Is Income Inequality Increasing? Only If You Don’t Count Health Benefits

Income inequality is not so much a problem as income opacity.

In the latest issue of Regulation magazine, editor Peter Van Doren reviews two recent studies that find income inequality is not increasing:

While it is true that the cash explicitly paid to employees has become more unequal over the last generation, the implication that labor markets are not working well and that government should alter labor market outcomes does not necessarily follow. A more benign explanation for the change in cash compensation over a generation is the dramatic increase in health insurance costs. Employers may be paying all their employees a more or less equivalent increase on a percentage basis, but for lower-paid workers much of that pay is not showing up in cash. Thus, if this view is correct, inequality in the cash component of compensation has increased while inequality in total compensation has not increased because the fixed costs of health insurance are a much larger percentage of the total compensation of lower-earnings workers…

If one analyzes data on only working-age individuals (age 25–61), inflation-adjusted real pre-tax, post-cash-transfer money income grew 1.9 percent and 10.5 percent respectively for the first (poorest) and 10th (richest) deciles from 1995 to 2008. But if one adds the value of health insurance, the first (poorest) decile grew 12.3 percent while the top decile grew 11.7 percent.

[T]he growth in compensation by earnings decile (from the 30th to the 99th) averages 35 percent [from 1999 to 2006], with 41 percent growth at the 30th percentile (workers earning $10–$14 an hour) and only 35.8 percent growth at the 99th percentile (workers earning $59–$80 an hour).

Because expenditures on health care are increasing so rapidly and because so much of the cost of health care is paid for by employers or government, discussions about rising inequality that only consider cash income provide a misleading view of trends in inequality. When health insurance expenditures are added to household cash income, the increases in inequality from 1995 to 2008 are completely offset.

In brief: government intervenes in labor and health care markets; advocates of those interventions use the resulting income opacity to argue that markets are defective.