A disruptive level of income inequality is the driving force underlying the 2008 financial collapse and the Great Depression. Click here for the argument.
There are two factors driving income inequality that we cannot reverse but must manage. The first includes the productivity gains and human obsolescence created by an exponentially expanding technology. This can be the gift that keeps on giving or the curse that keeps on damning. (See the book The Lights in the Tunnel by Martin Ford.) It is an increasingly difficult problem as an expanding fraction of the population lacks the skills and training to justify an income that would support a family. Some think we may be about 20 years away from when machines begin to match and then rapidly exceed all human capabilities. (See the video "Surviving the Singularity".)
The second factor is the increasing impact of globalization as communications cost plummet to near zero for many purposes and a larger fraction of the developing world acquires the skills and education to compete at the highest levels of our economy and are happy to do so for much less than prevailing wages in the United States. Both accelerating productivity gains and a highly educated and competitive planet are potentially great things if they are properly managed.
By classical economics both of these factors will drive down wages and combined they can create an expanding unemployable class of those that lack the necessary education and the ability to acquire it. This is a dynamic problem that will keep expanding. I do not know what the solutions are and no solution will be adequate for long. We need multiple pragmatic solutions and we need to keep trying until we find a combination of policies that work and then to keep trying to make sure they continue to work as the situation evolves. Following is a list of things to try. None of these suggestions are new and some of them are painfully obvious and would have been tried long ago if special interests did not have the power to put their welfare above the welfare of the nation.
Bill Gates became, for a few years, the richest person in the world in a short time in part because he paid no tax on the unrealized capital gains on his Microsoft stock. These gains were only possible because the government was paying to enforce copyright and other laws that protected Microsoft. There is a simple fairness argument for taxing wealth. A large part of government expenditures are to protect wealth. This includes part of what we pay for law enforcement, diplomacy and the military. Those with the most to protect should pay their fair share for the protection.
The accumulation of wealth is a good thing and should be strongly encouraged up to a certain point. If most people had significant accumulated assets, the economy would be more stable and people would be in a better position to find the jobs that suit them and bargain for higher wages. We need to differentiate the level of wealth that makes a family financially independent (perhaps 1 to 5 million dollars) from greater wealth. The latter is only helpful if it is going to those who know how to invest it productively. Warren Buffet is the obvious example. Taxing wealth progressively at low rates and with a high deductible (with no tax for those families that are not financially independent) will gradually help to take it away from those who can not invest it wisely while presenting little problem for those who can. If a tax on wealth replaced the capital gains tax, it could be a net benefit for those good at investing.
In the 19th century there was movement called the "Single Tax" that argued that only God's creations (in particular land) should be taxed and not what men and women create. Most of today's wealth is a product of science and technology over history as well as land and physical resources that no human created. Those with wealth are best positioned to exploit those resources. A tax on wealth can help to restore the balance and give a fairer shot to all at benefiting from the collective wealth that Nature created and our ancestors bequeathed us.
Power corrupts because it can be used to obtain unfair advantage. One way to address this is a balance of power. That is why unions are important. They can and have abused their power as has every other powerful institution in this country. That is an argument for limiting power across the board with checks and balances. It is not an argument for a single minded attack on labor.
Starting with the Reagan administration, government policy has tilted strongly against unions contributing significantly to disruptive income inequality. The idea that the market fairly distributes economic rewards seems absurd when one examines the compensation of many CEOs in this country versus their counterparts in Europe and Japan. If there were a truly free market for top executives. we would hire away foreign CEOs to replace ours at a fraction of existing costs. Exorbitant executive compensation is as much a product of the gutting of labor unions as the stagnant wages of those at the bottom is. It is the result of an imbalance of power and not a just reward for a job well done. In fact it was a major contributor to the bad decisions that created great paper profits and corresponding bonuses for a select few and disaster for the rest of us.
Much of the existing economic collapse is attributed to the actions of institutions that are "too big to fail". Others have suggested that such institutions are too big to exist. The current approach to limit bigness through antitrust laws is obviously inadequate. A bigness tax (not on net worth but on assets controlled) is likely to be far more effective at limiting bigness. All a corporation has to do to avoid the tax is to split up into independent entities before it reaches the threshold where the tax takes affect. The threshold of the tax should increase with real GDP but at a slower rate so both diversity and bigness increase. There is a mathematical argument why both must increase as resources do or creativity will suffer. Click for the book or video that develop this argument.
When a plant pollutes the air or water it is imposing a "tax'' on everyone affected by this pollution. The tax is paid in quality and length of life as well as property values. When that pollution causes global warming it is a tax paid by the entire future population of the planet, but one that will not be evenly distributed. Some regions may even benefit, but many will suffer disastrous changes from sea level rise and desertification.
We have been fighting this battle for decades, and have made much progress. However the problem keeps expanding with global population and our understanding of global effects of human activity. It is possible that we are already past a tipping point where dramatic and extremely detrimental climate change is inevitable. If we do not act quickly this will almost certainly be what happens.
The biggest issue here is global climate change but pollution has long contributed to income inequality as it enriched those investing in industrial plants at the expense of those affected by pollution. We need to reduce pollution as far as is practical and compensate those who are affected by the pollution that remains. It is a simple rule that will be difficult but not impossible in practice.
Social wealth in the form of public education, government sponsored research, roads and highways, mass transit, policing, etc. is essential to the wealth of this nation. These should be properly maintained and expanded and we should consider new forms of social capital. The Internet was created by the government and it might make sense to subsidize some of the service providers like Wikipedia that provide a valuable public service for free.