Bush Tax Cuts Did Not Increase Income Inequality

January 30, 2012

Gap between Rich and Poor Driven by Business Cycle

Washington, DC, January 30, 2012- Contrary to recent reports suggesting that Bush-era tax cuts have increased income inequality in the U.S., the gap between rich and poor in recent decades has been driven mostly by the business cycle, i.e. multi-year fluctuations in economic activity, according to a new report by the Tax Foundation.

"Inequality generally increases during eras of growth and economic expansion and decreases during recessionary times," said Tax Foundation economist Will McBride. "Changes in tax rates on high-income earners over the last two decades have been incidental to this trend."

Historically, income inequality in the U.S. reached a peak in the 1920s, falling in the decades afterward and eventually rising again in the 1980s and 1990s. This rebound has been attributed to everything from globalization and immigration to the growth of super-star salaries and the computer revolution. All of these factors, however, might better be described as simply the reasonable outcomes of a growing market economy.

The resurgence of inequality in recent decades has also been attributed to tax policy. Based on the most recent IRS data, income inequality has fluctuated considerably since 2000 but is now at about the level it was in 1997. Thus, the Bush-era tax cuts, which had provisions benefitting both high- and low-income taxpayers, did not lead to increased income inequality. By contrast, inequality rose 12% between 1993 and 2000, following two tax rate increases on high-income earners. Thus, changes in inequality over the last two decades appear to be driven more by the business cycle than tax policy.

Levels of inequality can also be made to appear higher than they actually are based on how researchers present the data. The most recently published studies on income inequality use either 2006 or 2007 as their end point, without fully correcting for the business cycle. Since the peak in 2007, personal incomes have collapsed to a degree not seen since the Great Depression. The most dramatic collapse has been in high incomes. Since 2007, for example, the number of millionaires has dropped 40 percent, while income reported by millionaires has dropped in half.

"It is not evident that the Bush tax cuts in either the top marginal rate or capital gains rate had any long term effect on inequality. If anything, they appear to have reduced inequality," said Tax Foundation economist Will McBride. "Therefore, a return to Clinton-era tax rates would not necessarily reduce inequality."

Tax Foundation Fiscal Fact No. 289, "Reversal of the Trend: Income Inequality now Lower than it was Under Clinton" by Will McBride is available online.

The Tax Foundation has monitored fiscal policy at the federal, state and local levels since 1937. To schedule an interview, please contact Richard Morrison, the Tax Foundation's Manager of Communications, at 202-464-5102 or morrison@taxfoundation.org

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