And the Rich Get…Poorer?

by Dual Income No Kids on August 27, 2009 · 0 comments

Most people assume that the rich will always get richer. Wasn’t that the controversy before the global recession took over the headlines? The shrinking middle class? The rich getting richer, and the poor getting poorer? That might have been the case before the economic collapse, but things have certainly been different since then.
Huge Losses
It is a bit hard to feel a ton of sympathy for the super rich who have now become just rich. That’s typically reserved for people who now have to stand in line at the food bank, rather than people who have to sell their private jet. Nevertheless, the amount of money lost by some of these top 0.5% earners is staggering. The New York Times recently did a feature on anti-virus software founder John McAfee, whose net worth shrunk from $100 million to $4 million. Think about that for a second; a 96% net worth loss. It’s pretty incredible.
The Impact of the Top 1%

But discussions on the financial status of the ultra-rich are more than just a curiosity. If you’re one of the many who subscribe to the idea that the rich help carry our economy (i.e. trickle-down economics, a rising tide lifts all boats, etc…) this idea of the rich losing their fortune can only hurt the economy as a whole in a significant way. The basic idea is that by cutting taxes (such as the capital gains tax) and deregulating business (thus allowing businesses more freedom to conduct themselves in a way that they believe will grow their business the most), you increase the productivity of the economy, increasing our Gross Domestic Product, leading to lower unemployment rates and lower prices for consumers. Critics would point out that this thinking lacks the theoretical rigor found in other economic schools of thought, that deficits tend to expand greatly under this model (for evidence, look at what the Congressional Budget Office had to say about the effects of George W. Bush’s tax breaks earlier this decade), and the tax burden is shifted closer to the poorer members of society, who are the least capable of handling it. Regardless, the fact that the rich have an impact – perhaps the greatest impact out of all income groups – on our economy cannot be denied.

Probably the most interesting point discussed in the article was the source of wealth for the upper 1%. The point was made that while some of that wealth came from productive assets (i.e. companies, products and goods that can be tied back to the greater economy), a lot of the wealth came from financial engineering, where money was made but nothing was produced. With that being the case, whenever the stock market took a hit, whether that be back in the early 2000s with the tech boom and subsequent bust or more recently with the housing market, the wealth of the top 1% also took a sharp hit. In the case of John McAfee, he apparently had millions of dollars tied to Lehman Brothers, and another significant chunk of money tied to real estate. Obviously those two investments don’t look so great now. Because of the close tie-in to the stock (and bond) market, many economists are unsure about how that wealth will be recovered, as this is uncharted territory.

According to the Congressional Budget Office, the richest 1% (income-wise) account for 19% of gross yearly income, and pay 37% of the total income tax. The top 5% of the income earners bring in 33% of the total income and pay 57% of the total income tax. The topic of disproportionately scaled marginal tax rates is a controversial one, and the effect of increasing taxes on the rich is still not clearly known. However, what is certain is that our economy’s recovery will be dependent, at least on some part, to the wealthiest among us. They have built up a lot of wealth over the years and if they do not have the incentive to invest it will be hard for the economy to recover at any sort of “quick” speed.

The Congressional Budget Office
You’ll notice in a lot of my posts I’ll refer to the Congressional Budget Office frequently (in fact, I have planned a post discussing a recent report released by the CBO). For those who don’t know, the CBO is an independent, non-partisan federal agency who is responsible for estimating the costs of federal programs and projections of the national debt and tax effects. The only political influence on the CBO is the director, who is appointed by the party in power. I like to use them as a reference point because they have access to comprehensive data and are generally considered to be impartial when conducting their evaluations.

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