How States Can Reduce Income Inequality

How States Can Reduce Income Inequality
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Since the late 1970s, income gains in the United States have largely gone to the richest households, while many middle- and lower-income Americans haven’t shared in the nation’s growing prosperity. Though the causes of rising inequality are largely outside states’ control, state policy choices can make a difference. 

In every state, the top 5 percent of households have average incomes at least 10 times greater than the bottom 20 percent. In most states, the disparity is much bigger (see map). And in the typical state, the top 5 percent of households receive 19 percent of the income. 

Moreover, these figures understate income inequality because they omit capital gains income, which mostly goes to the richest households. 

The concentration of wealth among the richest Americans reflects decades of unequal income growth. Between 1979 and 2013, the top 1 percent’s share of total income rose in every state and doubled nationally. 

The fact that the lion’s share of income gains has gone to the wealthiest residents contradicts the basic American belief that hard work should pay off — that the people who contribute to the nation’s economic growth should reap their share of the benefits of that growth. It also harms the health of those falling behind. And it diminishes educational opportunities for children growing up in less affluent areas, contributing to a cycle of inequality.

State tax systems contribute to inequality because they’re tilted against low- and middle-income households. Virtually all states collect more taxes from these families, as a share of their income, than from high-income families.

That’s because state policymakers, over the years, have tended to choose tax policies that favor the wealthy over the poor and favor corporations over workers. For example, most states rely heavily on sales taxes, which hit low-income families especially hard because they generally spend (rather than save or invest) most or all of their income. 

States can help push back against this trend by using tax policy to reduce inequality instead of worsening it. They can raise taxes on high-income households by boosting their top income tax rate and capping tax breaks for high-income taxpayers. They can also create or expand Earned Income Tax Credits for low- and middle-income workers, raise taxes on inherited wealth, and eliminate costly and ineffective tax breaks for corporations.

At the same time, states should avoid actions — such as cutting income taxes or raising sales taxes — that expand inequality by shifting more of the tax responsibility to lower-income residents. And they should avoid cutting taxes deeply without replacing the lost revenues, which could force drastic cuts in services such as schools, transportation, and public safety, which are the building blocks of shared prosperity.

Inequality is a barrier to Americans striving to get ahead as well as a drag on economic growth. Reducing it should be a high priority for state policymakers. 

Elizabeth McNichol is a Senior Fellow at the Center on Budget and Policy Priorities

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