Public Policy and the Income Distribution

5. Income and Wealth Concentration in a Historical and International Perspective

Recent studies have used tax statistics to construct top-income and wealth-shares series over the twentieth century for the United States and Canada and for a number of European countries: the United Kingdom, France, the Netherlands, and Switzerland. In the first part of the century, all countries except Switzerland experienced a dramatic drop in top-income shares—the percentage of a country’s wealth controlled by the wealthiest—owing to a precipitous drop in large-wealth holdings. A plausible explanation is that the development of very progressive tax systems prevented large fortunes from recovering from the shocks of the world wars and the Great Depression by reducing drastically the rate of wealth accumulation at the top of the wealth distribution. Since 1980, however, top-income shares have increased substantially in English-speaking countries, but not at all in the countries of continental Europe. This increase is due to an unprecedented surge in top-wage incomes that started in the 1970s and accelerated in the 1990s. As a result, top wage earners have replaced capital income earners at the top of the income distribution in English-speaking countries. We discuss the proposed explanations and the main questions that remain open. Chapter 5 Income and Wealth Concentration in a Historical and International Perspective EMMANUEL SAEZ Introduction The evolution of income and wealth inequality during the process of development of modern economies has attracted enormous attention in the economics literature. Liberals, concerned with issues of equity, have blamed income and wealth concentration for tilting the political process in favor of the wealthy. They have proposed progressive taxation as an appropriate counterforce against wealth concentration. Conservatives, on the other hand, consider concentration of income and wealth to be a natural and necessary outcome of an environment that provides incentives for work, entrepreneurship, and wealth accumulation, key markers of macroeconomic success. Progressive taxation may redistribute resources away from the rich and reduce wealth concentration, and in addition it might weaken those incentives and generate large efficiency costs. In order to cast light on this controversial political debate, it is of great importance to understand the forces driving income and wealth concentration over time and understand whether government interventions through taxation are effective or harmful to curbing wealth inequality. To make progress on those questions, the availability of long and homogeneous series of income or wealth concentration is clearly necessary. Constructing such series, however, is a challenging task because of a lack of good data covering the top of the income and wealth distributions . Household surveys hardly existed before the 1960s and have become available in many countries only in recent decades. Moreover, household surveys such as the Current Population Survey in the United States cannot be used to analyze high incomes because of small samples and top coding issues. Therefore, to study the top of the income or wealth distributions, tax statistics remain the best data source. Those statistics have two important advantages relative to survey data. First, they often span very long time periods, for fiscal administrations in most countries have begun publishing such statistics since the creation of those taxes, in general in the early part of the twentieth century. Second, these statistics usually provide tabulations by brackets of income or wealth, and those brackets are generally are detailed enough to allow a precise analysis of very small groups at the top of the distribution, such as the top .1 percent, or even the top .01 percent. 222 Public Policy and the Income Distribution Of course, such tax data have also important drawbacks. First and foremost, the data are based on income or wealth reported for tax purposes. As a result, the data might not reflect real income or wealth because of tax evasion (fraudulent underreporting or nonreporting) or tax avoidance (using legal means to repackage reported incomes in order to reduce tax liabilities). The extent of tax evasion or tax avoidance is related to the level of taxes, to the enforcement of the tax law, and to the more general legal tax environment, which might make it more or less difficult to avoid taxes. Therefore, when using tax data to study top incomes, it is necessary to analyze the tax structure at the same time in order to tell apart real changes in income or wealth concentration from changes in reported income or wealth due to changes in tax avoidance following a tax reform.1 Second...