Income Inequality, Wall Street Bonuses, and Proof that Krugman and Reich are Idiots

Paul Krugman and Robert Reich love to talk about the fact that there's growing income inequality, and that the main people who are benefiting are "fat cats on Wall Street" and "hedge fund managers."

Based on news coverage of a few aberrant cases, it's easy to believe these claims by Krugman, Reich, and their ilk. But how true are their claims? The IRS Publication "The 400 Individual Income Tax Returns Reporting the Highest Adjusted Gross Incomes Each Year, 1992-2007"4 lists the sources of income for the top 400 earners each year. The income of the top 400 earners in 2007 breaks down like this:

Net business income (from Schedule C & F) -- 0.11%
Salaries and wages (i.e., W2 income) -- 6.53%
Dividends -- 7.11%
Taxable interest -- 7.85%
Partnership and S Corp Net Income -- 12.16%
Net capital gains -- 66.29%

What's interesting about this is what it doesn't show. What it doesn't show is the average person in the Top 400 earners getting a large bonus. Most income is from net capital gains, dividends, and interest. Overall, 81% of the income is investment income. Employers have to report bonuses, even very large Wall Street Fat Cat bonuses, as W2 income. But only 6.53% of the top earners' income is W2 income, which means that they aren't getting their money from large bonuses. They're getting their money from investments. And THAT means that the top 400 earners are not Wall Street hedge fund managers whose firms pay them enormous bonuses; they're investors who have invested their money themselves.

Why is it important to Krugman and Reich to characterize the top earners as hedge fund managers and Wall Street fat cats when they are not? They want to imply that Wall Street workers are frequent recipients of windfall bonuses and don't really deserve them. This is another link in their argument designed to convince people that the rich don't deserve the money they've earned. If they don't deserve it, we should feel fine about taxing it! Who deserves their money more? A hedge manager who receives a huge windfall, or a careful investor who has patiently watched his investment grow for years before realizing a long-awaited payout?

It's easier to demonize the hedge fund manager than the patient investor, which is why Krugman and Reich characterize top earners the way they do. But as with so many of their other arguments, when we peel back the top layers of the onion we find have to make up facts to support points they want to make. The real facts don't support their arguments.