Joseph E. Stiglitz, winner of the 2001 Nobel Prize in economics, was chairman of President Bill Clinton’s Council of Economic Advisers and chief economist of the World Bank. He is most recently the author of “The Price of Inequality: How Today’s Divided Society Endangers our Future”
The United States is in the midst of a vicious cycle of inequality and recession: Inequality prolongs the downturn, and the downturn exacerbates inequality. Unfortunately, the austerity agenda advocated by conservatives will make matters worse on both counts.
The seriousness of America’s growing problem of inequality was highlighted by Federal Reserve data released this month showing the recession’s devastating effect on the wealth and income of those at the bottom and in the middle. The decline in median wealth, down almost 40 percent in just three years, wiped out two decades of wealth accumulation for most Americans. If the average American had actually shared in the country’s seeming prosperity the past two decades, his wealth, instead of stagnating, would have increased by some three-fourths.
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In some ways the data confirmed what was already known, but the numbers still shocked. We knew that house prices — the principal source of saving for most Americans — had declined precipitously and that trillions of dollars in home equity had been wiped out. But unless we understand the link between inequality and economic performance, we risk pursuing policies that will worsen both.
America has “excelled” in inequality since at least the beginning of the millennium. Inequality is greater here than in any other advanced country. The data remind us how a combination of monetary, fiscal and regulatory policies have contributed to these outcomes. Market forces play a role, but they are at play in other countries, too. Politics has much to do with the difference in outcomes.
The Great Recession has made this inequality worse, which is likely to prolong the downturn. Those at the top spend a smaller fraction of their income than do those in the bottom and middle — who have to spend everything today just to get by. Redistribution from the bottom to the top of the kind that has been going on in the United States lowers total demand. And the weakness in the U.S. economy arises out of deficient aggregate demand. The tax cuts passed under President George W. Bush in 2001 and 2003, aimed especially at the rich, were a particularly ineffective way of filling the gap; they put the burden of attaining full employment on the Fed, which filled the gap by creating a bubble, through lax regulations and loose monetary policy. And the bubble induced the bottom 80 percent of Americans to consume beyond their means. The policy worked, but it was a temporary and unsustainable palliative.
The Fed has consistently failed to understand the links between inequality and macroeconomic performance. Before the crisis, the Fed paid too little attention to inequality, focusing more on inflation than on employment. Many of the fashionable models in macroeconomics said that the distribution of income didn’t matter. Fed officials’ belief in unfettered markets restrained them from doing anything about the abuses of the banks. Even a former Fed governor, Ed Gramlich, argued in a forceful 2007 book that something should be done, but nothing was. The Fed refused to use the authority to regulate the mortgage market that Congress gave it in 1994. After the crisis, as the Fed lowered interest rates — in a predictably futile attempt to stimulate investment — it ignored the devastating effect that these rates would have on those Americans who had behaved prudently and invested in short-term government bonds, as well as the macroeconomic effects from their reduced consumption. Fed officials hoped that low interest rates would lead to high stock prices, which would in turn induce rich stock owners to consume more. Today, persistent low interest rates encourage firms that do invest to use capital-intensive technologies, such as replacing low-skilled checkout clerks with machines. In this way, the Fed may still be contributing to a jobless recovery, when we finally do recover.