Income gap

Inequality: America's great destroyer

January 29, 2014: 10:16 AM ET

The U.S. can achieve a lot by reducing inequality.

By Mohamed A. El-Erian

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FORTUNE -- In making inequality a topic of Tuesday's State of the Union speech, President Obama did a lot more than address a phenomenon that undermines America's social cohesion and the effectiveness of its political process. He put on the national table an issue that is now attracting the interest of an increasing number of economists: Inequality is no longer just a consequence of a prolonged period of unbalanced (and, more recently, subpar) growth and high unemployment; it is also a growing contributor to disappointing economic performance.

Any discussion on inequality in America today starts with the observation that top earners have massively outpaced everyone else when it comes to income growth in recent years. And the extent of the dispersion is notable in historical terms.

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It is not just about deepening income inequality. It is also about worsening wealth inequality.

Because the rich hold so many financial assets, they have benefited disproportionately from a stock market that has massively outperformed virtually all indicators of the nation's economic well-being -- this, at a time when asset prices have been the recipient of extraordinary policy support (not as end in itself but as a means, albeit imperfect, for policymakers to promote growth and jobs).

Then there is the inequality of opportunities. Again the data are clear. Social mobility is no longer what it used to be. Moreover, because of their much better access to education, children from well-off families stand a significantly better chance of capturing the upside of a realigning global economy.

With deepening inequality encompassing so many dimensions over so many years, a lot more people are paying attention, including economists interested in finding ways to enhance economic growth and job creation. And most agree that the relationship is now two-sided.

On the one hand, disappointing growth and persistent unemployment worsens the "inequality trio" of income, wealth, and opportunities. On the other hand, the greater the inequality trio, the more it undermines consumption, discourages investments, and exacerbate harmful debt overhangs – all of which curtail growth and job creation.

The core of today's serious debate about inequality no longer stumbles on these factors. Indeed, most people -- and especially those who have looked at the data and done proper analysis -- agree that inequality in the U.S. is unusually pervasive and harmful. It is also on course to get worse absent sustained corrective efforts.

Nor is there much disagreement that a continuation of these trends would eat away at the fabric of society and undermine what makes this country special. And most agree that even the very rich cannot totally insulate themselves from this social and economic phenomenon. After all, to use a housing analogy, even top-end homes will struggle to keep their value in a generally deteriorating neighborhood.

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Where people differ is on how to address inequality in a manner that doesn't undermine the country's overall economic growth and prosperity. And the reconciliation of competing views can often fall victim to deeply held priors about the optimum size of government

In noting that improvements will not happen overnight, President Obama put forward proposals that -- coming on the heel of the expiration of the Bush tax cuts for the rich and the Affordable Care Act -- would help slow deepening inequality. He did so in an encompassing manner, and one that should limit accusations of "class warfare."

These proposals speak to areas that have the potential to address the inequality trio -- namely:

  • Better equipping the young to succeed in today's world economy through education reforms, including greater emphasis on "high-quality early education"
  • Improving the access of the long-term unemployed to labor retooling and skills training while seeking to level the employment playing field and strengthening safety nets
  • Reforming workplace practices that discriminate against women and undermine their career progression and opportunities
  • Requiring contractors to pay their federally funded employees a higher minimum wage
  • Enhancing access to retirement savings.

President Obama opened his State of the Union speech by citing several areas in which Americans have really done well in recent years. By addressing what, until now, has been an incessant worsening in the anti-growth inequality trio, and by building "new ladders of opportunity," America can -- and should -- do even better.

Mohamed A. El-Erian is the CEO and co-chief investment officer of PIMCO.

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