The Politics of Rich and Poor, by Kevin Phillips
Just when you thought it safe to go into the water again . . . the malaise is back. Ronald Reagan was supposed to have driven a stake through the heart of Jimmy Carter’s infamous speech about how bleak was America’s future. But no. Malaise II is now appearing in your news magazines (Time ran a cover story of George Washington crying), on your airwaves (a recent Dan Rather commentary all but repeated the Carter speech), and in your bookstores (the new book by Kevin Phillips).
Here is a sampling of Phillips’s version of malaise: American politics is “bankrupt,” “brain dead,” “rudderless,” “a joke,” and on the edge of “developing national unease.” The reason? During the Reagan years, and largely because of the Reagan policies, the rich got richer. The people are mad as hell and they won’t take it any more, but politicians don’t know what to do—they have just “danced around the edges” of the problem. As a consequence, we are on the verge, the dust-jacket blurb promises us, of a “watershed change” in American politics.
Once you get past the op-ed rhetoric, what you find in support of this view is a combination of bad economics, dubious political science, and irresponsible policy advocacy. I do not say that the country faces no economic problems, that politicians are bravely and candidly confronting these problems, or that no major electoral change is in the offing. All I assert is that, despite much arm-waving and the selective use of many statistics, Phillips does not come close to establishing his version of that scenario.
That version runs as follows. First: income inequality increased during the 1980’s. Second: Reagan’s policies were chiefly responsible for this. Third: having more affluent people is a bad thing. Fourth: smart politicians should follow Phillips’s advice and campaign on populist, egalitarian themes. Let’s look at each part of the argument.
1. Have the rich gotten richer? Yes. The families whose incomes put them in the top 1 percent reported receiving a bigger share of all income during the 1980’s than they had during the 1970’s: from 9 percent in 1980 to 11 percent in 1988. Wealth statistics show bigger changes than income data: the number of millionaires (adjusted for inflation) doubled between the late 1970’s and the late 1980’s. And the inflation in the salaries of the highest-paid corporate executives shows the biggest gain of all: the top CEO in 1981, Mr. Genin of Schlumberger, earned $5.7 million; in 1988, the top man, Mr. Eisner of Walt Disney, earned $40.1 million. To find someone on the 1988 list who earned about the same as Mr. Genin in 1981, you have to go down to the twenty-fourth person.
2. Did reagan cause this shift? Phillips says yes; I think he fails to prove his case. Worse, he ignores inconvenient facts, is sloppy in the handling of the facts he does adduce, and fails to give serious attention to alternative explanations for this income shift. As to the sloppiness: remember that Ronald Reagan became President in 1981 and that none of his policies, such as the tax and spending cuts, took effect until 1983. The biggest decline in share of family incomes received by the poorest one-fifth of the population took place between 1974 and 1982, when that share dropped by 16 percent. From 1982 to 1988, that decline ended and poorer families held their own.
Thomas Edsall, a liberal writing in the New Republic, points out that during the 1980’s, “a clear majority of families experienced some increase in both pre-tax and after-tax income.” During the Carter years, by contrast, the great majority of families lost ground. Between 1975 and 1981, median family income fell by 3 percent in constant dollars; from 1982 to 1988, it rose by 12 percent. (These calculations are from Phillips’s own figures on page 242.) If there was ever a time for Phillips to have written a book pointing out how the government was vulnerable to voters upset by falling incomes, it was 1980. I don’t recall his saying a word about the subject then. But even without his advice, the voters took note—they replaced Carter with Reagan.
That most families improved their lot after the Reagan policies were in place does not deny that then the rich began reporting bigger income gains than the not-so-rich. But why did this happen? Phillips gives four answers: the tax cut, changed spending priorities, deregulation, and deficit financing. Bear with me, but it is necessary to wade through each of these in some detail to find out what lies behind Phillips’s snappy slogans.
The tax cut: Between 1977 and 1984, tax rates were cut, and the percentage of that cut was greatest for the highest-income brackets. Much of the rate cut enjoyed by the well-to-do came during the Carter administration when capital-gains taxes were reduced. But even ignoring this point, a cut in tax rates is a meaningless assertion; what we really want to know is how, if at all, tax payments changed.
The only way to answer that question is to ask what effect these rate changes had. One effect is indisputable: by 1986 the rich (whether defined as the top 1 percent or the top 0.1 percent) were paying a far bigger share of total personal income taxes than they had five years earlier. By contrast, the share of those taxes paid by the middle class fell. The poor were taken off the federal income-tax rolls altogether.
But, Phillips rejoins, the burden of income taxes was actually lessened on the rich. Though they paid a bigger share of the total income tax, their incomes had gone up far faster, and so the percentage of their own incomes that went to the IRS was way down. There is no doubt that the reported income on which the rich paid taxes did go up. But Phillips doesn’t ask why; instead, he implies that Reagan changed the rules somehow so that the rich were allowed to keep more money.
There is a different explanation, one set forth in some detail by Lawrence Lindsey in his recent book, The Growth Experiment. Lowered marginal tax rates induced the rich to report income that they had once either hidden from view or sheltered in various loopholes. Using the actual tax returns of some 34,000 taxpayers in each of six years, Lindsey is able to estimate the income tax that would have been paid by the rich if the rates had not been changed and compare that with what was paid after the rate cut, and to do so under various assumptions about how fast the economy grew. The results are quite striking: the rich paid more taxes after the tax cut than they would have paid without it, and they did so because they were willing now to expose more income to the tax collector that they had once sheltered in tax-free municipal bonds, untaxed fringe benefits, and the passive losses generated by various real-estate deals. The country benefited, because the rich were now paying about one-fourth of the revenue loss that the 1981 tax cut was predicted to generate. Put another way, if the behavior of the rich hadn’t changed, then today either the deficit would be much larger, the not-so-rich would be getting fewer benefits, or both.
If this is the case (and Phillips presents nothing that would contradict Lindsey’s analysis), then the rich did not get richer because Reaganite policies bent the tax rules in their favor. Quite the contrary: the reductions in the top tax brackets not only paid for themselves, they actually brought in a profit. Moreover, if Lindsey is right, the tax cut stimulated a great deal of economic growth that would not otherwise have occurred. Without that growth, the average family would not have enjoyed as much of the gain in income (if any gain at all) as in fact occurred during the 1980’s.
But of course the 1981 cut was not the only tax policy that changed. Social Security taxes were increased. This fell more heavily on the working and middle classes because that tax is regressive. But recall who pressed for increasing the Social Security tax—liberal Democrats. As Paul Light has shown in his history of the 1983 “rescue” of the Social Security system, liberals initially wanted all of the rescue to be financed by tax increases and eventually got a deal in which most but not all of it was so financed. Now that the trust fund is awash in cash, Senator Daniel P. Moynihan would like to repeal part of that tax increase. Curiously, most people in Washington seem embarrassed by the idea. Phillips doesn’t mention it.
Budget cuts: There were budget changes, some of which cut programs aimed at the poor, but to understand their magnitude and effect one would have to do a lot more work than Phillips did. His sweeping claim that “decreases in federal social programs” can be measured by the declining share of federal outlays attributable to human resources is quite misleading. What we want to know are the absolute changes in federal spending on means-tested benefits—food stamps, housing assistance, Aid to Families with Dependent Children, Medicaid, and the like. Between 1981 and 1984 they increased in constant dollars, though not at as fast a rate as they had under Carter. At the same time, John Weicher observed in his analysis of these changes, the Reagan administration, while it cut some benefits, managed to target more of what was left on the truly poor. The net effect on the lives of the poor is hard to state, but Phillips gives no evidence (and I know of none) that these spending programs contributed to the rich getting richer.
Deregulation: Phillips’s treatment of this topic is a hopeless mishmash of irrelevant statistics on the number of pages in the Federal Register and the number of corporate mergers, unsupported assertions about the alleged harm to safety of deregulating airline and trucking prices, and vague references to the savings-and-loan crisis. In support of his argument that “deregulation favored upper-bracket Americans,” the best he can do is to string together scattershot references to how airline deregulation caused unions to suffer (I guess he is referring to the pilots who used to make $100,000 a year when the government prevented airline price competition) and how bank deregulation was bad for the poor (I guess he is referring to the fact that deregulation of interest rates now allowed average depositors to earn the same high rate of interest once available only to big depositors).
The deficit: The federal deficit contributes to the existence of high interest rates. No doubt. Phillips suggests that these rates “made for widening income disparities.” He gives no evidence to support this. In fact there is not much. In 1960, when we had high tax rates, the rich naturally took a lot of their income in the form of interest and dividends. (Why work harder when you gave to the IRS ninety cents out of each additional dollar earned?) By 1985, after the tax cut, the percentage of income received by the rich in the form of interest and dividends had been cut in half.
3. Is it bad for more people to be rich? There is an obvious case to be made against the extremes. If one person had 99 percent of the wealth and everybody else shared 1 percent, it would be intolerable. The one person would command so many resources as to leave no barrier to despotic rule. Conversely, if everybody had exactly the same amount of wealth, it would also be intolerable. Strict economic equality in the face of individual differences in talent, energy, and preferences could only be achieved by despotic rule.
But between those extremes, what is the case for any given distribution of wealth or income? There is no objective answer to that question, but it is one about which reasonable discussion is possible. Phillips provides no such discussion; instead, he offers a series of muckraking images: “lavish multimillion-dollar birthday parties” for Malcolm Forbes, “$4 million for Andy Warhol’s painting of Marilyn Monroe,” lists of billionaires and decamillionaires, “parvenu GOP Washington lobbyists” who “tell attending gossip columnists the price of their new Savile Row suits.” Phillips does note, correctly, that income inequality is much higher here than in countries such as Sweden. I wish he had asked why that difference existed, and with what consequences. He would have found the reason to be a powerful state in Sweden and the consequences there to be laziness, expense-account living, capital flight, no net savings, the multiplication of tax shelters, and stagnant economic growth.
Even if Phillips were to make the case that it is wrong for the rich to gain faster than the not-rich, he would still have to ask whether that imbalance brought with it any benefits. It was the question asked by Adam Smith when he wrote The Wealth of Nations. Smith wanted to know why societies with little inequality tended to be poor and those with great inequalities tended to be wealthy. The reason, he concluded, was that those nations that unleashed the creative powers of their people would be more prosperous than those that (by mercantilism or socialism) constrained those powers. The price—no, the necessary precondition—of raising the general level of wellbeing was to allow inequalities in economic attainment.
That still leaves plenty of room for a reasonable discussion of the proper extent of transfer payments and public investments in human capital. Unless Phillips’s only goal is to find campaign slogans, then his book is notable for the lack of much serious discussion of the effect of Reagan policies on investment, inflation, and average income. But I suspect that he is chiefly interested in slogans, for his final chapter contains scarcely any discussion of what ought to be done, even assuming all his prior claims are correct. The closest he comes is to suggest that a “new economic patriotism” (meaning what?) is “not unreasonable.”
4. Should politicians become populists? In fact, Phillips’s book is a campaign tract, not a serious piece of economic analysis. But is it a good tract? He asserts in many places that class politics is good politics, but he never offers any convincing evidence. Historical analogies to the Gilded Age and the Great Depression are not apposite. The big voting shifts then tended to be associated with economic crises and cultural tensions, not income distributions. I wish he had read Injury to Insult by Kay Schlozman and Sidney Verba, who describe the absence of class polarization during the Depression; perhaps then he would have tempered his conviction that he has found the political Rosetta Stone.
A lot of liberal Democrats would like to believe that hostility toward the bi-coastal rich is the key to electoral success. But so far, most serious analyses of presidential elections suggests that class envy plays very little role in determining the outcome—at least unless other factors are present. If the country or a good part of it goes into a recession, the out party will have an excellent chance of replacing the in party—regardless of the income distribution. Attacks on the super-rich may make good campaign rhetoric, but unless the underlying economic reality leads voters to believe that they (or the nation as a whole) are worse off then they were four years ago, the rhetoric, though good for applause lines, probably won’t change many votes. There is a long list of political scientists of all ideologies who have looked at this matter, and (with quibbles) they are pretty much in agreement. Phillips does not refer to a single one of their studies.
For the Democrats to win the presidency requires no new ideas or class-based rhetoric. It requires only a stagnant or declining economy, a President caught up in a major scandal, or both. The Democrats may well get one or both before 1992. Then the problem they will have is to choose the kind of candidate they want. It is possible that they may choose the kind of populist Phillips seems to have in mind. If they were to do this because they were persuaded by Phillips’s analysis of the state of American society, they would be doing a grave disservice to the nation.