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"Permanent Income" Inequality

Author

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  • Giovanni Gallipoli

    (UBC)

  • Brant Abbott

    (Queen's University)

Abstract

We estimate the degree of inequality of ``permanent income'', as well as trends over time. Our notion of permanent income is related to Friedman's (1957) original idea, but does not assume linear-quadratic utility. We account for financial and real wealth, as well as the certainty equivalent value of a household's potential future earnings, thus providing a monetary statistic directly related to economic welfare, which is not true of income or wealth alone. We combine publicly available consumption and income data from the PSID with net worth data from the SCF to produce our estimates. Our method imposes no restrictions on the dynamics of observed income processes and features state-dependent stochastic discount factors, as opposed to the risk-free discount factors commonly used to estimate the present value of lifetime earnings. We show that stochastic discount factors depend on many sources of risk beyond income risk, e.g. marital uncertainty. We use our estimates of permanent income to study how inequality in the U.S. evolved between 1989 and 2013, and how the human component of wealth varies over the life cycle of different households. Our findings suggest that accounting for human wealth significantly changes the assessment of aggregate inequality and of its evolution. Specifically, we find that: (i) top $10\%$ and top $1\% $ shares of permanent income are substantially smaller (roughly 1/2) than the corresponding shares of net worth typically reported in the literature; (ii) however, top shares of permanent income have grown much faster over the 1989-2013 period than top shares of net worth, suggesting that actual inequality has increased more than previously thought. For instance, the share of financial wealth owned by the top $10\%$ of the wealth distribution grew over that period by 8 percentage points while the share of permanent income attributable to that same group grew by 14 percentage points. Finally, we find that the share of households who sit at the top of both the net worth and human wealth distributions has actually decreased between 1989 and 2013, indicating that increased concentration of permanent income is not due to a small set of households holding increasing shares of all types of wealth. Instead, increasing concentration of permanent income is mostly due to the growing importance of real/financial wealth as a share of total wealth.

Suggested Citation

  • Giovanni Gallipoli & Brant Abbott, 2017. ""Permanent Income" Inequality," 2017 Meeting Papers 1033, Society for Economic Dynamics.
  • Handle: RePEc:red:sed017:1033
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    References listed on IDEAS

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    1. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-1445, November.
    2. Levy, Frank & Murnane, Richard J, 1992. "U.S. Earnings Levels and Earnings Inequality: A Review of Recent Trends and Proposed Explanations," Journal of Economic Literature, American Economic Association, vol. 30(3), pages 1333-1381, September.
    3. Mariacristina De Nardi & Giulio Fella & Gonzalo Paz Pardo, 2016. "The Implications of Richer Earnings Dynamics for Consumption and Wealth," NBER Working Papers 21917, National Bureau of Economic Research, Inc.
    4. Rios-Rull, Jose-Victor & Kuhn, Moritz, 2016. "2013 Update on the U.S. Earnings, Income, and Wealth Distributional Facts: A View from Macroeconomics," Quarterly Review, Federal Reserve Bank of Minneapolis, issue April, pages 1-75.
    5. Jesse Bricker & Alice Henriques & Jacob Krimmel & John Sabelhaus, 2016. "Measuring Income and Wealth at the Top Using Administrative and Survey Data," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 47(1 (Spring), pages 261-331.
    6. Kaymak, Barış & Poschke, Markus, 2016. "The evolution of wealth inequality over half a century: The role of taxes, transfers and technology," Journal of Monetary Economics, Elsevier, vol. 77(C), pages 1-25.
    7. Robert H. Haveman & Andrew Bershadker & Jonathan A. Schwabish, 2003. "Human Capital in the United States from 1975 to 2000: Patterns of Growth and Utilization," Books from Upjohn Press, W.E. Upjohn Institute for Employment Research, number hcus, November.
    8. Kopczuk, Wojciech & Saez, Emmanuel, 2004. "Top Wealth Shares in the United States, 1916-2000: Evidence From Estate Tax Returns," National Tax Journal, National Tax Association;National Tax Journal, vol. 57(2), pages 445-487, June.
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