Posts Tagged ‘Income Distribution’

Facts Citizens Should Know

November 19, 2016

This post is based on information in “Head In The Cloud”  by William Poundstone.  It might be difficult to find someone who did not know what the national debt was.  And it would seem to be reasonable for citizens to have at least ballpark estimates of its size.  In October 2013 Internet Panel survey that was conducted by “Business Insider” when Ted Cruz was engineering a partial shutdown of the federal government over the federal deficit.  The survey asked a representative sample of 500 respondents nationwide to estimate the size of the US deficit.  The question was multiple choice, and guesses were grouped by order of magnitude.  The most common answer was the range $1 billion to just under $10 billion.  This answer was chosen by 23% of the respondents.  The actual 2013 deficit was $642 billion, which is about a hundred times bigger than the typical response.  Others estimated the deficit even more drastically.  More than 10% put it at a few million dollars or less.  Poundstone notes “That segment of the public inhabits an alternative universe in which a retired optician in Boca Raton could write a check covering this year’s federal deficit.

It is possible to think that these numbers are so large that they are incomprehensible to the average Joe.  So the survey also asked what had happened to the deficit in the previous year.  Was it bigger, smaller, or about the same?  As Poundstone writes “Well-informed citizens would have known that the slowly recovering economy, spending cuts, and tax increases had combined to cut the deficit from $1.09 trillion in 2012 to $642 billion in 2013.  Still, 68% believed that the deficit was larger in 2013.

Poundstone followed up on this survey with a similar one using the same Internet panel firm.  A new randomized national sample was asked the same two questions, except he replace the word “deficit” with “debt”.  Many people confuse these two terms, but they are quite different.  Deficit refers to a budget shortfall.  Debt refers to borrowed money for which the government is responsible.  Deficits are annual and debt is cumulative.  It can either increase or decrease.

Poundstone provides historical context for the national debt.  Under George Washington the United  States ran up huge Revolutionary War debt that wasn’t paid off until 1830,  The United States remained debt free for about a decade after than, but since 1840 the United States has always had debt.  At the time of the survey the US debt stood at more than $17 trillion.  Only 27% picked the correct range ($10-100 trillion) and it was not the most popular response.

The meaningful statistic is per capita debt.  But to compute per capita debt one needs to know the population of the US.  A National Geographic survey asked participants to pick the US population from four multiple-choice ranges.  69% picked outrageously wrong answers or said they didn’t know.

What do citizens know about the distribution of individual wealth?  Psychologist Dan Ariely and business professor Michael I. Norton ran an Internet Panel survey asking 5,522 Americans to estimate the distribution of wealth in 2011.  The participants were instructed to divide the nation into quintiles (fifths of the population) by wealth.  There would be the wealthiest 20%, the second-wealthiest 20% and so on down to the poorest 20%.  The survey was regarding wealth and not income.  It asked about net worth defined as the total value of everything someone owns minus any debt.

The reality is the the top 20% of American possess about 84% of the wealth.  The second and middle quintiles split between themselves almost everything else.  The two poorest quintiles account for only 0.2% and 0.1% of the total.  This bottom 40% is living mostly paycheck to paycheck if they have paychecks.

Although the public is aware  that there is a lopsided distribution of wealth, they have a poor idea of how lopsided this distribution is.  Survey subjects gestated that the top quintile holds about 58% of the total wealth and that a each succeeding quintile has progressively less, down to about 3% of the poorest group.  In other words the public estimated the top quintile to be 20 times richer than the bottom quintile.  The top quintile is 840 times wealthier in reality.

When asked to describe the ideal wealth distribution, the top fifth would hold about 32% of the nation’s wealth and the bottom fifth would have 10%.  So the top to bottom quintile shrinks to barely threefold.

A surprising finding was that there wasn’t much variation among the estimates, either actual or ideal, made by different political and demographic groups.  As expected Republican voters and men favored a bit more wealth inequality than Democratic voters and women did, but not much.  The wealthy had a better ideal on how much the top quintile owned, and they envisioned a utopia with greater wealth disparity than the poor did, but, again, the difference was only a few percentage points.

Another study by Michael Norton an Sorapop Kiatpongsan asked a sample of 55,000 respondents in 40 industrialized nations to estimate the actual and ideal incomes of unskilled worked in their respective nations.  They also asked for the actual and ideal incomes of the CEO of a large corporation.  Using these responses they computed CEO-to-worker ratios, based on the estimates, and compare them to the reality.

In the United States the ratio in the book was 354 to 1.  It continues to worsen year after year.   But Americans estimated it to be only 30 to 1.  The expressed ideal pay ratio was 6.7 to 1.  The discrepancies between actual pay ratio and ideal pay ratio hell throughout the world, but they were no where as outlandish as in the United States.

Please allow HM a digression here as it is something he feels very strongly about.  A business professor he published CEO to worker pay ratios with the intention of showing how outlandish they were.  Unfortunately, the law of unintended consequences raised its ugly head.  Corporate boards of directors used this as a metric for hiring under the following assumption:  to get the best CEOs they needed to increase their compensation.  CEOs from entirely different industries are hired on the assumption that they have a certain genius.  HM argues that there usually is someone within the company who can do a much better job, one who knows the companies workings and problems intimately.

The result is that corporate governance in the United States is rotten.  The Board of Director scratches the CEOs back and the CEO returns the favor.  The result is not good for individual stockholders, employees, or customers.  Employees have the most interest in the actual company and in the long-term welfare and growth of the company.  This is not true for either the CEO or the Board of Directors who might be interested in flipping the company or getting involved in some merger that most often does not benefit employees or customers, and might not provide long-term benefits to individual stockholders, especially value investors.

The benefits of CEO compensation can be compared across nations.  There is absolutely no evidence that the exorbitant compensation of CEOs has any benefits for anyone other than the CEO and the Board of Directors.

An obvious solution might be to require legitimate elections in publicly owned companies where there are at least two candidates for every position.  Although obvious, this might be difficult to implement.  One might argue that stockholders do not know whom they are voting for, but one could provide evidence that this is also the case in democracies.  But a more viable solution might be to do what they do in Germany. In Germany half of the board of directors must be employees.  Employees are not only interested in wages and benefits, but they have a long standing interest in the health and growth of the company.

© Douglas Griffith and, 2016. Unauthorized use and/or duplication of this material without express and written permission from this blog’s author and/or owner is strictly prohibited. Excerpts and links may be used, provided that full and clear credit is given to Douglas Griffith and with appropriate and specific direction to the original content.