The New Shape of Income Inequality
Income inequality is not new, nor limited to the United States or modern Western democracies. In fact, inequality has been growing steadily and globally over the past 30 years. In a January 2016 study, Oxfam reported that the world’s 62 richest billionaires own as much wealth as half of the world’s entire population, or 3. 5 billion people. The trend path appears to be set: Whether recession or boom times, inequality continues to grow. Digitization and globalization are reshaping the market economy, advantaging some and leaving others behind.
Nor is it the first time that innovation has rocked our world. While this revolution is digital, it was the electrification of homes and the internal combustion engine that prompted John Maynard Keynes in the 1930’s to predict that such innovation would lead to an increase in material prosperity but also to widespread “technological unemployment.”
The digital era that has brought us the Internet of Things, big data, cloud computing and the ubiquity of mobile devices is upending and transforming the way we do business, with the potential for eliminating employment for many workers.
New labor markets have opened because of globalization. At the same time, the world economy continues to adjust to the accelerating technology that causes jobs to disappear.
As Erik Brynjolfsson, director of the MIT Initiative on the Digital Economy, has observed: “Digital technologies change rapidly, but organizations and skills aren’t keeping pace. As a result, millions of people are being left behind.”
The latest research from global management consulting firm Hay Group, a Korn Ferry company, reveals that since 2008 the pay gap between lower-level employees and senior managers has widened in every region across the world.
Indeed, that gap between lower-level workers (who fill skilled manual, clerical, supervisory and graduate-entry jobs) and senior managers (heads of departments or equivalent) is now on the rise in twice as many countries as it is falling (42 to 21).
Hay Group’s Nick Boulter, global head of reward services, can speak with authority about the megatrends that are shaping income inequality, based on the firm’s huge database of salaries from tens of thousands of companies worldwide, compiled over a 30-year period.
“The strong economic forces of globalization and digitization continue to drive inequality,” said Boulter. While technology has eliminated many mid-level jobs, pay is going up for senior managers because skills such as emotional intelligence, creative thinking and advanced judgment are in high demand and short supply.
In addition, senior managers are increasingly being asked to take on more responsibilities and increasingly complex work. Simultaneously, those who have not improved their skills find themselves adrift in a growing global market of unskilled workers, which ensures the continuation of low wages.
Douglas Holtz-Eakin, an economist, concurs. “Beginning in the early 80’s and continuing through the mid-90’s, we saw that the earnings distribution was beginning to widen in the labor market—the bottom fell in real terms and the top rose,” he noted. “Then, in the mid-90’s, the bottom stopped falling and stabilized but the top continued to rise. That’s a well-established pattern. It happened not just in the U.S., but around the world.
“The entry of all the Chinese and Indians into the global labor market is part of the globalization story,” added Holtz-Eakin, the former director of the Congressional Budget Office and now president of the American Action Forum, a Washington-based policy institute.
Not surprisingly, the rhetoric and emotion over pay inequality is reaching a fever pitch in a presidential election year, reviving talk about the 99 versus the 1 percent. “Wages are rising proportionately faster for jobs that are at a higher level and for those with high know-how requirements,” said Hay Group’s Boulter.
He contends that a society can have less inequality and fewer jobs or more inequality and more jobs. Europe is a case in point, with the smallest regional change globally. That is, the average cumulative increase in the pay gap by country has been only 2.2 percent in Europe since 2008. It is also the region with the greatest number of countries that have experienced a decrease in the gap during that period, with Switzerland, France and Poland recording declines of 3.3 percent, 5.6 percent and 12.8 percent, respectively.
In spite of the headlines and current political debates, the United States sits at the midpoint of countries that are experiencing a rise in the pay gap. North America has posted a 7.2 percent increase in senior manager pay compared with lower-level employees since 2008. The United States alone has seen a 10.6 percent increase.
Hay Group also points to the type of business and size of a company to explain the disparity between the salary of the CEO and the average worker. For example, manufacturers and retailers that employ many people at lower wages will have a higher disparity than a company of professionals that has fewer people, such as a consulting or law firm.
Economists agree that following the Great Recession and a record drop in labor participation, the U.S. employment market is still distressed. Lower-level jobs are increasingly automated and off-shored. This reduces the number of jobs available and increases competition for those left, keeping pay down.
“In the late 80’s, we saw the rise of information technologies that make middle management roles obsolete,” said Holtz-Eakin. “The sole purpose of these middle managers was to take retail reports, write memos for the [senior] managers and pass them up the line.” At the time, this was information transmission—but now we live in an age of big data.
“Once the executive was able to connect directly with the information, you didn’t need those memo writers and paper shufflers,” he said. “They’ve been gone for a long time and that’s a very real and powerful phenomenon.”
New technologies—mobile devices, cloud computing and the “app economy”—have created a productivity revolution. Employers with access to data analysis can anticipate business needs and schedule employees with precision. Entrepreneurial companies divide what otherwise might be full-time jobs into discrete tasks that can be farmed out.
The widening gap in income also reflects an education gap. “Success in our age is dependent on working with technology,” said Boulter. “Today, you need a higher degree of emotional intelligence to succeed. People worked in functions and in silos 20 and 30 years ago. Today, you have to work in teams and across functions.”
U.S. schools are not keeping pace. “Our school systems are failing,” according to Holtz-Eakin. “We have far too many Americans who are not learning in the K-12 system. Many of them have to do remedial work if they go to college. Some do not finish college. We have lots of problems there. We need to do much, much better.”
In the global economy, returns come from skills and education.
“What’s required of all workers is an attitude of continuous learning,” said Boulter. “Many of our clients have found that they need to put a much greater emphasis on training and development.”
And it shouldn’t stop there, he said. “Companies need to do a better job speaking openly about the skills they need and expect to need in the future. At the same time, companies should be engaged in strategic workforce planning and subsequent training.”
Adding to the debate is a recent report that the middle class no longer constitutes the majority of the U.S. population. The December 2015 study, conducted by the Pew Research Center and based on an analysis of government data, concluded that the middle class is now only 50 percent of the U.S. adult population, down from 61 percent in 1971.
In one sense, the shift represents economic progress. While the share of U.S. adults living in both upper- and lower-income households rose from 1971 to 2015, as the middle class share declined, the share in the upper-income tier grew at a faster pace.
Put another way, the middle class may be shrinking, but it’s not just because people are falling into poverty. Some are getting richer.
Yet income doesn’t tell the full story. The progressive American system, including government transfers net of taxes paid, has mitigated some of the rising inequality, according to Holtz-Eakin. “And if you look even further at measures of how people live—measures of consumption such as their rent, their purchase of such things as cell phones, TV’s, that is, anything that is a consumable—you get very little change.”
The closer you look at actual lifestyles and living standards, the less there has been a dramatic change in inequality in the United States, said Holtz-Eakin.
While there is much hand-wringing over the shrinkage of the middle class, the U.S. economy, and the American worker, have always proven themselves adaptable to innovation and new technology. At one time, 95 percent of workers were farmers; today, that share is just 1.5 percent. As Holtz-Eakin points out, everyone learned to do something else and earn a higher standard of living in the process.
Nor does Holtz-Eakin think the gig economy—the Ubers and Lyfts and TaskRabbits—presents a threat. “The vast majority of employment is still either traditional employment with a big company or small business, or our tradition of starting one’s own business.”
Yet the cliché remains: The rich get richer and the poor get poorer.
However, an extensive study by researchers at Harvard University found that economic mobility has not changed in the past 50 years—there has been no real difference in the ability of people to go from the bottom 20 percent to the middle, and from the middle to the top.
“My takeaway from the Harvard study is that we have more rich people,” said Holtz-Eakin. “And we have the same chance for someone to become a rich person. So what’s the problem?”
As for the future, some experts say, it doesn’t matter who wins the upcoming presidential election.
“By 2020, we will have to have begun and, by the end of the second term of whoever is elected, we will have to have finished, a serious restructuring of some of our federal policies,” said Holtz-Eakin. “Out of necessity, whoever is elected is going to have to look at the social safety net and figure out what we’re going to do about Medicare and Medicaid and the Affordable Care Act and Social Security to put them on a sustainable trajectory.”
That review of the safety net is inevitable, he said, because there will no longer be an option “to not look at it. And, in the process, we can endeavor to make the entire social safety net much more pro work.”
The dividing line between poverty and “not poverty” in the United States is work, he added. “We have to support work and address poverty.
“That’s the agenda for the next president, whether they know it or not.”