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Why has income inequality in the UK and US increased so rapidly in recent decades?

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Introduction

David Bell Caius Part II Mr.M.Roberts Why has income inequality in the UK and US increased so rapidly in recent decades? In the 30 years up to 1979, income inequality in the UK was largely stable, possibly falling slightly. However, the decade after 1979 saw an unprecedented widening of the income distribution, a phenomenon replicated in the US: the ratio of the 90th and the 10th percentile of the in the UK the male wage distribution rose from 2.53 to 3.21 between 1980-90 and in the US from 4.76 to 5.63 over 1980-89. Moreover, at present the bottom decile accounts for just 3% of total income whilst the top decile accounts for 25%, which suggests widespread inequality in the UK. Other OECD countries have also experienced steady rises in income inequality in recent years, but the crucial issue, and one which can help our understanding of the underlying causes of income inequality, is to explain why this process has been so exaggerated in the UK and US elsewhere. One explanation as to why income inequality has risen in recent decades has been the growth in international trade, which Saughter (1998) claims accounts for a positive but small share of rising inequality. This can be demonstrated through the application of the Hecksher-Ohlin model. The assumptions of this model are as follows: firstly, there are two factors (skilled and unskilled labour), two goods (X and Y) ...read more.

Middle

In the US and the UK it is argued that this lead to a fall in the relative wage of unskilled workers and hence a rise in dispersion. This may have occurred firstly because of increased trade liberalization which increases competition from other countries where unskilled labour is abundant, reducing the relative wage of unskilled labour. Other explanations have also been advanced, notably that technological change has been biased towards skilled labour with the introduction of automation and IT. Firstly, it is argued that computer decision making has significantly substituted for human decision making in modest cognitive tasks. Secondly, computers in organisations have been complementary to large bundles of cognitive skills. Thirdly, organizational computing has been complimentary to people skills, raising their return. Fourthly, these changes are assumed to have come at a time and in the industries where organizational computing has had its largest impacts. Hence, demand for skilled labour has risen causing an increased dispersion between skilled and unskilled labour wages. It has been argued that this demand-based argument is too narrow and fails to realize that wage determination is partly affected by interacting as members of a society. One source of social interaction in wage determination in the labour market is through collective bargaining by unions. If it is the case that unions lead to a lower earnings dispersion (and this seems reasonable to propose), then a valid explanation for the rise in dispersion in the UK and US is the decline in union power and coverage. ...read more.

Conclusion

Secondly, the political environment is important because it determines attitudes, and particularly with respect to how much inequality is to be acceptable by society. Both Thatcher and Reagan in the 1980s, through their highly laissez-faire economic policies, reflected in their attitude towards the role of labour institutions and the tax system, fostered a climate in which greater levels of income inequality became socially acceptable. Akerlof (1981) has developed a model in which individuals' utility depends not only on their own income but also on reputation and conformity with the social code. In the 1980s, it may be the case that the social code changed, setting wages at long run equilibria which were seen to be fair rather than the market clearing wage. It may be therefore concluded that the notion of fairness changes allowing for greater dispersions in wages across groups. In conclusion, therefore, it appears as though skill-based technological change arguments and trade-based arguments may help to explain some of the underlying movements in income inequality seen across a number of countries. However, to explain why income inequality rises have been so marked in the US and the UK, factors specific to these countries must be the major cause. This occurred because of a change in the political climate, bringing about a reduction in the equalizing role of labour market institutions, a less progressive tax system and a new notion of what wage differentials society was prepared to accept as fair. ...read more.

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