclosure has changed, economists and housing experts say.
The Zuluetas aren’t "speculators," who purchased a house intending to "flip" it, gambling that rising home prices would yield a profit. They’re a working family that wanted a home and bought one with the help of an exotic breed of mortgage. (Whether they should have "known better" or how many of the rest of us "know better" is something we’ll explore in another installment.) They’ve taken what would usually be considered a step backwards, moving from owning to renting.
The Zuluetas are also lucky to have found a home to rent. In some areas hit hard by the subprime crises, renters are facing eviction, even if they’ve always paid their rent on time. As properties go into foreclosure, and owners "drop off the key," banks are taking over ownership and seeking to unload properties as quickly as possible. The new "owners" are following a "clear it, clean it, and sell it" procedure, which means renters get the boot because an empty place is easier to sell. The result is steeper rents and a shortage of rentals, as foreclosed former homeowners enter the rental market themselves.
But, in some ways, those homeowners were really renters like all along.
Carrie Newhouse, a real estate agent who also works as a loss mitigation consultant for mortgage lenders in Minneapolis-St. Paul, said she saw many homeowners who looked at foreclosure as a first option, preferable to dealing with their lender. "I’ve had people say to me, ‘My house isn’t worth what I owe, why should I continue to make payments on it?’ " Newhouse said.
"You bought an adjustable rate mortgage and you’re mad the bank is adjusting the rate," she said. "And sometimes the bank people who call these consumers aren’t really nice. Not that the bank has the responsibility to be your friend, but a lot are just so uncooperative."
The same sorts of loans that drove the real estate boom are now changing the nature of foreclosure, giving borrowers incentives to walk away, said Todd Sinai, an associate professor of real estate at the Wharton School of Business at the University of Pennsylvania.
"There’s a whole lot of people who would’ve been stuck as renters without these exotic loan products," Sinai said. "Now it’s like they can do their renting from the bank, and if house values go up, they become the owner. If they go down, you have the choice to give the house back to the bank. You aren’t any worse off than renting, and you got a chance to do extremely well. If it’s heads I win, tails the bank loses, it’s worth the gamble."
And — like the Zuluetas — they drop their keys in the mail after doing the math, even though they can afford to pay, sticking the banks with the property.
In some places, hard hit by the subprime crisis, there’s an undercurrent of anger that’s finding expression in what I call the "trash ‘n’ dash revolution," in which fleeing homeowners not only drop off their keys in the mail, but stick the lender with the task of cleaning up.
On the lookout for disturbing trends? Here’s one for your pile: According to a recent article in Fortune, there has been a noticeable increase in not just fraud but arson that has kept pace with the housing depression. Professionals in the insurance and lending industry are bracing themselves for all manner of similar situations, as homeowners either trash or simply leave their trash lying around their houses, often taking off without even claiming their furniture. This is already a dirty problem in the housing business, with owners, lenders and banks having to figure out a way to stick each other with the check when tenants destroy their property on their way out the door. Woe is the person left behind to clean up the chaos.
"We just estimated a trashout yesterday where we’re going to have to drain the pool," one Fontana, Calif., resident posted on AgentsOnline.Net, a resource and idea site for realtors, "and the stench from it when you enter the backyard is overwhelming. Then, of course, there are mosquitoes all over the top, and it’s been sitting so long without chemicals that it’s green on top and murky black on the bottom. We’ve already had to refuse one pool because of its really creepy condition and I’m not so sure about this one either. [I] just hope we don’t find the previous homeowner at the bottom when we drain it."
…As if it were that easy. Especially for those homeowners, including those with good and bad credit, who have seen the light at the end of our current economic crisis only to decide there isn’t a house in it. In fact, one could almost see the Wall Street Journal frown with disapproval upon reading the title of their December 2007 piece, "Now Even Borrowers With Good Credit Pose Risks." But the title no doubt was influenced by the comments of Bank of America CEO Kenneth Lewis in the piece itself. It seems that Lewis, whose company recently bought the housing meltdown’s poster boy for bad lending, Countrywide, for $4 billion in stock, nevertheless feels confounded that customers of questionable loans would simply choose to abandon ship, er, house. "There’s been a change in social attitudes toward default," Mr. Lewis told the Journal. "We’re seeing people who are current on their credit cards but are defaulting on their mortgages. I’m astonished that people would walk away from their homes." While Lewis may scratch his head in disbelief, employees of the bank Wachovia have an explanation that might work for him: Homeowners have crunched the numbers and decided their houses are worth less than their mortgages. According to a recent conference call, many of Wachovia’s current losses in California are originating not from subprime buyers fallen on financial hardship, but from homeowners who can pay their cleverly structured loans but are just choosing a different fate. "They’ve been from people that have otherwise had the capacity to pay," a Wachovia spokesperson said on the call, "but have basically just decided not to, because they feel like they’ve lost equity, value in their properties. It’s hard to know right now, but we may have seen somewhat of an acceleration problem … as people have reached that conclusion."
Here again is the perpetual transfer of wealth. These home owners have done the math and realize that they are never going to come out on the winning end. They will never have a house worth what they paid for it. But they must continue to pay for it. Like sharecroppers of old — who realized they were never going to break even, let alone get out of debt, and escaped by slipping away in the middle of the night — these homeowners are walking away from a losing venture.
In a telling moment, a HUD public affairs officer speaks of lenders and homeowners in terms that seem more suitable for landlords and tenants.
"We strongly encourage homeowners facing a financial crisis to stay in close touch with the lender holding the mortgage on their home," advised Larry Bush, public affairs officer for HUD’s California network. "Because of the number of foreclosures, many lenders would prefer not to add to the inventory of foreclosed homes but instead work out an agreement with the homeowner. Lenders likely have higher costs for a vacant home than a homeowner has for living in the home. They have to make certain the property is kept in good condition; in most jurisdictions this means keeping the electricity and water hookups active, security monitoring to ensure there are no squatters or break-ins, and new appraisal and inspection. Homeowners absorb many of those costs."
Last I checked, utility bills, lawn services, etc., don’t cost the lender any more than it did the homeowner. Of course, the homeowner is paying for the upkeep of one home. The lender maybe doing the same thing hundreds of times over, as more homes are foreclosed or more homeowners walk away from their properties. Homeowners — invested ones, anyway — do not just absorb costs. They are not just caretakers for the bank’s property. The whole idea of ownership is that they are making an investment, not absorbing costs.
But that’s all that’s left now; absorbing costs. It’s all that, in the end, trickles down. And that’s where the anger comes from, as with those people find out too late that they’ve bought into a Ponzi scheme or the bottom level of a pyramid scheme, or that they’re left in the middle of the mess after a bubble bursts.
It’s the same anger that follows a broken promise, or a betrayal, when people have followed the rules, or simply done the same what everyone around them: bought into the idea of the ownership society, only to find that the rules have changed, and the door was never opened anyway.
Today, the basic promises of the ownership society have been broken. First the dot-com bubble burst; then employees watched their stock-heavy pensions melt away with Enron and WorldCom. Now we have the subprime mortgage crisis, with more than 2 million homeowners facing foreclosure on their homes. Many are raiding their 401(k)s–their piece of the stock market–to pay their mortgage. Wall Street, meanwhile, has fallen out of love with Main Street. To avoid regulatory scrutiny, the new trend is away from publicly traded stocks and toward private equity. In November Nasdaq joined forces with several private banks, including Goldman Sachs, to form Portal Alliance, a private equity stock market open only to investors with assets upward of $100 million. In short order yesterday’s ownership society has morphed into today’s members-only society.
The mass eviction from the ownership society has profound political implications. According to a September Pew Research poll, 48 percent of Americans say they live in a society carved into haves and have-nots–nearly twice the number of 1988. Only 45 percent see themselves as part of the haves. In other words, we are seeing a return of the very class consciousness that the ownership society was supposed to erase. The free-market ideologues have lost an extremely potent psychological tool–and progressives have gained one. Now that John Edwards is out of the presidential race, the question is, will anyone dare to use it?
Will anyone? Will anyone who’s able to use it, still have the will to use it? Will anyone with the will to use it still be able to use it? Corporate interests own shares in the remaining presidential candidates. The Supreme Court — which includes two justices appointed by George W. Bush — shut the door on any hope of justice for Enron’s victims. Can anyone with the will to use it and the ability to use it still afford to use that weapon?
Yes, of course: those with little to nothing left to lose. Their numbers are growing, thanks in part the very financial institution now threatened by a weapon they created, loaded and left on millions of coffee tables and kitchen tables across the country, where almost anyone can pick it up.
And that’s why even the "free market ideologues" in the Bush administration are making noises about government intervention. Because now there’s a loaded weapon in the room, loaded by and pointed at the citizens they must protect.
If I’d had time, I’d have composed some alternate lyrics. “50 Ways to Leave Your Lender”…
An Interview with Edward Wolff, professor of economics at New York University. Originally published in the May 2003 issue of Multinational Monitor. The May issue contains more articles on wealth and income inequality in the U.S.
Multinational Monitor: What is wealth?
Edward Wolff: Wealth is the stuff that people own. The main items are your home, other real estate, any small business you own, liquid assets like savings accounts, CDs and money market funds, bonds, other securities, stocks, and the cash surrender value of any life insurance you have. Those are the total assets someone owns. From that, you subtract debts. The main debt is mortgage debt on your home. Other kinds of debt include consumer loans, auto debt and the like. That difference is referred to as net worth, or just wealth.
MM: Why is it important to think about wealth, as opposed just to income?
EW: Wealth provides another dimension of well-being. Two people who have the same income may not be [equally] well off if one person has more wealth. If one person owns his home, for example, and the other person doesn’t, then he is better off.
Wealth — strictly financial savings — provides security to individuals in the event of sickness, job loss or marital separation. Assets provide a kind of safety blanket that people can rely on in case their income gets interrupted.
Wealth is also more directly related to political power. People who have large amounts of wealth can make political contributions. In some cases, they can use that money to run for office themselves, like New York City Mayor Michael Bloomberg.
MM: What are the best sources for information on wealth?
EW: The best way of measuring wealth is to use household surveys, where interviewers ask households, from a very detailed form, about the assets they own, and the kinds of debts and other liabilities they have run up. Household surveys provide the main source of information on wealth distribution.
Of these household surveys — there are now about five or six surveys that ask wealth questions in the United States — probably the best source is the Federal Reserve Board’s Survey of Consumer Finances.
They have a special supplement sample that they rely on to provide information about high income households. Wealth turns out to be highly skewed, so that a very small proportion of families owns a very large share of total wealth. Most surveys miss these families. But the Survey of Consumer Finances uses information provided by the Internal Revenue Service to construct a special supplemental sample on high income households, so they can zero in on the high wealth holders.
MM: How do economists measure levels of equality and inequality?
EW: The most common measure used, and the most understandable is: what share of total wealth is owned by the richest households, typically the top 1 percent. In the United States, in the last survey year, 1998, the richest 1 percent of households owned 38 percent of all wealth. This is the most easily understood measure.
There is also another measure called the Gini coefficient. It measures the concentration of wealth at different percentile levels, and does an overall computation. It is an index that goes from zero to one, one being the most unequal. Wealth inequality in the United States has a Gini coefficient of .82, which is pretty close to the maximum level of inequality you can have.
MM: What have been the trends of wealth inequality over the last 25 years?
EW: We have had a fairly sharp increase in wealth inequality dating back to 1975 or 1976.
Prior to that, there was a protracted period when wealth inequality fell in this country, going back almost to 1929. So you have this fairly continuous downward trend from 1929, which of course was the peak of the stock market before it crashed, until just about the mid-1970s. Since then, things have really turned around, and the level of wealth inequality today is almost double what it was in the mid-1970s.
Income inequality has also risen. Most people date this rise to the early 1970s, but it hasn’t gone up nearly as dramatically as wealth inequality.
MM: What portion of the wealth is owned by the upper groups?
EW: The top 5 percent own more than half of all wealth. In 1998, they owned 59 percent of all wealth. Or to put it another way, the top 5 percent had more wealth than the remaining 95 percent of the population, collectively.
The top 20 percent owns over 80 percent of all wealth. In 1998, it owned 83 percent of all wealth.
This is a very concentrated distribution.
MM: Where does that leave the bottom tiers?
Wolff: The bottom 20 percent basically have zero wealth. They either have no assets, or their debt equals or exceeds their assets. The bottom 20 percent has typically accumulated no savings.
A household in the middle — the median household — has wealth of about $62,000. $62,000 is not insignificant, but if you consider that the top 1 percent of households’ average wealth is $12.5 million, you can see what a difference there is in the distribution.
MM: What kind of distribution of wealth is there for the different asset components?
EW: Things are even more concentrated if you exclude owner-occupied housing. It is nice to own a house and it provides all kinds of benefits, but it is not very liquid. You can’t really dispose of it, because you need some place to live.
The top 1 percent of families hold half of all non-home wealth. The middle class’s major assets are their home, liquid assets like checking and savings accounts, CDs and money market funds, and pension accounts. For the average family, these assets make up 84 percent of their total wealth.
The richest 10 percent of families own about 85 percent of all outstanding stocks. They own about 85 percent of all financial securities, 90 percent of all business assets. These financial assets and business equity are even more concentrated than total wealth.
MM: What happens when you disaggregate the data by race?
EW: There you find something very striking. Most people are aware that African-American families don’t earn as much as white families. The average African-American family has about 60 percent of the income as the average white family. But the disparity of wealth is a lot greater. The average African-American family has only 18 percent of the wealth of the average white family.
MM: Are you able to do a comparable analysis by gender?
EW: It is hard to separate out husbands and wives. Most assets are jointly held, so it is not really possible to separate which assets are owned by husband and which by wife. Even when things are specifically owned by one spouse or another, the other spouse usually has some residual lien on the assets, as we know from various divorce proceedings. If a pension account is owned by the husband and the family splits up, the wife typically gets some ownership of the pension assets. The same thing is true for an unincorporated business owned by the husband. It really is not that easy to separate out gender ownership in the family.
What we do know is that single women, or single women with children, have much lower levels of wealth than married couples.
MM: How does the U.S. wealth profile compare to other countries?
EW: We are much more unequal than any other advanced industrial country. Perhaps our closest rival in terms of inequality is Great Britain. But where the top percent in this country own 38 percent of all wealth, in Great Britain it is more like 22 or 23 percent.
What is remarkable is that this was not always the case. Up until the early 1970s, the U.S. actually had lower wealth inequality than Great Britain, and even than a country like Sweden. But things have really turned aroundover the last 25 or 30 years. In fact, a lot of countries have experienced lessening wealth inequality over time. The U.S. is atypical in that inequality has risen so sharply over the last 25 or 30 years.
MM: To what extent is the wealth inequality trend simply reflective of the rising level of income inequality?
EW: Part of it reflects underlying increases in income inequality, but the other significant factor is what has happened to the ratio between stock prices and housing prices. The major asset of the middle class is their home. The major assets of the rich are stocks and small business equity. If stock prices increase more quickly than housing prices, then the share of wealth owned by the richest households goes up. This turns out to be almost as important as underlying changes in income inequality. For the last 25 or 30 years, despite the bear market we’ve had over the last two years, stock prices have gone up quite a bit faster than housing prices.
MM: A couple years ago there was a great deal of talk of the democratization of the stock market. Is that reflected in these figures, or was it an illusion?
EW: I would say it was more of an illusion. What did happen is that the percentage of households with some ownership of stocks, including mutual funds and pension accounts like 401(k)s, did go up very dramatically over the last 20 years. In 1983, only 32 percent of households had some ownership of stock.
By 2001, the share was 51 percent. So there has been much more widespread stock ownership, in terms of number of families.
But a lot of these families have very small stakes in the stock market. In 2001, only 32 percent of households owned more than $10,000 of stock, and only 25 percent of households owned more than $25,000 worth of stock. So a lot of these new stock owners have had relatively small holdings of stock. There hasn’t been much dilution in the share of stock owned by the richest 1 or 10 percent. Stock ownership is still heavily concentrated among rich families. The richest 10 percent own 85 percent of all stock. As a result, the stock market boom of the 1990s disproportionately benefited rich families. There were some gains by middle class families, but their average stock holdings were too small to make much difference in their overall wealth.
MM: Apart from the absolute level of wealth of people at the bottom of the spectrum, why should inequality itself be a matter of concern?
EW: I think there are two rationales. The first is basically a moral or ethical position. A lot of people think it is morally bad for there to be wide gaps, wide disparities in well being in a society.
If that is not convincing to a person, the second reason is that inequality is actually harmful to the well-being of a society. There is now a lot of evidence, based on cross-national comparisons of inequality and economic growth, that more unequal societies actually have lower rates of economic growth. The divisiveness that comes out of large disparities in income and wealth, is actually reflected in poorer economic performance of a country.
Typically when countries are more equal, educational achievement and
benefits are more equally distributed in the country. In a country like the United States, there are still huge disparities in resources going to education, so quality of schooling and schooling performance are unequal. If you have a society with large concentrations of poor families, average school achievement is usually a lot lower than where you have a much more homogenous middle class population, as you find in most Western European countries. So schooling suffers in this country, and, as a result, you get a labor force that is less well educated on average than in a country like the Netherlands, Germany or even France. So the high level of inequality results in less human capital being developed in this country, which ultimately affects economic performance.
MM: To what extent is inequality addressed through tax policy?
EW: One reason we have such high levels of inequality, compared to other advanced industrial countries, is because of our tax and, I would add, our social expenditure system. We have much lower taxes than almost every Western European country. And we have a less progressive tax system than almost every Western European country. As a result, the rich in this country manage to retain a much higher share of their income than they do in other countries, and this enables them to accumulate a much higher amount of wealth than the rich in other countries.
Certainly our tax system has helped to stimulate the rise of inequality in
this country.
We have a much lower level of income support for poor families than do Western European countries or Canada. Social policy in Europe, Canada and Japan does a lot more to reduce economic disparities created by the marketplace than we do in this country. We have much higher poverty rates than do other advanced industrialized countries.
There are lots of things that we should do to strengthen our income support system. We can expand the Earned Income Tax Credit, which is now a fairly substantial aid to poor families, but which can be improved.
The minimum wage has fallen by about 35 percent in real terms since its peak in 1968. We should think about restoring the minimum wage to where it used to be. That would help a lot of low-income families.
The unemployment insurance system is in a real mess; only about one third of unemployed persons actually get unemployment benefits, either because they don’t qualify or because they exhaust their benefits after six months. Typically the replacement rate is about 35 or 40 percent. In the Netherlands, the replacement rate is 80 percent. Our unemployment insurance system is much less generous than in other industrialized countries and can certainly be shored up.
Of course, the welfare system is in a total state of disrepair, since it provides very restrictive coverage. Even before the switchover from AFDC to TANF with the 1996 welfare reform bill, real welfare payments had declined by about 50 percent between 1975 and 1996. So we had already experienced an enormous erosion in welfare benefits…
MM: Do you favor a wealth tax?
Wolff: I’ve proposed a separate tax on wealth, which actually exists in a dozen European countries. This has helped to lessen inequality in European countries. It is also, I think, a fairer tax. If you think about taxes that reflect a family’s ability to pay, a family’s ability to pay is a reflection of their income, but also of their wealth holdings. A broader kind of tax of this nature, would not only produce more tax revenue, which we desperately need, but it would be a fairer tax, and also help to reduce the level of inequality in this country.
MM: In broad outlines, how would you structure such a tax?
EW: I would model it after the Swiss system, which I think is a pretty fair system. It would be a progressive tax. In the United States, the first $250,000 of wealth would be exempt from the tax. That would exclude 80 percent of all families. The tax would increase at increments, starting out at .2 percent from about $250,000 to $500,000. The marginal rate would go up to .4 percent from $500,000 to $1 million, and then to .6 percent from a $1 million to $5 million, and then to .8 thereafter.
It would not be a very severe tax. In fact, the loading charges on most mutual funds are typically of the order of 1 or 2 percent. It would not be an onerous tax, but it could raise about $60 billion annually. Eighty percent of families would pay nothing, and 95 percent of families would pay less than $1,000. It would really only affect very rich families.
If you think about taxes that reflect a family’s ability to pay, a family’s ability to pay is a reflection of their income, but also of their wealth holdings. A wealth tax would not only produce more tax revenue, which we desperately need, but it would be a fairer tax, and also help to reduce the level of inequality in this country.
Edward Wolff is a professor of economics at New York University. He is the author of “Top Heavy: The Increasing Inequality of Wealth in America and What Can Be Done About It,” as well as many other books and articles on economic and tax policy. He is managing editor of the Review of Income and Wealth.
The wealth tax is an interesting proposal. This is exactly the type of economic policy discussion the Democrats should be having.
It has been proposed. i.e., letting the Bush tax cuts for the wealthy expire. That tax by the way is mainly the low 15% tax on capital gains and dividends. But since the top 15% own 85% of the stock market, it was quite a gift that Bush gave to the “have-mores.”
The party will be over shortly.
We will see more henny-penny cries from the bankers. The main beneficiary of this government bailout will be the bankers, not the hapless “homeowner”. Republicans are total hypocrites. The billions (trillions?) they have and will give out in handouts to corporations and bankers is appalling. Even when the welfare-giving democrats were in charge they never gave away such sums of taxpayer money. So it is particularly galling that the Republicans are known as the party of “free markets”. Look at Bear Stearns today. That firm should be dead or wheezing its last gasps of air. We should be rejoicing that the “free market” is becoming more efficient by throwing away dead weight. Instead, the Fed bails it out. So much for free markets. Republicans are the worst types of capitalists; crony capitalists. At least socialists attempt to benefit society at large. Republican crony capitalists believe in letting the little guy fall on his face but want the government to step in when the bankers’ profits are imperiled. Every time they claim to be free-marketers they should be openly mocked (especially when they make creepy pledges to free markets like they do on Larry Kudlow’s show).
But the Democrats aren’t much better.
I fear the Democrats will jump in to take advantage of popular anger and do the bankers’ bidding while appearing to help the common man. In fact, the “homeowner bailouts” that have already been adopted and proposed are exactly as I fear. Government bailouts that primarily help the banks absorb their losses and cause more damage than good by artificially propping up markets–or at least attempting to prop up markets.
The best thing Democrats can do is to use popular anger to focus on returning to a basic liberal economic policy. This is something the Democrats abandoned in the 90s and oughts so I doubt they actually will do this. But, to really help they should adopt the Democratic platform of the 60s, not the 90s. Let’s get back to protecting worker rights, progressive taxation, let’s force companies to honor their pension obligations, let’s shore up social security and make our health care system universal. Let’s end corporate welfare and tax loopholes. Let’s protect our environment. Let’s make sure our “free trade” agreements are fair. Most important, let’s curtail the prison and military industrial complexes that have grown to huge proportions. In short, let’s focus on shoring up the American working family, not helping to prop up asset bubbles (like housing) that primarily helps bankers and speculators. Letting housing fall to it’s fair market value is much better in the long run than trying to prop it up.
I suspect the bailouts are ok with the FMFs as long as it’s big biz getting the bailouts. It’s only us wee folk that have to “pull ourselves up by our own bootstraps”
After all.. where was free market fundamentalism when Halliburton got all the Iraqi contracts? and on and on.
If one wants to witness the glory of free market crony capitalism (Bush-style!) one need look no further than Iraq. The free-marketeers (think mouse ears) finally got their chance in Iraq. With the backing of the world’s largest military power and a blank check (now at $3,000,000,000,000 and counting) the free-marketeers sent the nations best and brightest young republicans to turn Iraq into a veritable Ayn Randian hotbed of free market principles. It didn’t turn out so well . . . .