This paper was written for Economics 1339: Generating Wealth of Nations, a Harvard undergraduate course taught by visiting professor Jeffrey Borland.
The United States during the later part of the 20th century experienced a reversal in the pattern of decreasing income inequality that had slowly been establishing itself since the end of the Great Depression. Indeed, by 1982, inequality in the distribution of American family incomes had eclipsed the same figure measured in 1950, the year that had seen the highest level of inequality since record keeping began in 1947.
Figure 1 (above) depicts the top ten percent income share in the United States during the decades between World War I and present day. The data points are logically separated into three discrete periods – The Great Depression (characterized by high inequality), the Great Compression (a decrease in inequality), and the Great Divergence (a return to higher inequality). This last period came as a surprise to many who had previously studied income inequality in America. At the time, the prevailing school of thought regarding the mechanics of economic inequality was one first proposed by Simon Kuznets in his 1955 paper entitled “Economic Growth and Income Inequality”. Kuznets hypothesized that as economies matured in less developed regions, certain emergent factors like industrialization and urbanization would increase income inequality. Then, as those economies continued to develop, social and political forces would come into play to relieve the poorest in society while the upper income group would experience slower growth than under early industrialization. These two observations produced an inverted-U curve of inequality as a function of development, a model that had been supported by empirical evidence from the first half of the 20th century. Around the 1980s, however, income inequality began a steady climb that has carried through to present day. Furthermore, a closer look at family incomes during this time reveals that the income gap has increased the most between the top and the middle of the distribution, while it has remained fairly stable between the middle and bottom. The search for causes of this upward trend in income inequality has been the topic of much research, though a consensus has hardly been reached. Truly, pinpointing a cause would help address inequality in the real world and its associated negative effects, such as increased rates of mortality and obesity. This paper presents a survey of the most compelling theories for income inequality in America and seeks to identify the strengths and weaknesses of each.