Income inequality is a wide gap between the money earned by the richest people in an economy when compared to the poorest. Income includes wages, investment earnings, rent, and sales of real estate.

Defining Income Inequality

In economic terms, income inequality is the disparity in how income is distributed among individuals, groups, populations, social classes, or countries. It is a major part of how we understand socioeconomic statuses—including how we identify the upper class, middle class, and working class. It's impacted by many other forms of inequality, including wealth, political power, and social status.

Income is a major factor in managing quality of life, as it serves as a means to access health care, education, housing, and more. Income inequality varies by social factors such as sexual identity, gender identity, age, and race or ethnicity, leading to a wider gap between the upper and working classes.

Key Takeaways

  • National and global income inequality are becoming growing issues that will need to be addressed. 
  • The top earners will benefit more from the economic recovery than the bottom earners will.
  • In the United States, the top 20% earn more than half of the country's total income.
  • Inequality has grown, thanks to outsourcing and companies replacing workers with technology. 
  • The United States could improve income inequality with employment training and investment in education.

How Income Inequality Is Measured

The U.S. Census Bureau measures income inequality using household income. It compares by quintile, which is the population divided into fifths.

Another commonly used measurement is the Gini index, which summarizes the distribution of income into a single number. It ranges from zero, which is a perfectly equal distribution, to one, where only one person has all the money.

Income Inequality in the U.S.

In 2020, the top 20% of the population earned 52.2% of all U.S. income. The median household income fell significantly for the first time since 2011 to $67,521. That's 2.9% down from 2019's number. The richest of the rich, the top 5%, earned 23% of all income. Their average household income was $446,030.

The bottom 20% only earned 3% of the nation’s income. The lowest earner’s average household income was $14,589. Most low-wage workers receive no health insurance, sick days, or pension plans from their employers. They can’t take off work if they get ill, and have little hope of retiring. Those disparities create health care inequality, which increases the cost of medical care for everyone.

People who can't afford preventive care will often wind up in the hospital emergency room. In 2014, 15.4% of uninsured patients who visited the ER said they went because they had no other place to go. They use the emergency room as their primary care physician. The hospitals passed this cost along to Medicaid.

The U.S. Gini index, which measures distribution and is often used to measure income difference, was 0.489 in 2020. That’s about the same as the prior year, but much worse than in 1968 when it was just 0.386.

For a household of only one individual in the most expensive states in the U.S., a living wage is more than $20 per hour. That would come out to about $41,700 in 2021.

Income Inequality Has Worsened

The rich got richer through the recovery from the 2008 financial crisis. Between 1993 and 2015, the average family income grew by 25.7%. The top 1% of the population received 52% of that growth. The chart below tracks the average income growths and losses during the 22 years. It then calculates how much of that total growth was accrued by the top 1% of the population.

This worsening of income inequality had been ongoing even before the 2008 recession. Between 1979 and 2007, household income increased 275% for the wealthiest 1% of households. It rose 65% for the top fifth. The bottom fifth only increased by 18%. That’s true even after “wealth redistribution,” which entails subtracting all taxes and adding all income from Social Security, welfare, and other payments.

Since the rich got richer faster, their piece of the pie grew larger. The wealthiest 1% of people increased their share of total income by 10%. Everyone else saw their piece of the pie shrink by 1%-2%. Even though the income going to the poor improved, they fell further behind when compared to the richest. As a result, economic mobility decreased.

During this same period, average wages remained flat. That’s despite an increase in worker productivity of 15% and a boost in corporate profits of 13% per year.

Causes of Income Inequality

Job outsourcing, technology, and deregulation can contribute to income inequality.

Corporations are often blamed for putting profits ahead of workers. U.S. companies try to compete with lower-priced Chinese and Indian companies who pay their workers much less.

As a result, many companies have outsourced their high-tech and manufacturing jobs overseas. The United States lost 36% of its factory jobs from 1980 to 2020. These were traditionally higher-paying union jobs. Service jobs have increased, but these are much lower paid.

Technology also feeds income inequality. It has also replaced many workers in factory jobs. Those who have training in technology can get higher-paying jobs.

Education is can be a powerful factor in improving economic mobility. Over a lifetime, Americans with college degrees earn 84% more than those with only high school degrees.

A McKinsey study found that the achievement gap costs the U.S. economy more than all recessions from the 1970s through 2008.

Deregulation means less stringent investigations into labor disputes. That also benefits businesses more than wage earners.

During the 1990s, companies went public to gain more funds to invest in growth. Managers must now produce ever-larger profits to please stockholders. For most companies, payroll is the largest budget line item. Re-engineering has led to doing more with fewer full-time employees. It also means hiring more contract and temporary employees. Immigrants, many in the country illegally, fill more low-paid service positions. They have less bargaining power to demand higher wages.

In recent years, the Federal Reserve deserves some of the blame. Record-low interest rates were supposed to spur the housing market, making homes more affordable. While that is the case, housing prices have started to rise rapidly in recent years while wages have remained fairly flat.

The average American still doesn't have enough income to buy a home. This lack is especially true for younger people who typically form new households.

By keeping Treasury rates low, the Fed also created an asset bubble in stocks. This helped the top 10%, who own 84% of the wealth in stocks and bonds. Other investors have been buying commodities, driving food prices up 40% since 2009. This increase hurts the bottom 90%, who spend a greater percentage of their income on food.

A Global Perspective

Emerging markets such as Brazil, and India are becoming more competitive in the global marketplace. Their workforces are becoming more skilled and their economies are becoming more diverse. As a result, the wealth distribution is shifting.

This shift is about lessening global income inequality. The richest 1% of the world's population has 44% of its wealth. While Americans hold 25% of that wealth, China has 22% of the world's population and 8.8% of its wealth. India has 15% of its population and 4% of its wealth. As other countries become more developed, their wealth rises.

Frequently Asked Questions (FAQs)

How does income inequality affect the economy?

Wage inequality suppresses economic growth by shifting resources toward wealthy savers rather than lower- and middle-class spenders. Studies have shown that, when so much wealth is stowed away among high earners, it stifles aggregate demand by between 2% and 4% of gross domestic product.

Why has income inequality increased?

There are many reasons for the growing disparity in wages in the U.S. Economists have noted that, over the last 40-plus years, policies have largely failed to curb these trends. In particular, the federal minimum wage has lagged well behind economic growth, and support for unions and worker bargaining power has faltered.

Which nations have the highest levels of income inequality?

According to the most recent data from the United Nations University World Institute for Development Economics Research, Angola had the highest disparity of any country with a recorded Gini score in 2019. On the other end of the spectrum is Slovakia.