ECONOMIC ANALYSIS: Time for a little schooling on income inequality

October 22, 2007

A reader in South Bend recently argued that attention to growing wage inequality in the country should be part of these economic discussions. He is right-and given the proximity of the presidential election, we are all going to hear plenty about it. Here's a bit of economic analysis of the situation.

By itself, income data can tell a misleading story. The United States enjoys significant income variability over an individual's life cycle. So, a snapshot across one year tells us more about the size of age groups in the country than of our economic wellbeing. However, there is strong evidence of a widening income gap between the wealthiest and poorest among us. Further, the ability to jump from poverty to riches may be weaker now than in recent generations. That motivates a discussion of the good and bad of income inequality.

First, the belief that there should be no income gap between individuals is childish. The market forces that make income differences are ultimately what motivate our successful economy. The pursuit of a higher salary needs no apology. Does anyone really believe we'd have the number of doctors we currently enjoy if they were paid the same as a short-haul truck driver?

Embracing the good that income differences provide the U.S. economy does not erase the badness of poverty. Before talking about policy, understanding why the differences exist is critical.

There are many small causes for inequality in America. These include immigration and a growing elderly population (both groups make less money than average). However, the largest and fastest-growing source of inequality is due to the supply and demand of educated workers in the United States. Here's how it works.

According to research by two Harvard economists, Claudia Goldin and Lawrence Katz, demand for college-educated workers has grown over the past half century, but really exploded in the 1980s. The cause is tough to pin down, but they attribute the demand growth to the computer revolution and other workplace factors.

Goldin and Katz also looked at the supply side of the problem. They found that the advancement of public education and the growth in skills it brought narrowed the wage gap throughout the 20th century. However, by the 1980s, the relative quality of high school education (which has stalled for 35 years) combined with slowing growth in college-educated workers strangled the supply of highly skilled workers.

As any introductory economics student knows, the combination of lower supply and greater demand leads to a price increase. Inevitably, the wage premium for a high school diploma doubled in 50 years and that for a college degree rose 60 percent.

Education, then, is perhaps the central key to altering the growing income gap between rich and poor. It should be no surprise that this is a widely unpopular conclusion, for there's no easy fix, and widespread blame.

One thing is certain: The further we get from confronting this truth, the harder the fix.

Hicks is director of the Bureau of Business Research at Ball State University. His column appears weekly. He can be reached at bbr@bsu.edu.
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