Wealth divergence

I really need to find the time to read Charles Murray's Coming Apart: The State of White America, 1960-2010. A simplistic summary of his broad thesis, as I understand it from a variety of reviews, is that there is rising inequality between income quintiles owing to differences in values and behaviors, in particular related to decisions about education investment and familial structure. His argument is that the actions and behaviors of those in the top two quintiles are empirically different from those in the bottom three quintiles, to the detriment of those bottom three.

I just read a report, Knot Yet by Kay Hymowitz, Jason S. Carroll, W. Bradford Wilcox, and Kelleen Kaye, which looks at what they call the Great Cross Over that has recently occurred, i.e. where the average age of first birth is now lower than the average age of first marriage. The Knot Yet research appears supportive of Murray's observations.

Then there this summary of research from the Pew Center, Richer Rich, and Poorer Poor by Catherine Rampell.

There are two critical graphs. The first looks at income trends between generations (click to enlarge).

The second looks at wealth accumulation trends.

As you can see from the first graph, over a twenty five year span, the median income for all quintiles rose 74-126%. Given that the increase varies by quintile, it does mean that inequality is growing but that is in the context of everyone having dramatically more income. It is important to remember that these are medians for the quintiles not individuals, i.e. while each quintile was getting richer, individuals were moving between quintiles as well.

The news is not so great with regard to wealth in the second graph. While the top two quintiles increased their wealth by 27-29% over the twenty five year period, wealth fell by 5-20% for the bottom three quintiles. Wealth inequality is growing and the majority of people are seeing their wealth fall.

For both income and wealth, there are two factors that interplay at each point in time - exogenous circumstances and individual choices and decisions. You can make dumb decisions in an economy that is growing fast and still come out ahead (any American in the 20th and 21st century and any Chinese in the past thirty years for example). Likewise you can make great decisions and work really hard and come out worse in an economy that is shrinking (any Argentine or Brazilian at any point just about in the 20th century for example).

The interesting thing though is that income is probably more susceptible to exogenous circumstances than wealth accumulation. Wealth accumulation takes a big hit with rampant inflation, material destruction (such as total war), and government expropriation. While these circumstances occur, they are blessedly relatively rare. Optimizing income on the other hand requires constant adjustment based on economic cycles, industry sector ebbs and flows, technological disintermediation, global integration and outsourcing, regulatory change, tax regimes, etc. All of these things happen routinely and usually concurrently. If I am twenty five years old and receive a $100,000 inheritance, I can make a singular decision on that accumulated wealth as to where to invest it and then ignore that decision for twenty five years and come out ahead of the game. On the other hand, I cannot make a singular decision about my career at twenty five and then make no other career decisions. I have to make repeated and constant adjustments along the way to stay in place or move ahead.

Accumulated wealth is also a relatively straightforward concept - you choose to consume less than you earn. That is all that is required to generate an accumulation of wealth. There are of course nuances. There will always be exogenous shocks (medical emergencies, business cycles, raw bad luck) but the probability of those shocks affects everyone and should wash out across the averages. What this implies in a situation where average incomes are all rising, which reflects greater economic productivity, then in a steady state where everyone saves the same percentage, everyone must also show the same rate of wealth accumulation. For there to be a divergence in wealth accumulation in an increasingly productive society, that divergence must be sourced to individual decisions and values. In other words, if everyone has more income but some people have less in the bank account than before, then those people have to be choosing to consume more than they are earning.

This is where Murray's research would seem to tie in. What is happening that is different between the top two quintiles who are increasing both their personal productivity as well as their wealth and the bottom three quintiles where people are increasing their productivity but reducing their wealth? Murray and Hymowitz et al seem to focus on sociological changes in terms of reduced self-discipline, decreased engagement, decreased education achievement, increased single parenthood, reduced percentage of stable families, etc. That likely is a large chunk of the explanation. But are there other elements as well?

I really don't know. I do observe that these trends parallel a rise in the welfare state (not meant pejoratively). The observation is that those OECD countries with the strongest welfare states also tend to have the lowest economic growth and also have markedly lower wealth accumulation. The assumption is that if you are confident that your future health and retirement income will be reliably provided, then economically there is far less incentive to save now. The implication is that if it becomes apparent to the populations affected that their future welfare payments are much less certain to be delivered, we ought to see an increase in saving/wealth accumulation in all quintiles.

The bad news is the decline in quintile wealth. The good news is that with improved decision-making and increased valuation of saving as a value and discipline, these numbers might be turned around quickly.