Home > Economic myths > Inequality increase in the US as a byproduct of entrepreneurs and jobs creation.

Inequality increase in the US as a byproduct of entrepreneurs and jobs creation.

Wednesday 30 March 2016, by Bernard Zimmern

Egalitarians of all stripes, from J.Stiglitz to R.Wolff, including A. Atkinson and T.Piketty have denounced the 30 years between 1980 and 2010 as the years of shame, because inequality, whether measured by income or wealth, has increased and the richest you are, the higher is the increase
A.B.Kennickell from the Fed has published curves that show that, the closer you are to the top centile of wealth distribution, the more your wealth increases.(see annex)

Results from the PSID of the University of Michigan has shown that people on the top are not the same from one year to the next. The billionnaire series of the Forbes annual survey show the same, as only 10% of those in the first US survey in 1983 are still in the survey in 2013.

Nervertheless, it is troubling to see that inequality indexes, whether Ginis or percentage of income or wealth, have shown an increase since 1980 whereas they were stable since the 1940’s.

Egalitarians have attributed this fact to the enrichment of firms executive, rent-seekers or financiers at the expense of the poor, as, simultaneously, the part received by the poorest, the lower deciles dropping from 3,5% to 2%.

And they launched a worldwide campaign to diminish inequality by taxing the rich and transfering the result to the poor under different guises.

So high is their influence that OECD published, end of 2014, a 65 pages document with advanced statistical analysis showing that inequality reduces growth [1].

There is not much doubt that inequality increased in the US but the egalitarians are wrong.

From the numbers derived from the Survey of Consumer Finances, what happened really is that there has been an explosion of entrepreneurship in that period, their number and jobs they created increasing 50% to 60% in 20 years, with most successful entrepreneurs coming into the 1% and lifting the part of the 1% in the whole housing income.

This explosion parallels the UK industrial revolution in the XIXth century and the industrial revolution in the US, often despised as the years of the Robber Barons (Rockefeller, Carnegie, etc.).

Simultaneously, at the other end of the Lorenz curve that describes the distribution of income or wealth (of which are derived the indexes measuring inequality), the wealth or revenue of the lower decile dropped, due to the arrival of very poor immigrants, as the US had not seen before ; out of the increase of 86 millions of the US population between 1980 and 2010, 30 millions were immigrants, of which at least 15 millions were extremely poor, coming from Latin America or Africa. They helped drop the apparent income or wealth of the poorest, but found in the US if not wealth at least normal living conditions. And they were able to send to their villages money of which the total is estimated to be around 40 billions per year, more than the World Bank annual investment.

In short, the 1980-2010 period is not a period of shame but a human miracle, where entrepreneurs multiplied due to some unique conditions and created some 50 millions new jobs, that allowed the US to pull out of misery many tens millions of immigrants and their siblings.

It is not sure that this explosion and miracle will continue.

Thanks to the egalitarians campaign despising enrichment and removing the inducement to create new firms and new jobs, increasing in particular the capital- gain tax that is the one which reduces the most the incentive to create jobs as President Roosevelt discovered when creating the economic crisis of 1936, it is very likely we are heading into an extended recession.

A recession of which the source is a major error by economists, inspriring politicians, an error that may not be only technical but also ideological (Marx is not dead).

The first part of this paper is devoted into showing how the entrepreneurship explosion explains the increase of inequality at the top of the Lorenz curve, the second part how immigration explains the drop at the bottom.

PART I The 1980-2010 entrepreneurship explosion

There is a US survey famous worldwide for tis extent and quality : the SCF (Survey of Consumer Finances) of the Federal Reserve Bank.
It has been mostly used to measure income and wealth of Americans since it inception in 1989 but it includes a question X3111 that few people used and that gives the number of people employed by entrepreneurs of the survey.

Though the number of people covered by the survey is small, the numbers derived from this variable seem robust ; they give for instance 126 millions workers in 1989 whereas the Department of Labor publishes 124 millions (covering paid and unpaid workers ; the Census fot the same year provides for 91 millions paid workers).

The interest of using the SCF comes from being able to find not only jobs created by entrepreneurs (extracting entrepreneurs was already done by Cagetti and De Nardi 2006) [2] but combining with variable X5729 that provides total income of the person interviewed and using it and IRS gross income floor to select those in the 1% top centile income.

There appears immediately a huge difference between the entrepreneurs that are in the 1% and thsoe who are not :

Those two groups are well known: the « non 1% » includes entrepreneurs who create a business just to make a living for themselves and family, a business that is generally servicing a local community. Whereas the second group of entrepreneurs has a long range target, looking for a national or international market.

The first ones create a few jobs very quickly, the second ones take quite a while (David Birch found around 15 years ; from SCF 2013 data, it is more like 23 years).

We started to explore what else could come out of that subdivision and it seems that it could lead to other interesting results by looking to the SCF from 1992 to 2013:

  - an explosion of the number of the « 1% entrepreneurs » with long range vision,
  - an explosion of the jobs they created that correspond to most if not all of the jobs increase in the US, found in Department of Labor statistics,
  - an explosion of the income of the « 1% entrepreneur » that makes for the increase of the 1% income found by the IRS.

The explosion of entrepreneurs with long range vision, the ones in the 1%, can be seen from the following table :

This entrepreneurship explosion could be linked to the diminution in size of US firms, that started in 1970 due to the development of subcontracting, and to the explosion of the Sub Chapter S, introduced in 1958 but that took a quarter century before becoming the most common form of firm creation (with LLC and LLP); for Business Angels, Sub S is a major inducement to fund start-ups.

This explosion of jobs by the 1% turned out to make the 1% richer as shown by summing their incomes from the SCF. But, more interesting, as seen from following picture, it explains entirely the increase of the 1% part of the total US income measured by the IRS and so despised by egalitarians.

The link to job creation is that the income per employee is around 20.000 $ and is the same for employees of the 1% and the non 1%. It seems fairly constant from 1992 when measured in $ 2013, using inflation coefficient. So, when succeeding to employ more people, entrepreneurs climb in the income scale.

PART II Influence of immigration on inequality in the USA 1980-2010

Immigration that had dived from the second World War started to climb from 1970 and is in lockstep with Piketty index of inequality shown in green below (as asset % of top decile).

In the period 1980-2010,
  -  The total population of the US went up from 224 millions to 310 : +86 millions
  -  The foreign born population accounted by the Census went from 14,1 to 40,2 millions, i.e. +26,1 millions ; the bottom was in 1970 with 9,6 millions (ref.1 Census)
  -  12% were from Europe, 2% from North America, 53% from Latin America.

Wealth (ref.2)

So, immigration played two ways on inequality measurements :

1. There has been an addition to the « 1% »population by rich people immigrating from Europe or Canada (in ref.2, Europe includes Canada). 1% of 14% of 26,1 millions =36.500.

2. Immigration by poor people who increased the population without bringing any wealth to the Lorenz curve.
From ref.2, people from Mexico and Central America have so low a wealth that they can be classified as wealthless. Ref. 1 tells that their increase has been 53% of 26 millions, i.e. 14 millions + 1 million from Africa, or 15/310= 4,9% of the total US population of 310 millions. Each decile of US population counting around 30 million people, adding 1 million very poor coming from Africa, this means that half ot the poorer decile of the population in 1980 had been replaced in 2010 by people still poorer.

Ref.1 : Foreign-Born Population. U.S.Census Bureau,1850-2000 Decennial Census ; 2010 American Community Survey http://www.census.gov/library/infographics/foreign_born.html#skipNav-CMSContent.s
Ref.2 : Cobb-Clark, Deborah A.; Hildebrand, Vincent A. (2003) : The Wealth and Asset Holdings of U.S.- Born and Foreign-Born Households: Evidence from SIPP Data, IZA Discussion paper series, No. 674.


A.B.Kennickell at the Fed has published changes of wealth from different surveys to the 2004 one (see « Ponds and streams » 2009).
The abcissae show the centile of wealth and the ordinate the cumulated wealth in logarithm (or an inverse hyperbolic sine).
By superimposing them, one can see how wealth increases.
The higher the centile, the higher the increase, with a very sharp increase in the top 3 centiles

[1We have published a rebuttal in one of the most read French weekly, Le Point, showing that, using the same method and data base as OECD, but measuring growth by the GNP and not the GNP/head, the relationship was exactly opposite : inequality increases growth. The reason is that GNP per head introduces in the denominator immigration and we proved it to be what reduces growth, at least the figures used to measure it.

[2Answer Yes to question X3103 and 3104 (entrepreneur and still active) and answer 2 to X3108, having created the business as opposed to having inherited or purchased