Both Janet Yellen, Chair of the Federal Reserve Bank (FED), and Christine Legarde of the International Monetary Fund (IMF) have both noted recently the problem of increasing income inequality across the economic spectrum. Both seem to talk about this problem as through it were primarily a problem or sociologists. Of course, when one is driving the economy into the ground eventually one will see the social implications rise to the surface.
The financial Crisis of 2007 quite naturally focused on vast monetary losses world wide — most of which have still not been accounted for. Both the FED and the IMF focused, and are still focusing, on the rebuilding of financial institutions in order to make money increasingly available again to rebuild economies from whithin. The thought is always that when the money starts to flow at the top, jobs will be created, products will be made and sold to an increasingly employed public. The money making potential reformulated at the top will thus “trickle down” and the economy of the whole society will benefit. As it has also been said, ” a rising tide floats all boats.”
One of the problems is that “trickle down” has never worked as well as it’s supposed to work. Lot’s of people are back to work, but increasingly with marginal jobs, many of which don’t pay very well at all. Jobs have also gone offshore, or have increasingly been automated due to vast advances in robotics, artificial intelligence and related information technologies. People at the top, running businesses are making more money since their need for employees declines and you don’t need to set aside fringe benefits for robots. Nevertheless, income to expense ratios increase reflecting an overall substantial improvement in productivity.
However, productivity should always increase and that gives us time to create new products and new jobs as well to offset the loss of jobs through automation. So, what’s different now? Certainly, creation of new products and new jobs is ongoing but is not keeping pace the recent loss of jobs which peaked in 2010-12. The bottom 95 percent of wage earners is recovering somewhat but not as fast as those 5 percent at the top, who are accumulating more and more capital and not using it to, in effect, recapitalize the whole system. The income inequality is of such vast proportions that after a certain point the extra money just makes more money and those increasing quantities of money just sit in a bank or IRA somewhere and slowly transform into yet more money which does nothing for the economy.
People at the bottom (bottom 95 percent) spend less and less. Their incomes have declined and thus they have no extra money to spend. They purchase their basic needs at the lowest prices that can be found. They are driving the purchasing prices of all commodities in a downward direction. They save everywhere they can. They do for themselves what they formerly would have hired done. They plant gardens & raise chickens. They rent housing because they have insufficient funds to buy or they don’t qualify for loans for housing or even to purchase autos for transportation. They often buy second hand stuff they can fix up.
Overall, those at the top have vastly larger incomes that those at the bottom. They can’t spend everything they have and even in a marginally productive economy they use money to make far more money than they can spend. So the extra money sits (technically invested) and it is only a myth that it contributes to economic growth.
Gradually, those with the increasing amounts of money start to give it away (philanthropy is increasing). They create new businesses and new products, but only those that are really useful and cheap can be effectively marketed on a wide scale. Increasing those with marginal incomes buy less and less and in this puts downward pressure on prices and business makes the effort to build it’s widgets for less and less, but automating everything possible. Those without much money just buy less and less or just wait until prices decline further. This moves us increasing toward serious deflation. Indeed, why buy when the price at the end of the year may be half what it is now?
Increasing, income inequality will drive deflation. Many people will survive and for a while they may have enough cushion in available cash to survive and, indeed, thrive. But gradually the apparent growth of the economy will go negative. Financial houses, banks and national or transnational agencies like the FED & IMF may not know what to do. Traditionally, deflation is not something which is handled well by central bankers. It’s best treated by inflationary strategies which are not natural ways of thinking for central bankers. Even worse, governments should increase spending as well, but governments also seem quite unable to consider this approach. Their debts are often high to begin with and increased spending to stimulate the economy seems opposite from what should be done.
However, as deflation takes hold and total collapse of the economic system begins to appear imminent, government as well as major banks may be forced to act — it will hard but necessary.