Term Sheet

The latest on private equity, M&A, deals and movements — from Wall Street to Silicon Valley

Why income inequality should matter to corporate America

January 28, 2014: 9:45 AM ET

Stagnant wages may give U.S. workers less incentive to worker harder.

By Sanjay Sanghoee


FORTUNE -- When President Barack Obama delivers his State of the Union speech Tuesday night, he's expected to address a question on the minds of many Americans: Why can't I get ahead?

In the U.S., the gap between rich and poor is wider than it has been since the 1920s. The top 1% own 42% of the nation's wealth and on average made $717,000 per year from 2008-2012 compared to $53,046 for everyone else. While the financial crisis of 2008 may have hurt all of us somewhat, the 1% reaped 95% of all income gains since that time.

These statistics are pretty depressing, and yet they still don't capture the wider implications that income inequality could have on U.S. businesses and the broader economy. Those who earn less typically spend less. That's obvious, but less talked about is how the growing gap between rich and poor could dampen the motivation of workers and therefore lead them to produce less.

MORE: 5 things to expect from Obama's State of the Union

Inequality affects workers in two ways: The first is in the purchasing power of the dollars in their paycheck. The "real" value of these dollars declines as prices rise, and even though inflation has been reasonably tame for the past few years at about 2%, wages have grown at about the same rate (or less) while real-world experience shows us that the prices of everything from wireless plans and health insurance to consumables, such as milk, keep edging upwards constantly. This means that the average American is growing poorer every day, even though there may be a modest uptick in wages.

The second effect of inequality is the demoralization of the workforce due to diminishing financial returns. When executive wages are steep and continue to climb while non-executive pay lags far behind (the average CEO of an S&P 500 company makes 204 times the income of a typical worker, and this ratio has increased by 20% since 2009), every ounce of extra effort by an average worker yields a proportionally smaller degree of reward -- which, in turn, fosters resentment and can hurt productivity.

It's worth noting that despite stagnant wages, workers are in fact producing more today. A lot of that, however, is the result of new technologies and automation, which increase efficiency but can also push some workers out of jobs, and must eventually plateau. In addition, the profits generated by this economic activity are not trickling down to average Americans. Corporate profits, in fact, grew five times faster than wages last year, and this disparity between high profits and sluggish pay is forecast to continue in 2014.

Here's another way of looking at it: If the brass ring of the American Dream -- the pursuit of which has generated productivity and development in the U.S. for two centuries, flies too far out of reach, the dream could become an unrealistic fantasy and may no longer have the power to drive the workforce.

MORE: Should workers get paid to dress for a day on the job?

That's why corporate America should worry about inequality, even while venture capitalist Thomas Perkins makes the bizarre comparison of today's "demonization" of wealthy Americans to Nazi Germany's persecution of Jews in the 1930s. When the bulk of economic gains accumulate at the top of the financial pyramid and when that imbalance just keeps growing, workers at lower levels of the pyramid make progressively less money (both in real and relative terms) and feel left behind.

This can erode the motivation to work -- the very foundation that the business sector's fortunes are based on and which generates wealth in our system, and so it would be prudent for corporate America to address this issue before it's too late.

Sanjay Sanghoee is a political and business commentator. He is the COO of Delos Capital, a private equity fund based in New York City, and has worked at Lazard Freres, Dresdner, and Ramius Cowen. He has appeared on CNBC's Closing Bell, MSNBC's The Cycle, TheStreet.com, and HuffPost Live on business topics. He is also the author of two thriller novels.

Join the Conversation
Current Issue
  • Give the gift of Fortune
  • Get the Fortune app
  • Subscribe
Powered by WordPress.com VIP.