Wealth Inequality in America: The Problem, Its Cause, and a Solution

America is facing a wealth problem. The problem is not a lack of wealth; it is that the wealth is too concentrated in the hands of a few. Saez Zucman researched just how concentrated the wealth is, and her results are startling: the top .01% of Americans control about six trillion dollars; that is the same share that the bottom two-thirds of Americans have (qtd. in Coy). The wealthy have been able to accomplish this by acquiring large amounts of capital through higher wages, investing this wealth and receiving a high return, and by keeping wealth within the family by passing it on to the next generation. Politicians, particularly democrats, have continuously preached about combating wealth inequality, but it has become clear that there is no easy solution. Although there is not one clear-cut solution, a step in the right direction would be for the government to lower the wage ceiling by curtailing excess and to raise the floor by creating opportunity for the majority. The ceiling can be lowered by implementing a tax on the ultra rich’s net worth and a permanent increase of the capital gains and estate tax; the floor can be raised by using this extra tax revenue to subsidize a free college education to those who cannot afford it.

America has been characterized in the past century as a land of freedom, opportunity, industry, and with the rise of Silicon Valley, a center for technological innovation. One thing that has been left out of America’s history, however, is its wealth inequality. Ever since opportunity arose, so has inequality. As the economy grew rapidly in the 1920s and 2000s, so did the rich’s share of the nation’s income and wealth: “In 1928, the top 10 percent of earners received 49.29 percent of total income. In 2007, the top 10 percent earned a strikingly similar percentage: 49.74 percent” (Story). Wealth inequality was similar in each time period as well: the top ten percent controlled nearly eighty-five percent of the national wealth in 1928, and over seventy percent in 2007 (Saez, Zucman). These extreme fortunes have been made possible through a combination of relaxed government policy and a large disparity in wages and inheritances between the rich and everyone else. A twentieth century example of this can be seen in John D. Rockefeller. At the time of his death, his wealth was equivalent to one and a half percent of America’s total economic output, or 340 billion dollars in today’s valuation (O’Donnel). In the twenty-first century, six members of the Walton family, famous for creating Walmart, have become the new Rockefeller. Sylvia Allegretto estimated that they controlled as much wealth as the poorest one hundred million Americans combined (qtd. in Kotler 34). Just as America has maintained its characteristics of freedom and opportunity, it has maintained its wealth inequality.

When such a large percentage of the nation’s wealth is in the hands of so few, the actions of those few have large effects on the nation as a whole. This is exemplified in the economic crashes of 1929 and 2007. Just one year after the top ten percent controlled over eighty percent of the national wealth, America faced what became known as the Great Depression. On October 24, 1929, the Dow Jones Industrial Average dropped by eleven percent and the Great Depression began (“Black Thursday”). Its effects were astounding: fifty percent of banks failed, unemployment reached twenty-five percent nationally and fifty percent in areas that were already poverty-stricken, and the Dow Jones Industrial Average had shed ninety percent of its value at one point (The Great Depression; Goldman). Many economists point to the government’s relaxed regulation of the stock market along with a small group of people who took large risks as a major cause of the crash. The government allowed people to buy stocks on margin, and people were greedy enough to do it. Buying on margin is a practice that involves borrowing money from a bank in order to buy a stock. For example, if I wanted to buy ten thousand dollars worth of Apple shares but only had one thousand dollars, then I would borrow nine thousand dollars from the bank and have to pay them back with interest when I sell the stock. This method would have worked for investors, but only if stocks rose. When stock prices dropped, however, people who were rich on paper became bankrupt when they could not pay back their loans, and banks defaulted because they had loaned out so much money for margin purchases. Despite that the rich already controlled much of the nation’s wealth, their desire for more combined with government’s relaxed regulations contributed to a collapse that affected everybody.

Just eighty years later, the same combination of high wealth inequality, deregulation, and capitalist ambition led to what became known as the Great Recession. Wealth inequality had just reached new highs, and the government deregulated the banking industry by repealing an important section of the Glass-Steagall Act. The Glass-Steagall Act was created after the Great Depression to prevent another economic collapse from happening.  It created the FDIC to prevent runs on banks and limited what commercial banks could do with their deposits. Prior to the Glass-Steagall Act, banks would be allowed to take on risky investments with their deposits such as loans for margin purchases. After the Glass-Steagall Act, a bank that took deposits could only invest in government bonds, and if a bank decided to invest in securities, or riskier investments with higher potential returns, then it could not take deposits. For nearly seventy years, this law prevented commercial banks from being too exposed to risk, but the Clinton Administration repealed the section of the Glass-Steagall Act that regulated banks’ investments. Less than ten years later, perhaps unsurprisingly, the economy tanked. An average of 700,000 Americans lost their jobs each month, and, “Over 60% of U.S households experienced a decline in wealth” (Looney and Greenstone; Mckernan and Ratcliffe). This sudden decrease in a booming economy was caused by the total disregard of sound investing policies—banks failed to diversify as they invested huge sums of capital in mortgage backed securities and subprime mortgages, and the banks and consumers were misled in a belief that everyone should own a home even if they could not afford one because prices would continue to skyrocket. Banks were giving out subprime mortgages, a mortgage given to a person with a poor credit score that carries a higher interest rate, and this greatly increased their risk. After selling subprime mortgages, the banks would then group them together and rate their risk to default. Banks would sell these blocks of mortgages (mortgage backed securities) to other banks and investment groups. This created a complex web of loans whose repayment was dependent on people paying mortgages that they could not afford. When reality caught up to the homeowners and their banks, the entire system crashed. Banks and investment groups were suddenly stuck with billions of dollars in mortgage backed securities that they had invested in with loans. Everyone suddenly realized that giving out mortgages to anybody who asked and then selling these mortgages as “sound” investments may not have been the best decision. Once again, the banks’ desire to increase profits and the government’s decision to deregulate the market led to an economic collapse that affected a majority of Americans.

In each scenario, the ability for rich investors to have too large of an influence on the national economy led to a national collapse. The top ten percent chose short term profits over long term stability, and while they reached unseen levels of wealth, the majority of Americans never enjoyed the prosperity and only ended up suffering when the system crashed. According to a report done by the IRS in 1929, over three quarters of Americans lived on less than five thousand dollars a year in 1928 (“Statistics of Income”). This caused a huge disparity in stock ownership. According to a piece by Chris Trueman, a graduate of Aberystwyth University with an honors degree in history, only one million Americans owned stocks in 1929 (Trueman). So while a large majority of Americans were barely making a living wage, the decisions of the extremely rich led to widespread suffering for all. The year 2007 was not much different: the bottom fifty percent owned less than one percent of America’s investments in stocks, bonds, and mutual funds while the top ten percent accounted for over ninety percent of the ownership (Jilani). When greed and deregulation caused a collapse, it caused an economic decline for everyone despite the fact that barely anybody received a benefit in the years prior.

The correlation between income level and stock ownership is important not only because it causes economic collapses, but also because it is one of the primary causes for wealth inequality as a whole. Thomas Piketty outlines wealth inequality throughout modern history and in various different societies in his book, Capital in the Twenty-First Century (2013). According to Piketty, the rich have come to acquire so much money because their return from investments are higher than the growth rate of the economy. The rate that investments return compared to the economy is shocking: according to CNN Money, the Dow Jones has increased forty percent in the past three years, but America’s Annual GDP hasn’t risen more than two and a half percent in any of the past four years (Gillespie). Based off the fact that the rich own nearly all the stocks, bonds, and mutual funds in America, they are the only ones who benefit from the stock market’s gains. This can be seen in the sources of income for the members of Forbe’s Top 400. The richest 400 Americans acquired nearly half of their income from long-term capital gains and dividends in 2009 (Novack). This clear correlation between wealth and stock ownership is one of the primary reasons that the rich will continue to get richer while everyone else faces near stagnant growth, and it will not change until the average American is able to join the investment class.

So, how do we get average Americans to join the investment class? The clear answer is that they need to invest money in order to join the investment class, but the problem that arises is where they are to get the capital to do so. According to Piketty, the sources of this capital are wages and inheritances. Unfortunately for most members of the working class, wages have increased less than three percent from 2000 to 2007 and have decreased from 2007 to 2012 (Shierholz, Mishel). This wage stagnation has made it impossible to have any disposable income to invest due to the fact that laborers are facing higher costs of living without receiving increased wages to compensate. Inheritances are just the opposite. According to Piketty, inheritances are the key to creating wealth because receiving a large sum of money creates the opportunity for investment. This is where the rich differ from the rest of Americans. Most Americans do not have large trust funds waiting for them because their parents are facing wage stagnation and higher costs of living. The rich, however, are able to save their excess wages, invest these wages, and pass them on to their heirs. The effect is clearly demonstrated by looking at the average wealth of the elderly: in 2010, eighty year olds were worth over thirty percent more on average than when they were in their fifties according to table 11.1 found in Thomas Pikkety’s book, Capital in the Twenty-First Century:

So take two individuals; one is worth fifty-thousand dollars at age fifty, and the other is worth five million. The first individual will be worth approximately sixty-five thousand dollars at the time of his death, or not that much to split amongst their heirs after funeral expenses are covered. The heirs of the second individual, however, will be left with over six and a half million dollars at a young age to invest and see grow over time. Over time, this system of inheritances has allowed families that began wealthy to grow into dynasties. So the real answer  as to how to get Americans to join the investment class is to create opportunities for them to earn more income—such as providing a free college education—in order for them to join the investment class and leave a more substantial inheritance for their heirs.

While increasing the wealth of more Americans is a step in the right direction, the government should also decrease the wealth of the already rich in order to help compensate for decades of inequality. Effective ways to do this include creating a tax on the ultra rich’s net worth, and to tax capital gains and inheritances at a higher rate. The tax on net worth will help account for the decades of high inequality, and the increased taxes on capital gains and inheritances will help slow it down permanently. The concept of creating a tax on net worth is not new. In 1999, Donald Trump proposed a tax of fourteen and a quarter percent on individuals and trusts worth more than ten million dollars (Hirschkorn). Although this is a step in the right direction, it has a flaw insofar as a one-time tax does not account for the fact that the rich will earn all of this money back in a few years from their return on investments. If the government were instead to implement an annual tax of one percent of the net worth of everyone in the top one percent, it would generate more revenue for the government in the long run, would make it harder for huge amounts of wealth to be amassed, and would effect very few people. Increasing a tax on the capital gains and estate tax will further help limit future wealth inequality by decreasing the rate of return from investments. The current capital gains tax stands at fifteen percent for investments held over one year, and the estate tax maxes out at forty percent (Spiegelman). The government should raise these to twenty-five and sixty percent respectively. Although some will argue that this will make investments less appealing and that it is unfair to tax the rich so high, this is necessary in order to curb the growing income inequality. The rich will still invest their money because it makes more sense to invest and be taxed at a higher rate than to not invest and lose money to inflation. The rich will also still leave inheritances no matter how high the tax rate because passing on a smaller portion of their wealth is still better than passing on none at all. Implementing these steps will decrease wealth inequality for the betterment of all Americans without having a drastic effect on the daily lives of the rich.

In order to make investing achievable for the average American, the government has to create opportunities for Americans to have more disposable income to invest. The answer is a free college education. College education in America is failing: just over thirty percent of people ages 25-34 have a college degree (Schmitt, Boushley). This is an extremely low number considering just how important a college degree is. In 2013, Americans with a four-year college degree earned nearly one hundred percent more than people without a degree compared to an increase of only sixty-four percent in the 1980’s (Leonhardt). This one hundred percent increase in earnings equates to nearly one million dollars more in lifetime earnings (Longley). Considering that it costs just one hundred thousand dollars to provide four years of college education, it makes no sense why the government cannot afford this (Hamilton qtd. in Garner). I say “only” one hundred thousand dollars for two reasons: because a one percent tax on the net worth of the top one-hundredth percent of Americans alone will generate sixty billion dollars per year, and because every college graduate will pay enough extra income taxes over their lifetime to pay back the government for their investment in education. (Zucman qtd. in Coy). There is no downside to creating a free, federal college—the government will bring in more revenue, America will reap the various benefits of having more educated citizens, and an increase in disposable income provided by a college education will give people the opportunity to join the investment class.

There is no single answer that can completely solve the problem of wealth inequality because if there were, then there would not be any wealth inequality. The solution that I have provided is not perfect, but it is a step in the right direction. It is the government’s job to do what is best for the country, and this solution does that without having major negative effects. George Bernard Shaw put it best when he said, “If history repeats itself, and the unexpected always happens, how incapable must Man be of learning from experience.” History has made itself clear. An economic crash has happened twice in the past hundred years. It is time for the government to do something before it happens for a third time.

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