Wealth Inequality Expands in Aftermath of Downturn

Wealth Inequality

We are getting a real lesson in how economic downturns disproportionately effect those less well-off economically. We need to be very careful not to make this worse on purpose.

It should not surprise us to learn that the current economic downturn caused by locking down our economy to attempt the slow the spread of COVID-19 has had a greater relative impact on those less well-off prior to this event.

Given the approach we have taken, to shrink the economy as much as we have, having this happen is unavoidable. When we shut down most of the retail sector like we have, and with such a high percentage of these workers being in the bottom ranks of wage earners already, being without a job is going to hurt.

These lower wage earners will also bear the brunt of the job losses in the aftermath, as the places that they worked for, especially smaller businesses in the retail sector, those who work in face to face businesses at the point of consumption, have been disproportionately affected as well, with many of these businesses simply unable to survive the crisis.

It does not require our looking at any statistics to measure this, even though there are plenty to reference, as all of this is very predictable and we don’t even need any prior knowledge or expertise to do so. All we have to do is imagine so many already struggling to get by paycheck to paycheck, then take their jobs away, and take quite a few away longer-term, and it is easy to see how this group of people are going to be particularly hurt by such a thing.

As far as wealth goes, these folks will be on the lower end of the spectrum and having such a high percentage of them out of work now will serve to deplete their savings and take them further away from the high wealth people that they get compared to.

When we chose this course, these drastic measures to curtail business, knowing full well this will happen, you can’t blame the system for it, and if there is any blame that is to be handed out, it can only rightly fall on officials who chose to lay this beating on these people and all of us to some degree or another.

When we ask these officials what they were thinking, they will have to admit that they really weren’t, as economic fallout just didn’t come up at the time, they just closed their eyes to this and followed the wishes of public health officials who freely admit that they know nothing about economics and were only focused on things like preventing hospitals from exceeding their capacity.

We didn’t even come close to that as it turned out, and this was a false alarm based upon some very bad forecasts, but the damage has been done and how we’re faced with trying to fix it. One of the effects of this is seeing radical socialists’ rail even harder against capitalism, especially with their preoccupation with the wealth gap, which presents real dangers in itself and has the potential to punish these people even more rather than helping them, by the same mechanism as the lockdown did.

We may start out wondering why wealth inequality in itself should even come up during these times, but if you are already angry about something and then see what you are upset about worsen, so will your anger. Why someone sipping champagne on a yacht while so many cannot make ends meet matters from a practical standpoint is a question that does need to be examined adequately though, and this is at the heart of their trying to frame this in terms of equality.

It is perfectly fine and even required that we address the fate of everyone, including and perhaps especially including those on the bottom end of the wealth scale, in search of workable solutions that will both benefit them and the economy as a whole. The stimulus money and the extra unemployment benefits that have been doled out recently is an example of this, and while we may claim that we are fixing damage that should not have been created, we created it and helping people out in this matter helps both them and our economy.

We do need to be careful here though in our response, and people citing the wealth gap getting worse are chomping at the bit to look to force their idealism upon us, and given that this idealism is founded upon a poor understanding of economics, we need to be very careful that, like the economic response to the pandemic, the treatment doesn’t just make the situation a lot worse.

We throw the concept of equality around very loosely, without even thinking about it. We can rightly claim that people should be treated equally under the law, which we could call procedural equality, but beyond that, equality of circumstances, we are not equal nor should we ever wish to pretend that we are.

This hasn’t stopped us from trying, and the failures of communism should teach us that all the pursuit of economic equality does is lower everyone down to the levels that these people find so intolerable. We also need to be aware that partial measures that seek to do this will make things worse as well, by reducing the level of incentive at the micro level which brings down people both at the micro or individual level and at the macro or collective level.

When these things are left to the free market, and the free market decides on differentiations of economic equality, we are at least striving for maximum efficiency overall, although this does not mean or require that we completely let this play out without intervention. Modern economies do have their socialist elements, their progressive tax rates and their social safety nets, which can serve to help those less well off, but we need to be careful to not cross the line to the other side with these efforts make the people we want to help worse off instead.

The Wealth Gap Isn’t the Problem, People Not Having Enough Wealth is the Problem

The real reason why wealth inequality comes up so much, including now, is that people are eyeing those in the upper range of wealth as presenting opportunities to take more from the rich and give it to the poor, Robin Hood style. Oddly though, the focus is just on taking from the rich, and the giving to the poor is often not even discussed very much, as punishing the rich has become an end in itself.

We already have a fair bit of this going on already, even though you do have to step back to see how socialist we actually have become, not weigh this against more radical socialist ideals that we are well short of. It is fine and understandable that we should be seeking out ways that we can better ourselves overall, but we cannot become so drunk with our idealism and so ignorant toward the economics of the matter that we unwittingly seek to harm ourselves even more by way of our agendas.

As we continue on our path towards healing our economy from this siege that we put it under, a new danger is emerging more and more, the danger that we will move toward more of a left-wing taxation scheme which will have similar effects on all of us, especially the less well-off, as the lockdown did. We won’t see this on quite the same scale, as this lockdown is a hard act to follow in terms of doing damage to the economy, but lockdowns and higher taxation both shrink the economy and shrinking the economy is not something we should want in any significant measure as it harms everyone, the rich, the poor, and everyone in between.

From a philosophical perspective, there are two competing views here, the free market approach that views the free exchange of wealth as being self-validating, and the socialist view that the state has priority in these matters and is entitled to seize wealth in various amounts to further their political goals. Whatever side we choose and whatever courses we pursue, to whatever degree, is a matter of political debate, but no matter which side we are on, we cannot escape being subject to the economic consequences of these decisions.

Not surprisingly, the current crisis has caused those who already want to tax the wealthy more to shake their fists even more in defiance, and they point to the wealth gap as an opportunity to slap higher taxes on those with the ability to pay more tax. If your goal is to lower the wealth gap, that can even seem to be a good way to do it, at least if you have no real understanding of what the consequences of this would be.

A top down approach here may seem to narrow the gap, although there isn’t even any point of knocking down the people on the high side to lower them closer to the lower end, because that doesn’t help those who have less, and it actually ends up with them having even less as it turns out. The only way to do this is to look to help those who have too little wealth build more, while at the same time realizing that there will always be a pretty big gap and this is perfectly natural.

There may be some good ways to help those who are struggling more, but this idea is not one of them, but if we don’t realize this, we may do it anyway, and very likely would, given how few people really understand how these things work. In a democracy, the majority rules, even when the majority is completely ignorant.

Ideally, we would have a more equitable distribution of wealth than we do now, and the claims that an economy is better off with a bigger middle class than a smaller one is certainly true. How to achieve this without bringing down all boats is where the challenge lies though, but we have to realize how certain measures that we may think on the surface as making us better off in any sense does lower all boats before we can have an intelligent discussion about this.

Our level of ignorance overall is well demonstrated by the hare-brained idea that increasing corporate taxation rates will benefit us overall, or even benefit those less well-off. This strategy actually has the reverse effect of a progressive tax, where it raises the cost of everything for everyone, but impacts people in proportion to their income, with lower income people feeling it a lot more given that this additional tax that now needs to be paid represents a higher proportion of their income.

Consumption taxes work in the opposite way of progressive income taxes. The goal of progressive taxation is to seek to have higher earners pay a higher percentage of their income to tax, where consumption taxes have lower income people pay a higher percentage of theirs to tax.

If you don’t think beyond the level of just the companies paying more, where somehow this is the end of it and market forces don’t play any role and this tax somehow doesn’t get passed down to end users of whatever these companies are selling, this may be able to pretend for a while that there won’t be a price to pay downstream, that they aren’t looking to harm everyone and especially the people they want to help, but when confusions about reality and actual reality meet, reality wins every time.

Taxation Beyond Our Economic Capacity Is A Sure Way to Make us All Worse Off

There is another big drawback to this, a more systemic one, which is the contractory nature of higher taxes themselves. This is invoked every time we seek to raise taxes, and if we ignore this effect as well, which the pro-tax people do every time, we can really knock down our economy and lower each and every boat with precision.

All taxation limits our economy by its very nature, even though there is a certain amount that is necessary to fund governments. It’s not that we succeed in funding governments though taxation alone, and instead rely on deficit financing for a lot of it, and we have well passed the point of no return where we could ever pay back our debt and fund our government spending by collecting taxes.

The reason why not is because the economy can only stand a certain amount of taxation, endure a certain amount of contraction, before it contracts too much and puts us in a recession all by itself. We could easily create an enduring recession of any length simply by taxing too much, and ironically, this wouldn’t just trash the economy, it would also reduce the amount of total tax collected as well even though the tax rates may have increased significantly.

We can therefore think of the ability of an economy to still prosper as being a strict limitation on how much we can tax it and get away with it, our capacity for taxation in other words, and we were really at the limits of this already before this recent crisis. The crisis has served to reduce this capacity significantly, at least while we heal from it, and it could take quite a while before we are fully healed and back to being very close to our taxation capacity if we just keep current tax regimes.

There is never a good time to exceed our capacity for taxation, but there may be no worse of a time to do this than now, with our economy already so bashed in. There are times where we really do want to contract our economy, when it is running too hot and the Fed uses hawkish monetary policy to cool it off, but this is certainly not one of those times, nor did we have that luxury prior to this crisis either.

In theory, we could use taxation rates in the same variable manner that the Fed uses monetary policy, but changing tax rates require approval of Congress. This involves more than just the difficulty of passing bills versus the Fed just raising their mighty hand and making the needed changes, as those in Congress have various other political agendas besides doing what is best for the economy, and avoiding these things interfering is why the Federal Reserve requires political independence.

If we had the capacity and sought to take advantage of this by raising taxes, such a scheme to work properly would need to be subject to review based upon changing economic circumstances. If the battle cry is simply to tax the rich based upon ideological preferences, we not only may go too far even when we can do more, we will also be more hesitant to retract these hikes when needed, being willing to sacrifice our economy and well-being to these ideals that become a terrible idea later.

We therefore need to be careful that whatever tax changes we propose are actually sustainable and do not do more harm than good both now, and in the future, and especially need to be careful not to make the bad situation that we are in now worse.

We are likely set to get at least a good taste of the harm that higher taxation can have upon an economy without the capacity to absorb it without a notable contraction given that Joe Biden is so far ahead in the polls. While Biden may not be prepared to go to the extremes that other candidates would, raising taxes at all, especially raising the corporate tax rate that is a certainty if he wins, is going to come with a real price, especially among the more prone segment that people have become even more concerned about now.

We actually would be at the end of the current business cycle as so many believed if not for the big cut in corporate tax rates that President Trump championed in 2017, and undoing these benefits will allow for the natural deterioration in the economy that occurs when we keep escalating borrowing to the point where it is no longer sustainable at these levels and we contract.

Biden was enough of a threat to the economy before all this happen, but his plans on raising taxes are set to have an even more dramatic effect now, at a time when we are already in a recession and don’t really need him piling on more burdens with actions that in themselves will harm us.

If we really want to help people on the low end of the wealth scale look to build more of it, we need to ensure that our actions first and foremost don’t make their fates worse. Anything that contracts our economy is not going to go well for anyone, including those on the lower end of the wealth scale.

The foundation of building wealth is spending less than you make and then setting the rest aside. Those with more modest incomes aren’t going to be able to save as much as those who make more, and some who barely make enough to make ends meet may not be able to save much at all, but a lot of people with no wealth could do much better at this and simply spend too much money and save too little.

Perhaps the government could do more to help people save by giving them more incentives, such as deferring tax on regular savings like the way we allow them to defer tax on their retirement income, but so many people not only fail to save very much for retirement, where accumulated wealth has its biggest impact, they even walk away from sweet deals like employer matched contributions due to the temptation of spending it all now, and therefore we should not be surprised when these people are left with virtually nothing to show for a lifetime of work.

When we take an honest look at the people with little or no wealth, the leading cause by far is that they just spend everything that they make. When we compare Americans with people from other cultures who are not so infected by the spending virus, we see that those of modest means are still able to build considerable wealth over time, because they are more conditioned to save.

Instead of shaking our fists at Bill Gates and his kind, we need to be directing our anger at something more constructive, like helping people to save more. If people want a better fate, there is no substitute for their first choosing it and they certainly could use the encouragement and a greater understanding of how much they may be discounting the future in favor of instant gratification.

We also need to be careful not to take actions which are likely to put down the value of stocks, like new taxes for instance. Aside from the negative economic effects of this, we need to realize that a great deal of Americans of even modest wealth depend on stocks to achieve their retirement goals, and when we put the market down due to not caring enough about this, we won’t be hurting the fat cats who will have plenty to fall back on, but we’ll really be hurting a lot of average Americans who are all a part of the majority who do not have enough to retire on now and really cannot afford to get by on even less in our eagerness to show our contempt toward the stock market.

These are difficult times that we are in right now and it has become more important than ever to do the right thing and especially not intentionally make things worse, even out of ignorance, which can never be a good excuse. We need to always ensure that our idealism is grounded in reality and sense and limit change to achieve whatever goals we seek to what makes sense.

This will require that those who have become drunk with idealism to sober up enough that they actually think first before they act, lest we learn the hard way from their mistakes, and we’ve learned enough the hard way from the price of the lockdown to want to add more pain to this on purpose.


Editor, MarketReview.com

Monica uses a balanced approach to investment analysis, ensuring that we looking at the right things and not confined to a single and limiting theory which can lead us astray.