Inequality, Too Much of a Good Thing
by
Alan B. Krueger, Princeton University and NBER

CEPS Working Paper No. 87

August 2002










I have benefited from helpful discussions with Roland Benabou, Anders Björklund, David Card,
B.J. Casey, John Donohue, Ken Fortson, Victor Fuchs, Tom Kane, Jeff Kling, Mike Rothschild and
Peter Schochet. Ken Fortson and Diane Whitmore provided valuable research assistance. All errors
in fact or judgment are my own. This paper was prepared for the Alvin Hansen Symposium on
Public Policy at Harvard University, April 25, 2002.

Inequality, Too Much of a Good Thing

Alan B. Krueger1
Princeton University and NBER

August 4, 2002


As the title of this essay suggests, I believe there are both positive and negative effects of
inequality. On the positive side, differential rewards provide incentives for individuals to
work hard, invest and innovate. On the negative side, differences in rewards that are
unrelated to productivity – due to racial discrimination, for example – are corrosive to
civil society and cause resources to be misallocated. Even if discrimination did not exist,
however, income inequality would be problematic in a democratic society if those who
are privileged use their economic muscle to curry favor in the political arena and thereby
secure monopoly rents or other advantages. Moreover, for several reasons discussed in
the next section, poverty and income inequality create negative externalities.
Consequently, it can be in the interest of the wealthy as well as the poor to raise the
incomes of the poor, especially by using education and training as a means for
redistribution.

The term inequality is often used rather loosely, and can be a lightning rod.2 Some have
argued that only extreme poverty is a concern. Others have argued that the gap in income
or wealth between the well off and the poor is a concern. Yet others have argued that the
rapid growth in income disparity between the richest of the rich and everyone else is an
issue. I will argue that, for various reasons elaborated below, all of these forms of
inequality are of concern to contemporary American society, and that America has
reached a point where, on the margin, efficiently redistributing income from rich to poor
is in the nation’s interest.

A theme of my contribution to this debate is that societies must strike a balance between
the beneficial incentive effects of inequality and the harmful welfare-decreasing effects
of inequality. The optimal balance will differ across societies and time, but too much
inequality can be harmful in any society, just like too much equality can suppress
innovation and drive. Evidence presented below suggests that expanding education and
training programs for less skilled workers could be an effective component of a strategy
to restore a better balance.


1I have benefited from helpful discussions with Roland Benabou, Anders Björklund, David Card, B.J.
Casey, John Donohue, Ken Fortson, Victor Fuchs, Tom Kane, Jeff Kling, Mike Rothschild and Peter
Schochet. Ken Fortson and Diane Whitmore provided valuable research assistance. All errors in fact or
judgment are my own. This paper was prepared for the Alvin Hansen Symposium on Public Policy at
Harvard University, April 25, 2002.

2 Indeed, I am on record in the Wall Street Journal (January 24, 1995) as preferring the term “dispersion”
over “inequality”. But, in the spirit of this debate, I will use the term inequality. See Atkinson (1983) for
a thoughtful discussion of alternative meanings of inequality.