Stimulating Equality

NEW YORK – With unemployment climbing in the United States and other OECD countries, job creation is a key objective for policymakers. In the US, President Barack Obama recently proposed to increase public spending by about $600 billion over the next two years to create an additional four million jobs. But Obama is also concerned with reversing a sharp rise in income inequality (which is now at an 80-year high). Is it possible for leaders to do both at the same time?

The answer is unequivocally yes, but only if they focus on government spending rather than reforming their tax systems. That lesson is even more powerful for other advanced countries like Germany and France, which spend a far higher percentage of GDP on public programs (35% and 43%, respectively, in 2005) than the US (only 25%).

America’s tax system has surprisingly little redistributional punch. Using a measure of “comprehensive income” – money income, total capital gains on wealth, imputed rent on owner-occupied housing, non-cash government benefits, and public consumption – income taxes are generally progressive.

Federal income taxes as a proportion of income increase steadily from 2% at the 10th percentile (that is, a family ranked tenth from the bottom out of 100) to 14% at the 90th percentile, but then falls off slightly to 13% at the very top, reflecting the favorable treatment of capital gains and investment income under the Bush administration’s income-tax laws.