Income Inequality: the economic issue of the coming decade?

One political and economic trend that I've been meaning to talk about for quite a while has been the increase in public discussion on the issue of income inequality. The simple argument is that the gap between the wealthy and the middleclass has become increasingly divergent.
I recall that in June 2007 the NY Times Sunday Magazine had an interview with Lawrence Summers, which really struck me over the head and started me thinking.

The interview mentioned the debate between Summers and Robert Reich in the early Clinton administration.

"[Reich] argued for something that he called “industrial policy.” Since the government couldn’t avoid having a big influence on the economy, he said, it should at least do so in a way that promoted fast-growing industries and invested in worthy public projects."

Summers responded, asking:

"How could bureaucrats know which industries and projects to support with tax credits? The better solution, Summers responded, was to get the economy growing fast enough that the problems of the middle class would begin to solve themselves. And the way to do this was to slow government spending and raise taxes on the wealthy, which would bring down the Reagan-era budget deficits and, eventually, interest rates. Once that happened, the American economy would be unleashed."

So, the plan becomes raise the economy, raise up the middle class. But did it turn out that way?


Summers recently noted that that the benefits of our last stretch of economic expansion have not benefitted everyone equally. The question is now how to make globalization work for the majority of the population.

From the article,
"“I think the defining issue of our time is: Does the economic, social and political system work for the middle class?” he told me. “Because the system’s viability, its staying power and its health depend on how well it works for the middle class.”"

So how to fix things? Summers suggests a new 'social contract'.
"... I think now the challenge is, again, to protect a basic market system based on open trade and globalization, to make it one that works for everyone or for almost everyone, at a time when market forces are often producing outcomes that seem increasingly problematic to middle-class families."

And the part that worries me somewhat:

"Despite good growth over the last four years, the pay of most American workers has barely kept pace with inflation. Technology and global trade are conspiring to let highly skilled workers do more — to be more productive and to play on a bigger stage — while at the same time making millions of other workers replaceable."

So, what about the social contract? It is clear that the 10% who are most wealthy in our economy (which for better or worse includes my colleagues in finance and law) are doing very well for ourselves at the moment. But what about the other 90% of the nation. It would be naive (read: stupid) to deny the importance of the other 90% to our good fortune.

Our economy runs on all of us working - properly incentivized of course (you cannot deny the proper role of liberal markets). But what if these incentives are out of whack?

It sounds great, in theory, to leave things to the operation of pure unhindered markets. But perhaps things like a higher tax burden on the wealthiest few, a comprehensive state-managed healthcare system, subsidzed education are not prima facie excessively socialist. Perhaps this things need to be done, not for pure economic policy but in harmony with social policy.

As an amateur in these policy areas, I'd welcome any thoughts on the subject...