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Backgrounder #1418 on Taxes

March 8, 2001

Income Mobility and the Fallacy of Class-Warfare Arguments AgainstTax Relief

By

The dynamic U.S. economy is characterized by an extraordinary degree of income mobility that has been all but ignored in the recent debate on reducing federal income tax rates and phasing out the death (estate) tax. Opponents of tax relief are criticizing commonsense reforms because they claim that "only the rich" will benefit. Yet the notion that low-income or high-income groups are composed mostly of the same people over time is an illusion.

The comparison of average incomes and taxes paid by groups would be meaningful only if America were a caste society in which the people comprising one group remained constant over time. Most Americans, however, understand that family incomes change frequently, and the research on income mobility reveals that most family incomes increase significantly over time.

This is one reason why Americans with modest incomes tend to resist "soak the rich" class-warfare arguments: They hope to be rich themselves one day. Policymakers should ignore this class-warfare rhetoric and redesign America's tax code so that its barriers to upward mobility are reduced.

PATTERNS OF INCOME MOBILITY

Many academic studies have found remarkably consistent results that suggest there is substantial income mobility in the United States.1 For example:

  • A 1992 Treasury Department study showed that between 1979 and 1988, 86 percent of those in the bottom income quintile moved to a higher quintile, and 35 percent in the top income quintile moved to a lower quintile.2

  • A 1995 Federal Reserve Bank of Dallas report showed that almost three-fourths of those in the bottom quintile in 1975 were in a higher quintile by 1991, and almost 40 percent in the top quintile moved down to a lower quintile over the same period.3

  • A 1996 Urban Institute study showed that large numbers of Americans move into a new income quintile, with estimates ranging from 25 percent to 40 percent in a single year. The same study found even higher mobility rates over longer periods: about 45 percent over five years and 60 percent over 9-year and 17-year periods.4

  • In 1998, the Census Bureau reported that, on average, over 41 percent of Americans increased their inflation-adjusted income by 5 percent or more per year from 1984 to 1994.5 The primary reasons for changes in income from year to year were changes in marital status, changes in the number of workers in the household, and moving into or out of full-time, year-round employment.

  • A 2000 Economic Policy Institute study showed that almost 60 percent of Americans in the lowest income quintile in 1969 were in a higher quintile in 1996, and over 61 percent in the highest income quintile had moved down into a lower income quintile during the same period.6

The direction of income mobility is also important. The upward movement of workers in the second-lowest and middle-income quintiles is larger than the downward movement. From 1969 to 1994, the income of 53 percent of workers in the second-lowest income quintile had increased enough to move them up into a higher income quintile, and 38.7 percent of workers in the middle quintile had moved up compared to 37.9 who moved down.7

CONCLUSION

Much of the debate and political rhetoric on tax relief have focused on how much income the top one-fifth or 1 percent of families would receive versus the bottom one-fifth and other fifths. Yet this approach is statistically meaningless because the mix of individuals and families who make up the various income groups changes constantly.

The fact is that the U.S. economy, while not without its problems, remains dynamic, open, and productive enough to enable Americans to rise as far and as fast as their dreams, hard work, and perseverance will take them. What is needed is commonsense tax reform that reduces the burden of excess taxation for all Americans.

D. Mark Wilson was a Research Fellow in the Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation.

 

Endnotes

1. Daniel P. McMurrer and Isabel V. Sawhill, "How Much Do Americans Move Up and Down the Economic Ladder?" Urban Institute, Opportunity in America No. 3, November 1996. This report reviewed seven income mobility studies published from 1992 to 1996.

2. Income Mobility and the U.S. Economy: Open Society or Caste System? Joint Economic Committee, U.S. House of Representatives, 102nd Cong., 2nd Sess., January 1992. Quintiles are calculated by dividing the number of families or people into five groups of equal size and classified by income.

3. W. Michael Cox and Richard Alm, "By Our Own Bootstraps: Economic Opportunity and the Dynamics of Income Distribution," Federal Reserve Bank of Dallas 1995 Annual Report, pp. 2-23.

4. McMurrer and Sawhill, "How Much Do Americans Move Up and Down the Economic Ladder?"

5. U.S. Bureau of the Census, Moving Up and Down the Income Ladder, No. P70-65, July 1998.

6. Lawrence Mishel, Jared Bernstein, and John Schmitt, State of Working America: 2000-01 (Ithaca, NY: Cornell University Press, 2000), p. 77.

7. Ibid.

The direction of income mobility is also important. The upward movement of workers in the second-lowest and middle-income quintiles is larger than the downward movement. From 1969 to 1994, the income of 53 percent of workers in the second-lowest income quintile had increased enough to move them up into a higher income quintile, and 38.7 percent of workers in the middle quintile had moved up compared to 37.9 who moved down.7

CONCLUSION

Much of the debate and political rhetoric on tax relief have focused on how much income the top one-fifth or 1 percent of families would receive versus the bottom one-fifth and other fifths. Yet this approach is statistically meaningless because the mix of individuals and families who make up the various income groups changes constantly.

The fact is that the U.S. economy, while not without its problems, remains dynamic, open, and productive enough to enable Americans to rise as far and as fast as their dreams, hard work, and perseverance will take them. What is needed is commonsense tax reform that reduces the burden of excess taxation for all Americans.

D. Mark Wilson is a Research Fellow in the Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation.

 

Endnotes

1. Daniel P. McMurrer and Isabel V. Sawhill, "How Much Do Americans Move Up and Down the Economic Ladder?" Urban Institute, Opportunity in America No. 3, November 1996. This report reviewed seven income mobility studies published from 1992 to 1996.

2. Income Mobility and the U.S. Economy: Open Society or Caste System? Joint Economic Committee, U.S. House of Representatives, 102nd Cong., 2nd Sess., January 1992. Quintiles are calculated by dividing the number of families or people into five groups of equal size and classified by income.

3. W. Michael Cox and Richard Alm, "By Our Own Bootstraps: Economic Opportunity and the Dynamics of Income Distribution," Federal Reserve Bank of Dallas 1995 Annual Report, pp. 2-23.

4. McMurrer and Sawhill, "How Much Do Americans Move Up and Down the Economic Ladder?"

5. U.S. Bureau of the Census, Moving Up and Down the Income Ladder, No. P70-65, July 1998.

6. Lawrence Mishel, Jared Bernstein, and John Schmitt, State of Working America: 2000-01 (Ithaca, NY: Cornell University Press, 2000), p. 77.

7. Ibid.

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