Summers: US faces a 'Downton Abbey' economy
The U.S. is at risk of becoming a "Downton Abbey" economy, as the gap between the top 1 percent and the poor widens, former U.S. Treasury Secretary Larry Summers has warned.
In a comment piece for the Financial Times, Summers highlighted that the share of income going to the top earners in the U.S. has increased sharply, while real wages and family incomes remain stagnant. These conditions will last beyond the normalisation of the economic cycle and budget deficits, Summers added.
"The cumulative effect of all these developments is that the U.S. may well be on the way to becoming a Downton Abbey economy. President Barack Obama is right to be concerned. Those who condemn him for 'tearing down the wealthy' and engaging in un-American populism are, to put it politely, lacking in historical perspective," Summers wrote.
Summers, who was at one time in the frame to take over Ben Bernanke as chairman of the Federal Reserve, added that President John Kennedy sent the FBI to audit executives' personal tax returns following a spike in steel prices, while President Richard Nixon insisted on tax investigations "of the books of companies which raised their prices more than 1.5 per cent above the January ceiling" he said.
Recent analysis by Oxfam, released ahead of last month's World Economic Forum held in Davos, found that 85 of the richest people in the world have accumulated as much wealth between them as half of the world's population.
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The charity said the tiny elite of multibillionaires, who could fit into a double-decker bus, have piled up fortunes equivalent to the wealth of the world's poorest 3.5 billion people, boasting a collective worth of $1.7 trillion.
Oxfam also calculated that almost half the world's wealth, $110 trillion, is owned by just 1 per cent of its population. The group said 70 percent of people live in countries where the gap between the rich and poor has widened in the last 30 years.
Policies that prefer the rich, such as the capital gains exemption, the ability to defer tax on unrealised capital gains, and the tax-free nature of gains on assets that passed on at death reinforce inequality, however identifying policies that reduce inequality "is not enough" said Summers.
"To be effective they must also raise the incomes of the middle class and the poor. Tax reform has a major role to play. The current tax code is so badly designed that it is very likely to be having the effect of reducing economic growth. It also allows the rich to shield a far greater proportion of their income from taxation than the poor. For example, last year's increase in the stock market represented an increase in wealth of about $6 trillion, of which the lion's share went to the very wealthy," he added.
Obama used his State of the Union address last month to highlight the growing disparity between America's richest and poorest citizens, saying that, after four years of economic growth with sky-high corporate profits and stock prices, average wages had not changed.
"Those at the top have never done better. But average wages have barely budged. Inequality has deepened. Upward mobility has stalled," he said.
"The cold, hard fact is that even in the midst of recovery, too many Americans are working more than ever just to get by – let alone get ahead. And too many still aren't working at all," he added.
In his Financial Times piece, Summers suggested closing loopholes enjoyed by the wealthy, which would enable taxes to be cut elsewhere. He suggested measures such as earned income tax credit, which could raise the incomes of the poor and middle class by more than they cost the Treasury, by giving people incentives to work and save.
He said it was ironic that advocates of the free market are often those that are least in favour of curbing tax benefits for the rich, and sooner or later inequality needs to be addressed.
However policies that aim instead to thwart market forces rarely work, he said, and usually "fall victim to the law of unintended consequences," said Summers.
—By CNBC's Jenny Cosgrave. Follow her on Twitter