20 Jan 2012  Working Papers

Income Inequality and Social Preferences for Redistribution and Compensation Differentials

Executive Summary — Market-based factors have substantially increased inequality in the United States over the last three decades. If the inequality caused by these mechanisms reduces social preferences regarding distributive equality, the inequality can become amplified and entrenched. The potential thus exists for the formation of a "vicious cycle" where increases in disparity weaken concern for wage equality or redistribution. This weakened concern affords greater future compensation differentials, a shrinking of the welfare state, and so on that further increase inequality and again shift preferences. Alternatively, changes in social preferences can counteract inequality increases. William Kerr characterizes how changes in inequality affect social attitudes towards government-led redistribution and compensation differentials. The results of this study provide mixed evidence regarding the vicious-cycle hypothesis. Kerr's findings suggest that social preferences regarding inequality adjust to desire more redistribution while allowing greater labor market inequality. Key concepts include:

  • Controlling for people's initial positions and views of social mobility, local changes in inequality are positively and significantly correlated with changes in support for government-led redistribution.
  • While greater class conflict is perceived along income dimensions, the increases in support for redistribution among wealthy individuals are as strong as those of poorer individuals.
  • The results of this study suggest that a short-term increase in inequality is unlikely to prompt a vicious cycle where support for redistribution declines, thereby promoting further increase in inequality.
  • On the other hand, significant growth in proposed wage differentials are evident in the international analyses with higher inequality. While less than one-for-one, increases in inequality are associated with greater acceptance of wage disparities. This pattern suggests that labor market changes may reinforce inequality growth.
  • How political systems are structured will govern whether rising latent concerns for redistribution produce higher effective support to which politicians are held accountable.

 

Author Abstract

In cross-sectional studies, countries with greater income inequality typically exhibit less support for government-led redistribution and greater acceptance of wage inequality (e.g., United States versus Western Europe). If individual nations evolve along this pattern, a vicious cycle could form with reduced social concern amplifying primal increases in inequality due to forces like skill-biased technical change. Exploring movements around these long-term levels, however, this study finds mixed evidence regarding the vicious cycle hypothesis. On one hand, larger compensation differentials are accepted as inequality grows. This growth in differentials is of a smaller magnitude than the actual increase in inequality, but it is nonetheless positive and substantial in size. Weighing against this, growth in inequality is met with greater support for government-led redistribution to the poor. These patterns suggest that short-run inequality shocks can be reinforced in the labor market but do not result in weaker political preferences for redistribution.

Paper Information