Earnings Inequality in Metro Cities as An Outcome of College and Skill Premium

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Abstract: 

The fact of the rising inequality in “booming places” with most income going to high-end jobs such as “engineers, lawyers and innovators” give out two stories. First, there is inequality across the U.S. cities that is correlated with city size in terms of economic prosperity. The bigger the city is, the more inequality it has. Second, there is inequality within these metros and is exacerbated by earning gaps resulting from higher-paying jobs. With references to empirical and theoretical scholarly studies, this essay attempts to first explain the process behind such earnings inequality in association with college and skill premium. Then, it takes a broader perspective regarding the desirability and benefits of wage premium and compares it with its risks and concerns. Finally, it proposes some public policies to reduce inequality, foster economic mobility, and promote accessible opportunities and education in the U.S..

Earnings inequality is one of the dimensions of economic inequality in terms of outcome. For the past three decades, there has been an extraordinary increase in the income of the top percentile of American households while incomes at the lowest levels have been stagnant or declining. According to David H. Autor’s research, the top accruing income raised from 10.0% to 22.5% during the period from 1979 to 2012. Putting that in value term, the top 1% has earned a $7107 substantial gain in their income per household, an amount that equals 14% of the U.S. median household income. Earnings inequality is also a source to other dimensions of inequality outcomes, such as poor access to healthcare, low intergenerational mobility, racial and social segregations. Therefore, it is pressing to address income inequality to alleviate its effects on sourcing other social issues.

There has been different hypothesis explaining the process and reasons behind the polarization of income between the really rich and the remaining mass public such as declining rates of trade unionization, the fall of minimum wage, increasing immigrants (Lecture 11/18 Nolan McCarty). However, in our case where the wage is increasing in relation to higher-skilled jobs and more economically prosperous cities, the main source of the earnings inequality is believed to be the rising college premium and skill premium. This part of the paper, therefore, explains the process for how college premiums give rise to inequality. The essay would then investigates the demand and supply framework of skills as a primary source shaping the college and skill premium.

To start off, research has supported the hypothesis that higher education is the main reason for higher-paying jobs. An increase in the education wage premium explains about 60% to 70% of the rise in U.S. wage dispersion (Autor). Skills and education are being more heavily rewarded as the demand for them increases. A one-unit increase in measured cognitive skills corresponds to an 18% increase in the average wage premium, while that number is 13% for average European countries such as Sweden, Norway and the Czech Republic. In terms of education, although it was once believed to be “the great equalizer” and “the balance wheel of the social machinery,” what is making a nuance to this theory is that, there is a huge difference in the return to different levels of attainments of education. The earnings gap between the median college-educated and median high-school educated among the U.S. full-time male workers have doubled in the thirty years. In 1979, the difference was $17,411 and has skyrocketed to $34,969, representing a high return of an undergraduate degree (Autor). Therefore, the driving force behind high-paying jobs that have been widening the income inequality is the college and skill premium.

The primary source giving rise to such college premium is the changing landscape of labor demanded and labor supplied in the labor market. New labor demand and labor supply work in both directions in consolidating the income inequality. On the supply side, the shortage in the supply of high education degrees sends incentives for firms willingly pay more to those who have them. By higher education attainment, the discussion has gone far beyond just high school and is now about undergraduates, Ph.D, M.D., J.D., or M.B.A.. With the stark increase of high school education for the majority of Americans, there is no longer returns to K-12 schooling since 1980. According to David Author, Claudia Goldin and Lawrence Katz’s empirical findings, the return to K-12 education was 6 percentage points in 1980 and still is. However, the earnings increment for a B.A. has increased from 30.4% in 1980 to 56.4% in 2017. In short, it is no longer the time when Horace Mann’s “education is the great equalizer” could still work. There is a more rigid definition of a high-end supply of labor. And because the supply of such labor is still scarce, firms are willing to compensate higher wages to obtain them, and therefore giving rise to the skyrocketed top percentile income.

Now, on the demand side. With the U.S. moving significantly from an agricultural-based society to a technologically heavy economy and a knowledge-based society, the skills inevitably demanded changed from physical labor to intellectual labor. According to David H. Autor’s theory, there are two forces driving this outward shift of demand. The first one is technological changes with higher demand in expertise and skills in booming industries including finance, technology, healthcare, management, and so on. Because high-end abstract skills such as problem-solving abilities, persuasion, communication, and intelligence in technology are still scarce among the labor supply, they correspond to higher returns and rewards, resulting in skill wage premium. The second force is the globalization of labor and increasing mobility of labor across the globe. On one hand, consumer goods at a lower price imported from China and India are more likely to grasp a bigger market share than domestically produced goods in the U.S., and therefore directly declining the U.S. production and employment. On the other hand, there is foreign labor influx from these countries directly substituting the local laborers, resulting in a fall of the domestic employment rate, further worsening the income inequality. Therefore, technological changes, as well as the globalization of contemporary U.S. society, work as primary forces driving higher demand for higher education and higher skills. Combining with the scarce supply of desirable labor, firms reward higher wages to attract the high-skilled labor, substantially contributing to the earnings inequality.

The next question is whether such inequality should be a concern, and to what extent it would be a problem. This is an imperative question to be discussed before determining constructive policies to preserve equality. On a broader level, some income inequality could be an indicator of a positive economy. It is not all undesirable for some level of income disparity raised by the leading top percentile with the most desirable skills required by the labor. For example, namely cities like New York and Los Angeles, while with the most income inequality, gather the most wealth and economic development. Income inequality goes hand in hand with economic growth and has become an inevitable outcome of it too. Furthermore, income inequality raised by college premium would also create incentives to pursue higher education, making earnings inequality a productive role in the U.S. society. Using one of Steven N. Durlauf’s examples he used in his discussion of Groups, Social Influences and Inequality, a student who has been working hard to earn his undergraduate and graduate degree earns the same as a median worker who has not been trained academically and professionally, the student would have little motivation to exert effort in the work. Ultimately, the college and skill premium contribute to a more productive labor market, and therefore would drive more economic growth and development as a positive outcome.

But to examine to what degree is such income inequality healthy, one needs to evaluate its relationship with economic mobility. Knowing that the U.S. has relatively a lower international mobility and higher income inequality in comparison to other developed countries, it is implying that there is a very persistent economic status and education achievement within the families across generations, but not across society (Lecture 10/19). This means that only the children who have college graduates parents would be more likely to go to college and acquire desirable skills, and those who do not have college graduate parents are less likely to go to college, and thereby less likely to earn college premium. It is, therefore, not the fact that income inequality is raised by more higher-paying jobs the most concerning, but that fact that it might be the same group of people or the off-springs of the current top percentile occupying these higher-paying jobs creating the most trouble. The high-paying jobs by themselves are not creating any harm to society but only bringing more technological advances. However, the persistent immobility of wealth, resources, education, and economic status across quintiles is the hidden but true driving force of inequality between the really rich and the mass public. With the top percentile assembling the most wealth of the society, they would only magnify such earnings inequality as time goes along. The consequence of immobile education would only grow stronger because of what Steven N. Durlauf argued as the memberships model.

According to Durlauf, parental income is not the only factor that determines the amount of investment going into their offspring’s education achievement. Residential neighborhoods and community play a larger and more decisive role in determining education attainment. Of course, parental income influences what kind of neighborhood their children live in, but it is the school quality and the characteristics of the people living in the area that poses a stronger influence on children’s academic achievements. A child born in Harlem has poorer education resources in comparison to a child born on the Upper East Side. The psychological ideology received by the Harlem child is also very different from that received by the Upper East Side child. While the former one might spend most of the time with friends who have uneducated or lower-educated parents, the latter one sees it as normality that all the parents of his friend are highly influential figures of the society. Because of the intrinsic imitative behavior of human beings that we are prone to behave like our close partner and cohorts, the Harlem child sees not going to college as a norm while the UES child sees higher education as a must. The membership model not only result in social and economic segregation between quintiles, but the geographic segregations between quintiles also further result in persistent of education within families. It is why whoever is in the top percentile earning the most income right now, their offspring is likely to replicate that pattern in decades. Therefore, unequal access to education and opportunities is the real cause resulting in earnings inequality and erosion of economic mobility (Lecture 10/14).

With all that being said, what really happened to the widened inequality due to more high-paying jobs could be concluded in three reasons. Firstly, there is a higher reward system to high educations and matching skills, raising the top quintile wage for the most advanced jobs. Secondly, the unequal access to education makes lower quintile children unable to obtain higher education and matching skills, and thereby unavailable to provide the demanded expertise. Thirdly, the immobility of resources and education across society consolidates the wealth of top percentile while worsening the left 99% of the population.

While there has been debate about whether such phenomenon is natural due to market force, public policies still have an important role in reconciling the earnings inequality, increasing economic mobility as well as more promoting more equal opportunities to education. There could be two most direct ways to fix income inequality. The first form is a top-down progressive tax system on high-income households. The second form is a bottom-up direct cash transfer program on lower-income households. For the first one, it works most directly to reconcile the income gap by cutting the top percentile. However, a progressive tax system is an artificial approach to redistributing income that does not solve the intrinsic problem of low education attainment of the poor. Therefore, policies should lend more focus on direct transfer in support of education accessibility with particular strong supports all the way until higher education such as college. The problem with the current U.S. cash transfer programs is that mostly are temporary and only cover a short period of schooling. Take CCTs as an example, it only oversees a 80% of school participation. According to the previous discussion about how K-12 education is no longer lending high economic returns, there should be drastic cash transfer changes in response to the earnings inequality. One of the approaches could be to increase the benefits of CCTs and TANF that could endure a longer period of schooling. There could also be a stepped system for the amount of benefits. For example, a child with better academic performances could earn the household an increased volume of grants, as well as an extended period of support. Such effort works as incentives for people to earn higher education, and therefore reconcile the income inequality. Cash assistance could also be spread into transportation and housing. As discussed above, moving to a lower-poverty neighborhood could significantly improve college attendance rates and earnings for children (Lecture 11/23, 11/30).

In conclusion, to make sense of the wage premium, college and skill premium play a determining role in fixating the top percentile income. However, the most pressing issue is not about cutting the top income down because it indicated an economically prosperous society. Rather, it is the persistence of economic immobility and unequal accessibility to higher education. In terms of public policies, no matter of short or long term, their focuses and effects should be two-folded. On one hand, it is to bring a larger proportion of adults to attain higher education, and therefore higher rewarding jobs with higher income levels. On the other hand, it is about increasing the supply of skills which could in turn moderate the skill premium and therefore reduce the wage premium to bring balance to inequality.