The Price of Inequality

“The success of an economy can be assessed only by looking at what is happening to the living standards—broadly defined—of most citizens over a sustained period of time. In those terms, America’s economy has not been performing well, and it hasn’t been for at least a third of a century.”

This quote explains one of the author’s key contentions, which is that political decisions that favor the 1 percent have caused the standard of living for the rest of America to decline over time. In essence, 99 percent of Americans have been living with lower wages, unemployment, substandard housing, increased housing costs, poor health care, and the like, long before the Great Recession. Moreover, the gap between the rich and the middle class (not to mention the poor) in America has also grown larger over time.

“But those governmental failures were no accident: the financial sector used its political muscle to make sure that the market failures were not corrected, and that the sector’s private rewards remined well in excess of their social contributions—one of the factors, contributing to the bloated financial sector and to the high levels of inequality at the top.”

Stiglitz makes the central argument that the degree of inequality in America is not due to the workings of the market alone but rather the result of the transfer of wealth from the poor to the rich. One way this is accomplished is by taking advantage of market failures using political ties to create laws and regulations that allow the financial sector to increase that wealth transfer instead of fixing the failure, which causes more inequality. The wealth of the 1 percent did not and does not come from their own contributions to the economy; it comes from this transfer of wealth during market failures, which allows them to take more from the 99 percent.

“But the form of rent seeking that is most egregious—and that has been perfected in recent years—has been the ability of those in the financial sector to take advantage of the poor and uninformed, as they made enormous amounts of money preying upon these groups with predatory lending and abusive credit card practices.”

One consequence of inequality caused by rent seeking is that the poor have paid the largest price, mostly because the 1 percent and bankers can manipulate the rules, laws, regulations to take advantage of them. Stiglitz makes this point throughout the book to show just how little the 1 percent actually contribute to society. In fact, Stiglitz shows that through these types of predatory practices, they actually take money from the 99 percent.

“The most important role of government, however, is setting the basic rules of the game, through laws such as those that encourage or discourage unionization, corporate governance laws that determine the discretion of management, and competition laws that should limit the extent of monopoly rents.”

For inequality to end, Stiglitz argues that the government must both make laws and enforce them. Rent seeking includes fraudulent or noncompetitive practices like gaining income from holding monopolies, which lowers demand and creates more inequality by providing more income to the 1 percent.

“What is striking about the United States is that while the level of inequality generated by the market—a market shaped and distorted by politics and rent seeking—is higher than in other advanced industrial countries, it does less to temper this inequality through tax and expenditure programs.”

Stiglitz’s main contention is that the link between politics and economics means that market failure, which causes more inequality, can be controlled by the government using monetary/macroeconomic policy and regulation. However, the one tool that could do more to end inequality is taxation—namely, changing who and how people are taxed and spending tax revenue to help the 99 percent instead of giving tax loopholes and hidden transfers to the 1 percent. Stiglitz argues that balancing higher taxes with more spending could lessen inequality.

“Deregulation has played a central part in the instability that we, and many other countries, have experienced.”

One of the outcomes of deregulation was the privatization of public utilities. Stiglitz points to Enron and the deregulation of electric power in California. Enron forced shortages to make millions; the shortages ended when the government stepped in. Resources, revenue, and jobs were lost, and taxpayers were left to pay for the failures, adding again to inequality.

“The large gaps between private rewards and social returns that characterize a rent-seeking economy mean that incentives that individuals face often misdirect their actions, and that those who receive high rewards are not necessarily those who have made the largest contributions.”

Stiglitz argues that the Right misunderstands incentives in the economy, which the Right advances as a way to continue to funnel money to the 1 percent. The argument is that the private returns of the rich match their social contributions, so to tax them would remove their incentive to keep earning. However, Stiglitz points out that CEOs get their bonuses whether they make money or not and that their returns outweigh their contributions, so the system is not working.

“Of all the costs imposed on our society by the top 1 percent, perhaps the greatest is this: the erosion of our sense of identity in which fair play, equality of opportunity, and a sense of community are so important.”

Stiglitz believes that there is a moral cost to inequality, and it starts with a failure to align one’s interests with the best interests of the whole. The 1 percent engage in practices that defraud the poor and then defend their right to do so, like taking away a person’s home without proper proof of debt. These practices tie into the larger idea that a lack of identity leads to a vicious cycle in which bankers commit fraud but are fined instead of hauled off to jail, then wake up and do it all over again.

“While the most immediate symptom is disillusionment leading to a lack of participation in the political process, there is always a worry that voters will be attracted to populists and extremists who attack the establishment that has created this unfair system and who make unrealistic promises of change.”

Stiglitz is concerned with the state of American democracy because the 99 percent understand that their voting power is limited by their lack of resources. Voter disillusionment, and attempts to suppress voting in poor areas, has led to voter apathy and low turnout. This means that the 1 percent, who do vote and who have money to shape politics, have their interests heard, while the poor, who would likely advance policies to end inequality, are left out.

“In short, globalization, as it’s been managed, is narrowing the choices facing our democracies, making it more difficult for them to undertake the tax expenditure policies that are necessary if we are to create societies with more equality and more opportunity.”

Globalization limits US domestic policymaking because the markets are integrated internationally and, as part of the policy, capital and goods are free to move wherever they want. So, if the United States requires its corporations to pay their fair share, the corporations can simply pick up and go where the taxes (and the labor costs) are lower. Despite deepening inequality, US policymakers make decisions that help the 1 percent but leave the 99 percent vulnerable.

“It is clear that many, if not most, Americans possess a limited understanding of the nature of the inequality in our society: They believe that there is less inequality than there is, they underestimate its adverse economic effects, they underestimate the ability of government to do anything about it, and they overestimate the costs of taking action.”

Stiglitz argues that the 1 percent have convinced the poor that they have the same interests because many in the 99 percent do not understand the difference between reality and their perceptions. Most Americans, then, advocate for the interests of the rich against their own. Stiglitz uses the example of the estate tax: Only inheritances of more than $5 million are taxed; few of the 99 percent are in that category, yet they agree the tax should go.

“[T]he high level of inequality in the United States today increases instability, reduces productivity, and undermines democracy, and that much of it arises in ways that are unrelated to social contributions, that it comes, rather, from the ability to exercise market power—the ability to exploit consumers through monopoly power or to exploit poor and uneducated borrowers through practices that, if not illegal, ought to be.”

Stiglitz’s point is that while inequality causes instability, the 1 percent, who are the chief beneficiaries, are not creating this inequality fairly. They engage in underhanded practices that are divorced from any work that would contribute to society. Rather than earning through legitimate business practices, they take from the poor instead.

“There is a simple reason for the failure of liberalization: when social returns and private rewards are misaligned, all economic activity gets distorted, including innovation.”

This quote demonstrates one of Stiglitz’s key arguments against the Right, both in domestic policy and in globalization: Liberalization has failed because of a relaxation of regulations. Consequently, wealth will be even more concentrated at the top, with even less left for the 99 percent, thus increasing inequality.

“While we typically think of the rule of law as being designed to protect the weak against the strong, and ordinary citizens against the privileged, those with wealth will use their political power to shape the rule of law to provide a framework within which they can exploit others.”

A key idea in this book is that current policies that support rent seeking and benefit the 1 percent exist because the rich and the financial sector control politicians. They control them in obvious ways—they have money and can contribute to political campaigns and lobbying—and less directly through capture (getting government personnel to adopt the perspectives of the 1 percent as their own). Stiglitz argues that without enforcement of the rule of law, inequality will never be fixed.

“In some other states, too, there were attempts to stop predatory lending, and in each of these instances banks used all their political muscle to stop states from enacting laws aimed at curtailing predatory lending.”

This quote exemplifies how the 1 percent use the law to their advantage. In this case, when a state wanted to enact banking laws to protect consumers, the financial sector threatened to refuse to rate the state bonds. Stiglitz argues that this kind of power, linking the law with economic interests, keeps the 99 percent from effecting change.

“It would seem we have an economic and legal system that provides incentives for bad behavior: the executives’ pay goes up when profits go up, even if the profits are based on fraud; but the company’s shareholders pay the fines.”

During the Great Recession and other market failures, banks and the 1 percent still make money. In fact, they are often rewarded for their hand in these failures, as the CEOs of banks involved in the foreclosure crisis kept their bonuses. Therefore, they have little incentive to prevent market failures or to rein in their own bad behavior.

“The critical point to bear in mind in thinking about deficit reduction is that the recession caused the deficits, not the other way around. More austerity will only worsen the downturn, and the hoped-for improvement in the fiscal position will not emerge.”

Austerity programs are drastic cuts in spending, and so spending, which contributed to the deficit, did not cause the Great Recession. Rather, Stiglitz points to other issues, such as the Federal Reserve’s focus on inflation, which caused it to miss the housing bubble, prior to the start of the Great Recession. His key point is that spending, balanced with tax increases, is needed to get out of a market failure and stimulate the economy; austerity programs do not work.

“There is here a certain irony, in that many of these corporations and recipients of government largesse simultaneously argue against government spending—for a small government.”

Stiglitz points out that the Right’s primary agenda is arguing for small government. Yet, they are shameless in accepting corporate welfare—paying less for natural resources than they should, selling back to the government at higher prices, and accepting tax breaks and loopholes, all of which increase the size of government. Meanwhile, they seek to cut or undermine the programs that the 99 percent rely on, like Social Security.

“Government money spent on structural reforms—helping move resources from old, less competitive sectors to new sectors—stimulates the economy, and the higher incomes give individuals and firms the resources to adapt to the changed economy.”

According to Stiglitz, one of the government’s mistakes in making structural changes to address globalization and the Great Recession was that it never helped workers who lost jobs move to new sectors of the economy. More employed workers would have improved consumer demand (workers would have more money and would purchase more) and created higher-skilled and higher-paying jobs in the United States. Instead, the government focused on inflation, not unemployment.

“The institutional arrangements by which monetary policy is set are designed to give disproportionate voice to the banks and their allies.”

Monetary policy is set by the Federal Reserve, whose officials are closely tied to the banking industry and the 1 percent. In fact, Stiglitz notes that the chair of the Federal Reserve Bank of New York was picked by the same bankers whom the Fed had just bailed out, another example of capture. And because the Fed’s monetary models do not include distribution of income, its monetary policy does nothing more than continue business as usual, which is add to the wealth of the 1 percent.

“This deference to the banks lies at the center of the Fed’s, and other central banks’, greatest contribution to inequality: their failure to impose adequate regulation and to adequately enforce regulations that existed—the culmination of two decades of financial deregulation that had begun under President Reagan.”

Deregulation and refusing to enforce the law allows banks and the 1 percent to rent seek and take risks without consequences. For example, the risks banks took in derivatives before the 2007 Great Recession meant they got into the stock market, which for years they were not allowed to do because the risk was too high. When the bubble burst, the banks paid minor fines, the public assumed the risk with bailouts, and the banks got regulations changed to allow them to continue using derivatives.

“For inflation hawks the economy is always at the edge of a precipice: once inflation starts, it will be difficult to control. And since the cost of reversing inflation—disinflation, as it’s called—is so large, it is best to address immediately. But these views are not based on a careful assessment of the evidence.”

In this quote Stiglitz argues against the Federal Reserve’s monetary policy of adjusting interest rates to check inflation and expand the economy during a downturn. When inflation is going up, the Fed could simply tighten credit availability rather than maintain its devotion to adjusting rates. Stiglitz further argues that this attention to inflation means that the Fed’s other two mandates, employment and growth, are ignored.

“A more efficient and fairer society will society will also come from making markets work like markets—more competitive, less exploitive—and tempering their excesses.”

Stiglitz is a believer in the free market system, but he does not believe it will advance equality if left to its own devices. Indeed, he notes that the theory of globalization expects inequality and knows that there will be losers. Therefore, the government’s political power, divorced from the interests of the 1 percent, must be used to regulate the markets to keep them competitive and free of fraud.