Forty Acres and a Sheepskin

The vision of broadly shared wealth is a long-standing American theme, dating back to the yeomen farmers of colonial times. America, uniquely, was a land of freeholders. Its egalitarian distribution of property undergirded its nascent political democracy. Thomas Jefferson explicitly put public policy on the side of broadly distributed property wealth when he decided that the public lands in the territories should be conveyed not to absentee real estate companies but to settlers who would work the land. The freeholding tradition was continued into the nineteenth century with the Homestead Act, the establishment of land-grant colleges, and the freedmen's demand for 40 acres and a mule.

In an industrial era, however, most wealth is not in the form of land, and the question of broadly diffused property becomes more complex. Early in this century, the business community attempted to preempt the appeal of trade unionism with the American Plan of the 1920s and its promise of company pensions and profit sharing (the plan collapsed with the Great Depression). Franklin Roosevelt's Social Security Act was in part a response to more radical share-the-wealth schemes of the Townsend movement and Huey Long. Employee stock ownership plans (ESOPs), of which more will be said shortly, are also a blend of a progressive ideal and safely conservative stewardship. The government, through the Federal Housing Authority loans and the GI Bill, also broadened wealth holding through home ownership and higher education, the latter a form of human capital.

Today the political and financial right invokes the ideal of a wealth-holding democracy with its plans to privatize Social Security. Why, the right asks, should we settle for mere accounting claims against the Treasury when we could have real individual accounts with real stocks and bonds? As articles in this magazine have repeatedly demonstrated, the current privatization schemes are dubious—they yield lower benefits and involve greater risks, higher taxes, and higher transaction costs. But the vision of broader wealth holding remains very attractive—particularly when you realize that the bottom 40 percent of households own nothing more than their belongings and last week's paycheck.

Social Security's defenders should welcome a wide-ranging conversation about the best way to build useful wealth for average Americans. Indeed, progressives are the ones who should be pushing the issue. For wealth, even more than income, is unevenly distributed in this society, and like income, its distribution has grown much less equal over the past three decades.

Redressing the wealth imbalance is not just a question of fairness. Wealth has taken on greater significance in these times of rapid economic change. Human capital in the form of education has become a prerequisite for access to the middle class. In a world of downsizings, layoffs, and frequent job changes, both financial and human capital wealth are necessary to provide workers with the flexibility to navigate transitions. Wealth also influences household consumption—last summer's stock market swoon produced worries about falling consumption due to "wealth effects." Indeed, nonwage income (income from capital such as rents, dividends, and interest) now accounts for a quarter of total income. And if one includes realized capital gains (as when an executive cashes in stock options), then the nonwage share of income is even higher. The increasingly unequal distribution of wealth has itself become a major contributor to income inequality.

Unfortunately, the distribution of wealth has received far less attention than the distribution of income over the years, for obvious reasons. Wealth broadening as a legitimate public policy goal presents an even more daunting political challenge than do tax and transfer policies aimed at redistributing income. Pol icies that seek to increase the holdings of the bottom half of the population invariably get attacked as radical or utopian, when they are not accused of being confiscatory. But the conservative assault on Social Security—the last intact component of the Roosevelt legacy—has cloaked itself in the goal of wealth broadening. Thus progressives have an opening to tackle the wealth question head on.


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How Unequal?

Before turning to recent studies laying out reasons why a more equal distribution of wealth is important and how it might be accomplished, it's worth reviewing some definitions and numbers. Wealth isn't just comprised of stocks and bonds. It also includes personal savings, real estate, and personal property, and is reduced by mortgage and consumer debt.

The broadest definition of household wealth would also include intangible assets like formal degrees and what we might call an individual's goodwill: family connections, for instance, or a network of successful college classmates. The essence of wealth, then, is its capacity to generate income, now and in the future, and its ability to carry one through the rough patches that occur in any lifetime. Properly understood, Social Secur ity is a form of wealth: inflexible, only usable at retirement or in cases of disability or widowhood, but an asset nonetheless, since it represents a guaranteed (unless the government does something foolish) stream of income.

Unfortunately, the Federal Reserve Board's triennial study of household wealth focuses only on tangible and financial assets. The best analysis of those data over the years has been performed by Edward N. Wolff, a professor of economics at New York Univ ersity. His 1996 Top Heavy: A Study of Increasing Inequality of Wealth in America has been updated in the most recent State of Working America, published by the Economic Policy Institute.

The spectacular run-up of the stock market and the proliferation of individual retirement accounts and 401 (k) plans has created the general perception that wealth is more broadly shared today than in the past. But that is an illusion. According to Wolff's analysis, 42.5 percent of the stock market gains between 1989 and 1997 went to the top 1 percent of households, while another 46.4 percent went to the next 19 percent, giving the top fifth of households 88.9 percent of all stock market gains. The next fifth of households received 7.1 percent of the market's 1990s gains. The bottom three-fifths (60 percent of all households) received just 3.9 percent.

Average household wealth has actually stagnated during the decade. The fortunate top 10 percent, of course, have done superbly well. But the next 10 percent of households, with an average net worth of $292,000 in 1997, have lost 6 percent of their wealth so far this decade; the next 20 percent, with an average net worth of $137,600, are down 7 percent; and the middle fifth of the population, with an average net worth of $56,200, have lost 3 percent of their wealth.

How, in these halcyon times, can people be doing less well? While our modest stock portfolios have increased, the value of all of our other assets have gone up hardly at all. And consumer debt has soared. Home equity loans and credit card debt are sapping middle-class wealth. The middle fifth of households, for instance, has increased its debt load nearly 25 percent, to $41,700 on average. The bottom line, after adding in stock market gains, was that their net worth has slightly declined.

Assets for the Poor

So what can be done for the paltry portfolios of the bottom half of the population? The first step is to create an unimpeachable political rationale for new wealth creation schemes. Michael Sherraden's 1991 book Assets and the Poor laid out the case for changing the welfare system from one based on income support to one based on wealth creation. His arguments are broadly persuasive for the working poor and middle class as well.

According to Sherraden, the most successful and politically impregnable social welfare programs have always focused on wealth creation. The Homestead Act, the home mortgage deduction, the GI Bill, student loans, and individual retirement accounts are all federal inducements to asset accumulation that provide the foundation for middle-class success. These assets also provide a cushion during hard times, particularly in periods of unemployment. Just as importantly, these programs inculcate middle-class values. Those who own assets must manage them, keep them stable, and put in effort to make them grow. Assets can also act as collateral when their owners want to get credit to open a business or provide for a child's education.

Sherraden saw an asset-oriented welfare policy as the way to lift the poor into the middle class. Toward that end, he proposed tax-deferred individual development accounts (IDAs), similar in structure to IRAs. Deposits would be made at life milestones—such as passing a grade; completing high school; achieving an advanced degree or training; marrying; and landing a job. But his suggested amounts seemed too small ($500 for passing a grade, for instance) to make a major difference in an individual's life.

According to Sherraden, though, that's not the real worth of the program. The most important aspect of wealth management is that it inculcates values. "Edu cation in the handling of financial assets, which now occurs around the dinner table in many middle- and upper-class families, and generally not in poor families, would be democratized and incorporated into each child's education," he wrote.

While the program would be universal in order to avoid antiwelfare rhetoric, deposits for the poor would be subsidized, under the theory that every child should have an equal chance in life. But to promote thrift, Sherraden wanted every recipient to put up at least some money even if it came from transfer payments like welfare or the earned income tax credit. Untaxed withdrawals would only be allowed for long-term asset creation—postsecondary education or the purchase of a home, for instance. Unlike some of the right's privatization schemes, this proposal would not operate at the expense of Social Security. Robert Kuttner has proposed a more expansive version of the same basic idea, to be called "wealth endowments." ["Rampant Bull," TAP, July-August 1998.]

Last October, Congress approved a five-year, $125 million demonstration of this approach, the Assets for Independence Act. This program, promoted by Sherraden and his colleagues at the Corporation for Enterprise Development, underwrites grants to nonprofit organizations to set up pilot IDA programs. Low-income recipients are eligible for matches as generous as four-to-one for the money they save, which must be earmarked for education, training, a small-business start-up, or first-time home ownership.

If such plans become universal, how would they be funded? One way would be to levy higher taxes on those who have wealth in order to provide wealth stakes for those who don't. Both Sherraden and Kuttner propose wealth taxes to fund their programs.

Not in our lifetimes, you say? Don't tell that to Bruce Ackerman and Anne Alstott, professors at Yale Law School. Their new book, The Stakeholder Society, lays out in numbing detail a program that would set up $80,000 wealth accounts that each American would receive when he or she turned 21. This $255 billion program (nearly the size of the Pentagon's budget) would be funded by a 2 percent annual tax on all individual wealth holdings over $80,000, which in 1995 would have excluded 59 percent of households. They also propose replacing Social Security with a flat "citizen's pension" upon retirement. The original stake, plus interest, would have to be repaid at death, and would be the first claim on the assets of an individual's estate.

Ackerman and Alstott take Sherraden's IDAs to their logical extreme. They would place some limits on the stake's use: only high school graduates would qualify; college-bound youth could begin drawing down their accounts at age 18 to pay for tuition. "For the first time, high school students will have an intense and practical interest in fundamentals of economic planning," they write. They justifiably worry that their proposal might skew the economics of higher education. I'd be just as concerned that any number of middle-class parents would take off for Bermuda while letting the kids pick up the tab for college.

But the section of their book that speaks most eloquently to the program's possibilities looks at a group of hypothetical noncollege-bound young adults whose lives could be transformed by their stakes. A construction worker in and out of work would have a large interest income to fall back on; he could tap the stake for a down payment for a house for his young family; and he would always have the opportunity to return to school to get more training. Another worker could start his own trucking company. A young woman from a crime- and drug-infested neighborhood could have the chance to go to an out-of-state college, instead of being sucked back into neighborhood pathologies.

The professors quote the American Revolution pamphleteer Tom Paine, who made a similar proposal shortly before removing himself to revolutionary France. They also cite the Home stead Act and the GI Bill. "Our ultimate goal is to revitalize the liberal ideal of an independent, responsible, property-owning citizenry," they write.

But they undermine their efforts by proposing a highly implausible tax scheme. If the normal annual return on financial wealth is, say, 8 percent, then a 2 percent tax on financial net worth in effect taxes 25 percent of the anticipated return on such wealth. Most of the 40 percent of households subjected to the wealth tax would end up paying anywhere from $100 to $1,000 per month for life to support the $80,000 stake for each succeeding generation of 21-year-olds. This proposed tax bites too far down the income scale, and politically would pit the middle class against the poor. If Sherraden's proposal is too skimpy, the Ackerman-Alstott plan is too grandiose.

Richard B. Freeman, Harvard University's eminent labor economist, offers few answers in his sketchy approach to setting up asset accounts—the first of his five solutions for solving "The New Inequality." His short essay, which is followed by comments from a number of leading liberal academics, is a ringing call for liberals to "move redistributive strategies away from reliance on income transfers and toward the transfer of productive assets." He also wants to "shift redistribution forward in the life course, targeting interventions on the young."

Freeman offers a two-step approach for setting up individual asset accounts. First, workers should be in pension plans and ESOPs to get real control over those assets, so that enterprises could be run in their interests as well as in the interests of outside stockholders. He then calls for creating individual asset trust funds funded through progressive taxes on wealth, income, and consumption. The asset accounts would be large enough to generate a basic level of income. But a person would not be allowed to dissipate the capital by drawing down the account. At death, it would revert to the national pool for distribution to the "next round of babies."

It is unclear from Freeman's brief account why he thinks asset accounts are important. Allowing the "incompetent poor [to] be more like the incompetent rich" is hardly a politically salable program. But like the other wealth creation advocates, he recognizes the positive educational and political ramifications of involving the poor in managing assets on an equal basis with the rest of society. "Instead of demonizing welfare mothers, we'd all be tending our social stock portfolios—and so would they."

ESOP Fables

As we will see, there are real limits to workers' ability to control wealth distribution outcomes or economic decisionmaking through their pension funds or ESOPs, as almost any union official who has tackled the issue will tell you. The dream that ESOPs could make the difference, though, is explored in depth by Jeff Gates, former chief counsel for the Senate Finance Committee under Sen ator Russell Long.

In his recently published book, The Ownership Solution: Toward a Shared Capitalism for the Twenty-First Century, Gates never uses the politically unpalatable word "redistribution." Drawing on his understanding of corporate depreciation laws and how they are used to recreate wealth, he suggests rewriting those laws to allow employees to gain a greater share of future wealth through the creation of more ESOPs.

Gates extols the potential social benefits of ESOPs: they can help to more evenly divide society's wealth and income; bring greater democracy to the workplace; reduce layoffs and downsizings; and avoid unnecessary plant closings. And they can do all this without sacrificing (and while possibly even improving) corporate productivity and product quality. Their more widespread adoption would make the economy more environmentally sustainable, he argues, since worker-owners, who inevitably live near their jobs, would finally be in a position to directly influence their company's impact on its surroundings. In turn, ESOPs would rejuvenate interest in democracy and politics, which, he asserts, is flagging because individuals no longer feel they can have an impact on an economy that has gone global.

Gates points out that, as a reform movement, support for increased worker ownership would not be limited to progressives. For centrists, what could be more all-American than widespread stock ownership? And on the right, who can argue with a program that imbues workers with the capitalist spirit and aligns their interests with those of their employers? ESOPs, then, are a nonpartisan approach to economic justice.

In the midst of a boom where, paradoxically enough, social concern for the less privileged has diminished, a magic bullet would be welcome indeed. Unfortunately, the ESOP gun is fairly low caliber. There's little evidence that the nation's existing ESOPs—there are now 11,000 plans covering ten million workers—have radically transformed the workplace or provided substantially greater job and income security. As a retirement asset, especially if it is the only non–Social Security plan an employee has, an ESOP is a decidedly risky proposition. Given that stock in ESOPs is almost always distributed in proportion to salary, it has almost no effect on income distribution, at least within the firm. ESOPs' effect on workplace democracy has been minimal.

It's not that ESOPs are detrimental on any of these counts. Firms with ESOPs, especially where they have been coupled with nonmanipulative workplace participation programs, generally perform better than their non-ESOP counterparts. Their workers tend to feel better about their jobs. The modest additional wealth that has accrued to most workers in ESOPs (with a few notable disastrous exceptions) can provide an additional economic cushion—just as any new benefit plan would.

But in terms of redistributing economic power or giving workers a flexible asset usable for other purposes, ESOPs have mostly been a bust. Even where control over the stock isn't deliberately withheld from employees (as is the norm), workers trying to exercise power over the plans run into the same roadblocks that workers with pension plans face. The plans must be managed in a fiduciary manner, which inevitably entails the often perverse logic of conventional profit maximization, even at the expense of workers themselves.

Notwithstanding the hype of their more fervent boosters, ESOPs are mainly a rather modest additional benefit aimed primarily at retirement. They are not a new class of asset giving employees either greater financial freedom or flexibility in their life choices. For the most part, ESOPs have benefited firms by giving them access to tax-sheltered capital, not by creating a new breed of empowered employees.

ESOPs are also part of the long-term trend among employers to eliminate defined benefit pension plans, where the risk of investment performance is borne by the company and the payout is guaranteed through an insurance fund run by the federal government. In their place have come various types of defined contribution plans (401 [k] plans, IRAs, Keoghs, ESOPs), where most of the contributions come from the individual (which is why half the people offered 401 [k] plans don't participate—they need the money to pay bills); the risk is borne by the individual; and there are no guarantees. Partial privatization of Social Security would simply add to the trend.

The magnitude of this shift and its implications for retirement security are startling. According to the Labor Department, the number of defined benefit pension plans shrank from 175,143 plans covering 40 million workers in 1983 to 74,422 plans covering the same number of workers in 1994. But that understates the decline, since the number of active workers (as opposed to retirees) in pension plans declined markedly, from 30 million to 25 million. On the other hand, the number of 401 (k) plans (which take individual deductions from pay, usually though not always supplemented by the employer) grew from 17,303 with 7.5 million participants in 1984 to 174,945 with 25.2 million participants a decade later. Plan assets grew to $674 billion (still less than a fifth of pension-plan assets).

The growth of defined contribution plans and their holdings in equities helps explain the public's insatiable interest in the fate of the stock market. But it is important to note that the plans still cover a minority of the workforce. A poll conducted for the NASDAQ stock exchange last year found that in 1997 just 43 percent of American households owned stock in any form. (This is up from 32 percent in 1989, but it is still a minority.) More significantly, only 28.8 percent of households owned more than $5,000 in stock, while nearly half of all financial assets were held by the top 1 percent of households.

It is these statistics that give urgency to the goal of wealth broadening. Jeff Gates says America has too few capitalists, and he pushes another retirement plan to create more. This rhetoric suits the times but clouds the issue. People also need more wealth to get an education, buy a house, get retraining, and survive unemployment—in other words, they need wealth during their working lives, not just at retirement.

The real obstacle to the creation of either broader pension savings or stakeholder wealth accounts for ordinary Americans is that the working poor just can't afford to save very much. No such plan will succeed if it requires substantial self-financing in the form of either voluntary or mandatory deductions from wage and salary income that is already too meager. Stake holding, in short, needs to be tax financed.

The right has done a service by putting in play the issue of wealth accumulation for those of modest means. Liberals need to unlink that worthy goal from the evisceration of Social Security. Wealth accounts for young Americans could be embraced when a majority of Americans understand that rejuvenating our democracy requires narrowing the yawning gap between rich and poor. The current task for progressives is to come up with a menu of redistributive tax reforms that would make such accounts politically feasible.

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