A New Class War: The Haves vs. the Have Mores

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By ERIC KONIGSBERG
Published: November 19, 2006

AT this time every year, there’s chatter about the magnitude of year-end bonuses in the financial sector, and the attendant fallout (or trickle-down): large tables at Peter Luger will be hard to come by in December; co-op sales will be healthy in January; and the gals who work the poles at Scores will receive more marriage proposals (and when the men who are proposing turn out to be already married, more jewelry) than ever before.


Tim Bower



This year’s special contribution to the canon may be the argument that the moment has arrived for a battle that looks to most of the population like a battle among peers, which in a sense it is: the rich versus the rich, the meritocrats versus the meritocrats, the ambitious versus the ambitious. But it also pits two highly distinct groups, the merely rich and the superrich.

Let’s define the terms first, or at least make some attempt to. The merely rich are those whose income puts them in the top 1 percent of the population. According to a recent study by the Center on Budget and Policy Priorities in Washington, the average real income for the top 1 percent of American taxpaying households was $940,000 in 2004 — a difficult group to feel pity for. But to stand for a moment on its shores (let’s pretend) and look toward the rapidly growing ranks of the superrich is to stare across a vast chasm indeed.

The superrich might be the top tenth of 1 percent (average real household income for 2004: $4.5 million) or the top hundredth (the $20-million-a-year households). Income inequality is growing fastest the higher we go up the chart. While the percentage change in average real household income between 1990 and 2004 was an increase of 2 percent for the bottom 90 percent of American households, it was 57 percent for the top 1 percent; and shot up to 85 percent for the top 0.1 percent; and up to 112 percent for the top .01 percent. That is, the richest are getting richer almost twice as fast as the rich.

Class warfare has been hypothesized by various publications, including the online magazine Slate, New York magazine and Matt Miller in Fortune last month. Mr. Miller calls the bigger and poorer group, which consists largely of professionals — doctors, lawyers, management consultants, the vast majority of Wall Street soldiers — the “lower-uppers.” The targets of their resentment, he says, are by and large hedge fund managers and certain astronomically paid C.E.O.’s.

“The problem is that there’s all this wealth at this new strata that feels unrelated to merit or achievement,” Mr. Miller says. “When a C.E.O. whose leadership has caused a company’s stock price to fall gets a $100 million golden parachute, or when a guy’s running so much money that his commission — even if his picks are only getting an 8 or 10 percent return on his client’s money — is $100 million, that’s crazy.” He says that such compensation “goes against the notion of a meritocracy.”

Or maybe not. “A meritocracy increases inequality — by its very nature, it has to,” says Nicholas Lemann, whose book “The Big Test” explored the history of the SAT and the American meritocracy. “The goal was equality of opportunity, not equality of result.”

Part of the problem may lie with the fact that the members of both classes went into their respective lines of work with the goal of making a lot of money, and one just happens to make several times more of it.

Take the lawyers. “Lawyers are an odd group,” says the novelist Louis Begley, whose day job for several decades has been practicing law with the white-shoe firm Debevoise & Plimpton. “Lawyers at the great law firms earn a lot of money. But for a good many of them, it’s impossible to do so without accepting anything but cases involving huge corporate deals that generate a great many hours they can charge for. But these deals are repetitive. And the lawyers in these transactions often play second fiddle to the bankers.”

The money paid to investment bankers, who were once the stronghold of the financial elite, typically pales next to hedge-fund money. “I recently hosted a panel with Carl Icahn at the Core Club where the whole point was that if you’re an investment banker nowadays, you’re kind of a schlepper,” says Michael Wolff, a Vanity Fair writer who has often written about the moneyed classes. “Investment banking is for the C+ students now. Where you want to be is not somebody who’s advising people with money — whose currency is intellectual capital — but somebody whose currency is money itself.”

This, too, may be what irks the professional classes. Managing a hedge fund is the purest abstraction of making money out of money — there is no other product to show for it.

The resentment may be intensified in New York, a city whose physical layout has always engendered a lot of class-mixing. The middle class might have been largely squeezed out of Manhattan over the past decade, but the merely rich and the superrich still live in the same neighborhoods (if not necessarily the same buildings), buy houses in the same Hamptons (just houses of very different scales), and send their children to the same schools.

Mr. Lemann said that the rich versus richer envy factor “assumes that the relatively poor group is bumping into the most upper income.”

He added, “You might only see it at, say, functions that parents go to at certain rarefied private schools — Fieldston, say, or Harvard-Westlake in Los Angeles.”

Even Mr. Begley, who has earned enough to raise a large family in a grand apartment on Park Avenue, said he was astonished by the sheer number of billionaires he has met in recent years.

“I must say, I’ve begun to feel in New York as if I were driving a Volkswagen on the highway when a Greyhound bus happens to go by,” he said. “At which point, I feel a whoosh of air blasting me off the road. These people belong to another species.”

Except, he said, that it’s “these young Wall Street types” buying up the apartments in his building. “There are maybe four or five of us who bought our apartments at some understandable price 30 years ago,” he said. “And then these new people — I must say, with the money seems to come a rather large physical size. Some of them are polite, but the men do fill the elevator cage. And the women always seem to have a bottle of water attached to their mouths.”

He added that he did not feel any need to engage in class warfare against his neighbors. “If I did, they might crush me against the elevator wall,” he said. “The only thing to do is get adopted by them.”

Economic View
If All the Slices Are Equal, Will the Pie Shrink?

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By EDUARDO PORTER
Published: November 19, 2006



THE chief executive of Wal-Mart Stores, H. Lee Scott Jr., made more than $15 million last year in cash, stock and options, according to the company’s annual report, an amount equivalent to roughly 850 times the pay of Wal-Mart’s average “associate” tending to shoppers on a superstore floor.

Mr. Scott isn’t even at the top of the income-disparity league. Bruce E. Karatz, the former chief executive of the homebuilder KB Home, made $150 million last year, according to the Corporate Library, a research firm. According to government statistics, a residential construction worker makes less than one four-thousandth of that.

Executives are gorging themselves across the economy. In a study published this year, the economists Emmanuel Saez of the University of California, Berkeley, and Thomas Piketty of the École Normale Supérieure in Paris reported that the top 0.1 percent of Americans in income receive nearly 7 percent of the total, the highest share since the 1920s.

Yet while the chasm between the lavish pay packages dished out in America’s executive suites and the wages of the minions below may jar archetypal notions of fairness, economists point out that not all inequality is bad. While it may have nasty side effects, some inequality is needed to spur growth.

“Clearly, perfect egalitarianism wouldn’t lead to much effort or output,” said Lawrence Katz, an economist at Harvard. “If you’re just talking about making the pie as big as we could, it is not clear what level of inequality is best.”

Like any other difference in prices, economists say, income inequality allows people and companies to better allocate investments of money and effort. Pay differences encourage the best and brightest into the most profitable lines of work, and the most profitable companies to hire them. Inequality, according to this view, provides an incentive to work extra hard to come out on top.

In a recent study that caused a bit of a stir in academia, two young economists, Xavier Gabaix of the Massachusetts Institute of Technology and Augustin Landier of the Leonard N. Stern School of Business at New York University, argued that the fast climb in pay for corporate chief executives had simply followed the rise in the size of American companies.

The difference in talent between the No. 1 and the No. 150 executive might not amount to much, but when the companies for which they work are humongous, these tiny differences could translate into real money. As they have grown, America’s corporate behemoths have bid up the price of executives in their quest to get the best.

Matching the best executives with companies that can profit most from them, and thus pay them the most, will produce wealth, Mr. Gabaix said. “Optimal inequality is whatever the market dictates at any given time,” he said. Put differently, efforts to share the pie in a more egalitarian way may reduce the size of the pastry.

In their study, Mr. Saez and Mr. Piketty found that recent growth has been faster in countries where the share of income going to the wealthy has increased sharply, including the United States, Britain and Canada, than it has in more egalitarian nations like France or Japan.

“In recent decades it looks like the link is true,” Mr. Saez said. Still, the breakneck speed at which America’s richest have increased their take of the economy since the 1980s is disconcerting to many analysts.

Many are skeptical that the chasm between the rewards of the rich and the rest needs to be quite so big to spur the economy along.

“If the growth in inequality is just about improving incentives, it’s gone beyond what looks necessary,” Mr. Katz said. “I don’t think the added incentive of earning $100 million over $50 million is very different than the incentive of making $10 million over $5 million.”

Mr. Saez pointed out that Japan’s postwar economic boom, which lasted until 1990, wasn’t hurt by the country’s relatively homogeneous income distribution. Mr. Katz noted that the United States economy grew very quickly from 1947 to 1970, a period when the distribution of rewards was much more egalitarian than it is today.

Moreover, the growing gap between rich and poor has costs that may be harder to quantify.

To begin with, growing inequality will strike many as unfair, prompting social tensions. But there are worries beyond fears of unrest. The growing share of income devoted to those at the top is leaving less and less to share among the rest of us.

In one recent study, Robert Gordon and Ian Dew-Becker, economists at Northwestern University, found that half of the income gains derived from the increase in productivity from 1966 to 2001 accrued to the top 10 percent of earners. The wages of typical American workers, meanwhile, barely grew at all.

A shrinking share of the nation’s economic spoils will not only reduce workers’ stake in the current social setup; it will leave them with few resources for investment in economically crucial items like education. Rising inequality will also hamper teamwork. And it may ultimately destroy incentives. If the rewards of economic growth are monopolized by the very top earners, the rest of us may find little reason to make an effort.

Using a golf metaphor, Richard Freeman, an economist at Harvard and the National Bureau of Economic Research, said, “If Tiger won everything, nobody would want to play.”

AND if extreme income disparities produce anomie at the bottom, they can have even more perverse effects on the incentives at the top. For instance, those who benefit most from the current system will be tempted to help friendly politicians win elections to ensure that future economic arrangements still go their way. And, as has been shown by the run of shenanigans from the creative earnings management practiced by Enron and WorldCom a few years ago through the recently discovered backdating of options, some executives will simply cheat.

Mr. Freeman and Alexander Gelber, a Ph.D. candidate in economics at Harvard, recently ran an experiment to figure out how inequality affects workers’ efforts. They gave three groups of participants puzzles to solve and rewarded them in different ways.

The first group, in which everyone received the same reward, regardless of performance, didn’t solve many puzzles. The group in which the best maze solver got all of the rewards — and no one else got anything — didn’t do too much better. The group that had a sliding scale of rewards, based on performance, did the best.

Yet the most interesting result of Mr. Freeman’s experiment was not about maximizing output. In an unexpected twist, some subjects of the test found ways to rig the system. Few did so when the rewards were spread in an egalitarian way. But when the rewards gave participants an incentive to compete, they also provided a powerful inducement to cheat.

It's amazing how much time and effort some writers put into letting the world know how much they loathe and detest people who happen to be good at creating wealth. The bitterness that these articles exude is astounding. As is the writer's complete lack of understanding of reality, of business, of money and capital, and of the obvious fact that the rich don't really resent the super-rich at all. It's just such a non-thing to write an article about.