Asset Appreciation Is Actually Pretty Important

by Reihan Salam

Thomas Edsall, a left-of-center Columbia University journalism professor and contributor to the New York Times, has written an overheated response to some of Richard Burkhauser recent work on income inequality, claiming that Burkhauser is “a champion of the right” despite the fact that Burkhauser’s work has no obvious political valence. As we’ve discussed, Burkhauser’s recent work with Phillip Armour and Jeff Larrimore suggests that if we use accrued gains rather than taxable realized capital gains to track how income changes over time, inequality patterns in recent decades look quite different. Edsall characterizes this work as “a challenge to liberals,” and he cites a number of reasonable methodological critiques. But the basic idea of using accrued gains is sound for this reason: when I own an asset, I can borrow against it, even if I don’t sell it. Increases in the value of my asset contribute to my economic well-being whether or not I sell it, hence the increase in consumer spending that flowed from rising house prices during the housing boom. Researchers tend to rely on taxable realized capital gains because the data is more readily available, but a person who owns financial assets doesn’t suddenly become affluent once she sells them — she benefits as her assets gain value in real-time.

Edsall’s rhetoric is over-the-top:

Not only would Burkhauser lay waste to a core liberal argument — inequality is worsening — but his claim that a declining share of income is going to the wealthy could be used to justify further tax cuts for the affluent in order to foster top-down investment and growth, just as Republicans justified the Reagan tax cuts of 1981 and the Bush tax cuts of 2001 and 2003.

Burkhauser does not find that inequality vanishes, and given that the share of income going to the wealthy remains quite high, the fact that it might have declined isn’t in itself an argument for increasing it. The strongest core liberal arguments rest on the idea that we don’t invest enough in the human capital of the poor and near-poor, and that taxing the most well-off Americans to increase public investment is a responsible strategy that won’t undermine growth. Burkhauser’s work has no bearing on whether or not this strategy is sound. 

Edsall makes no mention of the wealth effect caused by asset appreciation:

The unfairness of Burkhauser’s approach is clearly acute at the bottom and middle of income distribution. The most common large asset for those on the bottom rungs is a house. Burkhauser would increase the income of those below the median lucky enough to own a home by the annual appreciation in the value of the home through 2007. For many of these families, however, selling their home is not an option. In Burkhauser’s view, their income goes up even if their living conditions remain unchanged.

There is another kind of “unfairness” to keep in mind. Some Americans purchased homes with the aid of mortgages before the Reagan-Volcker disinflation while others purchased them afterwards. When we compare two 35-year-olds, one of whom inherits a home from a parent who purchased a house in 1979 and one of whom inherits a home from an otherwise-identical parent who purchased a house in 1989, there is good reason to believe that the former will be better off than the latter, as inflation would have greatly reduced the debt burden on the former family, and the resulting savings might have been applied in many different ways, e.g., to purchase a higher-quality education, to purchase other financial assets, etc. Differences of this kind are major drivers of unequal outcomes, yet ignoring accrued gains masks them. 

Edsall insists that accrued gains are irrelevant because one can’t use them to purchase a higher standard of living, and that borrowing against assets doesn’t count, as the value of an asset can decline. This doesn’t strike me as a very sophisticated reading. It is true, as Edsall observes, that wealth levels have declined in the wake of the housing bust. But of course Burkhauser doesn’t deny this — if anything, it reinforces his point that accrued gains and losses matter, as households burdened by declining home values have been spending much less, thus dampening consumer spending levels overall. Indeed, Burkhauser’s approach can reinforce other apocalyptic narratives liberals might appreciate, e.g., a focus on accrued gains reveals that racial inequalities in the post-crisis are more severe than alternative approaches might lead us to believe.

Incorporating accrued gains doesn’t really undermine arguments for redistribution. What it does do is give us a richer picture of how U.S. households are really faring, for better or for worse. 

The Agenda

NRO’s domestic-policy blog, by Reihan Salam.