February 24, 2008

The Gap Between America’s “Rich” and “Poor” - "You Are What You Spend"

Fact: The richest 20% of Americans earn 15 times the income of the bottom 20%.

Fact: The richest 20% of Americans only consume 4 times as much as the poorest 20%.

From the New York Times. (Click on Image to enlarge)

The Federal Reserve Economist who writes this piece for the NYT opinion piece claims that there is more to "inequality" than just income numbers. While before tax income of the top 20% is around $150,000, the poorest 20% earn only around $10,000. Clearly these numbers indicate an enormous income gap in America.

Concerning consumption, the poor consume an average of $18,000 on everything from food to housing to entertainment to transportation. The richest 20%, on the other hand, consume an average of only $70,000, less than half their before-tax income. The consumption gap is less than 4 to 1, compared to lower income households, not 15 to 1, as is the income disparity. When compared to the middle 20% of income earners, the consumption gap between them and the lowest 20% is only 2 to 1.

Should our standard of living be based on our income, or on our consumption? If it’s income, then there’s certainly a huge gap in standard of living between the rich and poor. But if we believe it’s consumption, then the gap is narrowed dramatically. The author claims the latter:

To understand why consumption is a better guideline of economic prosperity than income, it helps to consider how our lives have changed. Nearly all American families now have refrigerators, stoves, color TVs, telephones and radios. Air-conditioners, cars, VCRs or DVD players, microwave ovens, washing machines, clothes dryers and cellphones have reached more than 80 percent of households.
It turns out that in the last 50 years, while income inequality has increased, Americans in all income levels are all much richer that 50 years ago, on average. The combination of rising wages for the lowest classes and falling prices for many household products has lead to a dramatic narrowing in the “consumption gap” in America:

In time, ownership spread through the levels of income distribution as rising wages and falling prices made them affordable in the currency that matters most — the amount of time one had to put in at work to gain the necessary purchasing power.
At the average wage, a VCR fell from 365 hours in 1972 to a mere two hours today. A cellphone dropped from 456 hours in 1984 to four hours. A personal computer, jazzed up with thousands of times the computing power of the 1984 I.B.M., declined from 435 hours to 25 hours. Even cars are taking a smaller toll on our bank accounts: in the past decade, the work-time price of a mid-size Ford sedan declined by 6 percent.

And to whom do we owe our thanks for the lower prices of all these great products? Globalization and trade, which increases wealth, and… yep you guessed it, China!
There are several reasons that the costs of goods have dropped so drastically, but perhaps the biggest is increased international trade. Imports lower prices directly. Cheaper inputs cut domestic companies’ costs. International competition forces producers everywhere to become more efficient and hold down prices. Nations do what they do best and trade for the rest.
Click on the graph above and have a look; you’ll be surprised at the revelations behind the numbers. It sure is a compelling argument; the gap between the richest and poorest Americans may not be as bad as the income numbers show!


Anonymous said...

While many objects have become easier to buy i.e. refrigerators, stoves, dryers, and washing machines, doesn't mean that people are less poor. Financially speaking, the poor are not "less poor", they just have more items that they can call their "own". The reason why so many low income families have many of these major appliances are because they pay with credit, and then buy more with credit, and so on. If anything, this is hurting our economy because people are in higher debts and companies are losing money. Even though many people are happier and more satisfied in life because of what they have, the low income family still have little money and are considered poor. If anything, stating that "the poor are less poor", the author is undermining that many families are still struggling to get by in life.

Anonymous said...

(In response to Anonymous's comment)

According to the article, the nation's wealthy spend a much small percentage of their income than the nation's so-called poor. Perhaps part of the reason these people are so much wealthier is because they are much more responsible when it comes to spending money. Perhaps they spend more within their means and save and invest more. If the poor wanted to improve their bank accounts (and I'm not saying that this is the only reason that they have low incomes), maybe they shouldn't blow all their credit on unnecessary things such as cable TV, X-Boxes, iPods and cell phones for their 9-year-old kids.

Also, compared to many other countries, how many American families actually "struggle to get by in life?"

-student ID: 43471

Anonymous said...

yes, anonym #2, I see way too many families that juggle their utility bills and credit card bills (with it's corresponding huge interest rate), but they make sure the cable bill is paid promptly. America needs to get its priorities straight, I still have my first ever cell phone & we've never had cable. We moved recently so there's a small mortgage to pay off, so we're living below our means until then, then at our means afterwards. Most lower income families try to live above their means using credit, & the trouble begins. The bankruptcy and foreclosure markets are doing very well right now, because most of america is financially illiterate.

student ID: 44078