Income inequality seen blocking economic growth

Divide in US is largest since Great Depression

WASHINGTON — Income inequality has soared to the highest levels since the Great Depression, and the recession has done little to reverse the trend, with the top 1 percent of earners taking 93 percent of the income gains in the first full year of the recovery.

The yawning gap between the haves and the have-nots — and the political questions that gap has raised about the plight of the middle class — has given rise to anti-Wall Street sentiment and animated the presidential campaign. Now, a growing body of economic research suggests that it might mean lower levels of economic growth and slower job creation in the years ahead, as well.


"Growth becomes more fragile'' in countries with high levels of inequality like the United States, said Jonathan D. Ostry of the International Monetary Fund, whose research suggests that the widening disparity since the 1980s might shorten the nation's economic expansions by as much as a third.

Reducing inequality and bolstering growth, in the long run, might be ''two sides of the same coin,'' research published last year by the IMF concluded.

In the United States, since the 1980s, rich households have earned a larger and larger share of overall income. The top 1 percent earns about one-sixth of all income and the top 10 percent about half, according to statistics compiled by the respected economists Emmanuel Saez of the University of California Berkeley, and Thomas Piketty of the Paris School of Economics.

The concentration of income in the hands of the rich might not just mean a more unequal society, economists believe. It might translate into less stable economic expansions and more sluggish growth.

That is the conclusion drawn by two economists at the fund, Ostry and Andrew G. Berg. They found that in rich countries and poor, inequality strongly correlated with shorter spells of economic expansion and thus less growth over time.


And inequality seems to have a stronger effect on growth than several other factors, including foreign investment, trade openness, exchange rate, and the strength of political institutions.

For developing economies, the channels through which inequality might drag down growth seem clear. Inequality might foster political instability and lead to violence and economic destruction, for instance.

For the United States, such channels are now the subject of intense research, with economists examining whether and how the gap between the rich and the poor fueled the recession and what it might mean.

In the past few years, research by the Brookings Institution, the IMF, and dozens of economists at top research universities has started to coalesce into a compelling narrative.

Starting in the 1970s, low- and middle-income households saw their earnings squeezed. They borrowed to improve their standards of living — buying bigger houses than they could afford, and using those houses as piggy banks. Families bet that housing prices would keep rising, making a three-bedroom outside Phoenix a safe store of wealth. But the housing bubble collapsed and took the rest of the economy with it.

Research by Raghuram Rajan of the University of Chicago has also underscored the importance of deregulation.

''Starting in the early 1970s, advanced economies found it increasingly difficult to grow,'' he wrote this year. ''The shortsighted political response to the anxieties of those falling behind was to ease their access to credit. Faced with little regulatory restraint, banks overdosed on risky loans.''


Thus, inequality might help explain the recession and the sluggish recovery after it. But now, economists and policy analysts are facing the thorny and politically freighted question of what US inequality might mean over the next several years.

The recession seems to have cemented the country's income and wealth inequality, not reversed it. The top 10 percent earn a larger share of overall income than they have since the 1930s.

The earnings of the top 1 percent took a knock during the recession but have bounced back. In contrast, the average working family's income has continued to decline through the anemic recovery. The distribution of wealth has become more concentrated as well.

''What worries me is the idea that we're in a vicious cycle,'' said Joseph E. Stiglitz, a Nobel laureate in economics who has studied inequality extensively. ''Increasing inequality means a weaker economy, which means increasing inequality, which means a weaker economy."