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Why Income Inequality Is Not A Good Reason To Support Socialism


One of the biggest stories recently has been the re-emergence of socialism, via Alexandria Ocasio-Cortez, the likely next congresswoman from New York’s 14th Congressional District. One of the central planks of her platform, such as it is, has been concern about increasing income inequality.

Many think-pieces have explained why her election would be terrible for America. We could point to the fact that she seems to have no idea what happens in real socialist countries like Venezuela. We could criticize her policy proposals in great detail, such as the unrealistic idea that our nearly bankrupt country could pay for Medicare for All, asking what’s the point of abolishing Immigration and Customs Enforcement, and questioning how we’d fire lazy people in government-guaranteed jobs.

However, perhaps a deeper question is: What if her diagnosis of the problem is just flatly wrong? We can’t fix a problem we don’t really have, and attempting to do so will only make her political opponents cede the ground they’re standing on.

Is Income Inequality a Problem, Or Just Envy?

So it’s worth asking: What is “income inequality”? Income inequality is generally measured by the Gini Coefficient, an attempt to measure a country’s overall income and how it is distributed. A 0 index means everyone makes the same amount of money, and a 1 means one person in a country makes all the income. If you look at a map of the world colored by Gini index, you will see that the worst places on Earth tend to have very high indexes, and most of the best places to live have low ones, with the one conspicuous outlier being the United States.

The intuitive case for why income inequality matters is generally based on statistics that may not be related, as well as concerns about fairness. Essentially, some people think, “Hey, someone’s making a bunch of money, but it seems like it’s always the rich people.” They say the poor need a “living wage” and we should be able to afford it with the aggregate gross domestic product so high.

This way of thinking easily fits in with Marxist ideology, which claims that all profit is a result of exploitation of labor. If this is true, then rising income inequality proves the wealthy are exploiting the poor at a greater and greater rate.

Yet these statistics are largely bogus. Americans do not remain in one income level over their lifetimes. Despite the fever dreams of the radical American left, about 12 percent of Americans will spend a year or more in the top 1 percent of income earners, 56 percent will be in the top 10 percent, and almost three-quarters of Americans will be in the top 20 percent of income earners at some point in their lives, qualifying as “upper middle class.”

As people get older they tend to be in higher income classes, which means that rising income inequality really means experience in a field is paying off more than it used to. Also, given that Americans are greying, with the Baby Boomers at peak earnings and about to retire, the growth in income inequality can easily be a factor of that social trend rather than some nefarious greedy rich people gobbling up all the cash. It is therefore disingenuous to claim that the “rich are getting richer.” We’re all getting richer, and we all have better wealth opportunities than people in just about every other country.

Wealthy People Buy Your Work and Widgets

The other major oversight is that those with larger incomes tend to invest more. This means that, rather than consuming, their money is put to work in our capitalist economy, increasing the marginal productivity of labor, and therefore the wages of the average worker. This is not a fringe belief or voodoo economics, but a standard analysis. This should mean that income inequality is self-correcting. It expands for a while, then the aggregate investment causes the wages of lower-paid workers to rise over time and close the gap.

If this is true, then why have we not seen wage growth along with the rising income inequality? There are several factors to account for. First, our artificially low interest rates discourage savings, and therefore real investment. When safe assets pay virtually nothing, there is essentially no reason not to consume immediately.

The “time value of money” is essentially equal to the expected return on capital. If that dips below a person’s time preference to consume, they will consume rather than invest. Low interest rates also encourage debt accumulation. Things can be bought now rather than later for pennies on the dollar, so consumption rises. Prices of long-term investments skyrocket because the barrier to purchase property or equipment is very low, increasing demand for those items.

A Welfare State Discourages Putting Money to Work

Second, we no longer have a culture of multi-generational investment. The idea of the 4 percent rule is that a retiree will ideally end up like Saul Bloom in “Ocean’s Twelve,” who declares, “I want the last check I write to bounce.”

Of course, if you eat up all the capital you invested in the economy before you die, future generations are robbed of that potential productivity gain from allowing that money to continue to work for generations to come. Since most people have the highest income right before they retire and set about consuming everything they worked their lives to save, it makes perfect sense that the current income inequality would not have resulted in much wage growth.

If we want real wealth and wages to increase, the problem is not the rich making too much money and the answer is certainly not redistributing it at the point of a gun. That’s how you get Venezuela. The answer is to fight against the vapid consumerism that has inundated our culture and get back to the foundational ideas of our capitalistic economy, that work is a necessary and rewarding part of life, that idleness and hedonism are wasteful and morally bankrupt, and that we have a responsibility to pass our values and wealth on to the next generation.

What stands in our way is a welfare state that discourages personal responsibility by taking on more and more of the functions of charity and self-discipline through taxation and redistribution according to the priorities of the politically powerful, rather than according to the needs of local communities. Retirement programs discourage children from caring for their parents and discourage parents from maintaining relationships with their children. They have encouraged three generations to stop worrying about being responsible in savings and to instead vote themselves bigger paychecks from other their grandkids’ pockets.

Anti-poverty programs have taken away the incentive to stay connected in personal community so charity will be forthcoming when you are in need, and replaced it with a faceless bureaucracy that rewards people on the basis of statistical analysis rather than the content of their character.

The incentives are already against us, and if we pursue more extensive welfare states, we will only see greater and greater economic stagnation as the years of debt, corruption, and broken social ties continue to compound. It is difficult to remember sometimes that we have only seen 70 years or so of significant welfare. There is no reason to say that because the global economy has failed to collapse so far that it is immune to collapse in the future. Snapshots taken of a flying machine pushed off a cliff look like it’s flying up until it hits the ground and kills the driver.