From 1977 to 1989, the U.S. economy grew at a rate that would have lifted everybody's real income by 10% if the gains had been distributed evenly. Instead, the top 1% of families--about 1 million in 1989--saw their average incomes soar by 80%, while the living standards of most other Americans stagnated or even fell.
With the Presidential campaign heating up, this lopsided distribution of gains has become a political football. Democrats are blaming the Reagan Administration's economic policies, while Republicans are attacking the data as unreliable. But both sides are wide of the mark. The numbers tell the same story no matter how they are sliced. A widening income gap started long before the Republicans took office and was caused by fundamental changes in the economy. Says Paul R. Krugman, a prominent economist at Massachusetts Institute of Technology: "At base, it can't be Ronald Reagan's fault."
HIGHER FEES. A BUSINESS WEEK analysis of the data shows that the rising prosperity of the top 1%, those families in 1989 with incomes over $165,000, can be traced to four critical factors. Doctors and lawyers, who make up a big chunk of the top 1%, were able to raise fees far faster than inflation. Top performers in many fields, from management to Wall Street, saw their compensation soar as U.S. business went global. Wealthy households with money to invest benefited from high real interest rates, which were boosted by the borrowing binge of the 1980s. And booming stock and real estate markets produced big capital gains for investors.
The analysis indicates that these four factors account for an extraordinary 70% of the $200 billion increase in the annual income of the top 1% between 1977 and 1989, after adjusting for inflation and population growth (table). What's more, with the exception of real estate gains, the forces that produced the inequality of the 1980s are likely to persist in the 1990s.
Consider the earnings gains for doctors and lawyers, which alone account for a staggering $35 billion of the total $200 billion gain (table, page 88). Between 1983 and 1990, the average income of lawyers, after inflation, rose by 25%, while doctors' earnings increased by 21%. By comparison, the salaries of engineers rose by only 4% over the same period.
Moreover, the 1990s should be little different. Even though the U.S. government and companies are vigorously trying to contain health and legal costs, doctors and lawyers still have the advantage of a near-monopoly of medical and legal services. Doctors in particular will benefit from an aging population that will keep medical spending, and physicians' incomes, rising. Even during the past year, while the real incomes of other professionals were flat, the real median earnings of doctors rose by 7%.
But doctors and lawyers were not the only winners. Across a wide range of professions, the gap between the top achiever and everyone else has been widening. Take the senior managers of large companies, for example. From 1980 to 1991, chief executives' compensation soared by 138% after inflation. Meanwhile, real salaries for all managers rose by just 5%. Notes compensation consultant Graef S. Crystal: " Incentive plans are always disproportionately slanted in favor of the top brass."
BOOK CONTRACTS. On Wall Street, too, top traders and investment bankers pull down the bulk of the bonuses. Even among journalists and academics, lucrative book and consulting contracts have produced a small number of big winners. Indeed, it has become the norm to pay extremely high compensation to a select group of top performers (table). Partners at major law firms garner 10% of all income going to lawyers, even though they are less than 2% of the profession.
This superstar effect is only going to get more important as globalization raises the stakes for U.S. businesses. A successful corporation now has access to markets all over the world. At the same time, the increasing number of foreign competitors leave less room for mistakes, says Ira Kay, managing director at Hay Group Inc., a compensation consultant. The combination means that companies and clients are more willing to pay for top-notch talent. Moreover, improvements in communications, such as fax machines, are making it easier for a small group of top people to serve a wide market.
WITH INTEREST. It's not just high skills that produced the big income gains. The debt explosion of the last decade helped generate a staggering $50 billion increase in the interest and dividend income going to the top 1% of families. As the government, business, and consumers took on mountains of debt, interest income to individuals more than doubled from 1977 to 1989, adjusted for inflation, rising far faster than wage and salary income. And a hefty portion of those interest payments went to the top 1% of families, who held about 77% of all bonds in 1989, according to a recent paper from the Federal Reserve. And as long as the federal deficit keeps climbing, real interest rates will stay high; so will interest income.
To be sure, the boom in the real estate and stock markets, which helped add $45 billion in capital gains to the income of the top 1%, may not be repeated again soon. But even so, the other factors will ensure that the income gap will continue to widen in the 1990s. And that's going to be true no matter who wins the Presidential election--Bush, Clinton, or Perot.