The Causes And Solutions For Rising Income Inequality

Mark Thoma lists many of the causes of rising income inequality along with some of the solutions.  Its hard to argue with the items of the lists that he provides.  He makes an effort to provide new information by telling us that we don't have perfectly competitive industry markets.  Most industrial markets are imperfectly competitive, and some firms are able to produce monopoly profits which are unequally distributed.  He concludes that the monopoly profits would be more equally distributed between workers and top management if workers had more bargaining power.  Thoma's heart is in the right place if one believes that it would be desirable to decrease income inequality.  However, his analysis is not helpful.  In the first place, he offers no method for increasing the bargaining power of labor.  Moreover, most economists understand that we do not have perfectly competitive markets and there is no way to make them perfectly competitive. Thoma does tell us something that we do not already know. Its also the case that profits are unequally distributed between management and labor even in firms that have a smaller share of industry profits.  This is easily explained by our system of corporate governance in which CEO's determine the structure of corporate boards that determine executive compensation. Top managements in highly profitable firms may make more money than executives in less profitable firms, but top executives in less profitable firms typically receive a similar share of the compensation pool.

Given the structures of our institutions the prevailing pattern of income distribution is not likely to change.  Investors are less concerned about the share of the compensation pot going to top management than they are about shrinking the total cost of compensation.  Many believe that tough managers who are willing to cut total costs earn the large share of compensation that they receive.  Top management compensation is increasingly in the form of stock options and dividends which are taxed at a lower rate than earned income.  That encourages management to use a larger share of retained earnings for stock buybacks and dividend payouts.  Government tax policies have had a major effect on income distribution.  Thoma seems to be unaware of this relationship.