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Income inequality has become a hot topic recently, yet it is highly misunderstood.
Investopedia defines “income inequality” as an extreme concentration of wealth or income in the hands of a small percentage of a population,” which is usually referred to as the top 1%.
This unequal distribution of income is traditionally blamed on a variety of factors, including the decline of labor unions, the globalization hypothesis, skill-based technological change, financialization, the superstar hypothesis, immigration of less educated workers, college premium, automation, drug use, policy, politics, and race.
But there is another driver of income inequality that often goes unspoken of — inflation. The lack of conversation around inflation’s impact on income inequality is likely because it is not as well understood, along with the fact that those in power directly benefit from the existence of inflation.
Before I dig deeper into the relationship between inflation and income inequality, it is important to understand how inflation works. According to Wikipedia, “inflation is a sustained increase in the general price level of goods and services in an economy over a period of time. When the general price level rises, each unit of currency buys fewer goods and services; consequently, inflation reflects a reduction in the purchasing power per unit of money – a loss of real value in the medium of exchange and unit of account within the economy.”
To be clear, the inflationary design of the fiat dollar enriches the wealthy and drives the poor into deeper poverty. Inflation steals wealth from the poor through two main factors — the lack of inflation-adjusted wage contracts and the loss of purchasing power from cash reserves. These concepts are best explained through examples so lets use “Sally” to help us.
Sally is an American citizen who works at the local grocery store and makes $11/hour. She works 40 hours a week on average, has been married for 17 years, and has 3 children under the age of 10 years old. Each day, Sally gets up early, feeds her children, gets them off to school, heads to work for an 8 hour shift, and returns home.
The grocery store has been paying Sally $11/hour for the last 5 years. She is excited because she makes more than minimum wage and doesn’t have to work nights or weekends. Unfortunately, Sally doesn’t realize that she is actually having her wealth systemically stolen from her.
First, Sally makes $1,760 a month before taxes. Once you account for taxes and the living expenses of her family, Sally is left with $100 a month. Given that her “savings” each month is such a small amount, Sally decides to leave the savings in cash in her bank account, rather than invest it in the stock market or other financial assets (like inflation-adjusted bonds, etc).
At the end of each year, Sally’s goal is to save about $1,200 and after five years she has $6,000 in her bank account. While it seems like Sally is finally making headway in her financial life, inflation has been driving up the cost of living and the $6,000 isn’t nearly as much money as it was five years ago. Unfortunately, inflation eating away at the purchasing power of Sally’s savings isn’t even the worst part. As inflation continues to increase the cost of living, Sally has to spend more money each month to maintain the same lifestyle, which means that eventually she can’t even save the $100 each month that she was previously able to. In fact, at some point Sally will go from being able to save money each month to having to dip into her savings to pay for the cost of living each month. This is a great example of why many people feel like they can never get ahead.
Wait, why did inflation have such a quick and harmful impact on Sally’s ability to save money?
Sally is one of the millions of people who are employed with a wage contract that is not adjusted annually for inflation. This means that although Sally’s hourly wage never changed ($11/hour), she was actually getting paid less and less each year on a purchasing power basis. This concept is wildly misunderstood or unrecognized because most highly educated/white collar/tech-related/finance-related folks are compensated with inflation-adjusted wage contracts (they have never been forced to experience the impact of inflation without the protection of inflation-adjustment).
So in 5 short years, Sally has gone from being able to save $1,200 a year, while also covering all of her family’s cost of living, to now having to deplete her savings just to cover the cost of living. (This working paper from the IMF in 1998 does a great job explaining inflation’s impact on income inequality)
Here is the catch though — while Sally was having her wealth systemically stolen from her, the elites were actually benefitting from the inflation. Inflation drives real asset prices (real estate, etc) up over time and the real assets are obviously held by the wealthy elites. (See Inflation and the Price of Real Assets paper for more details)
This inverse effect for the opposite ends of the wealth spectrum accelerates the income inequality gap. We can see in the chart below that wealth inequality exploded as soon as gold broke the $35/oz Bretton Woods benchmark (April 1968) and the US decided to break from the gold standard. Simply, the fiat dollar and the subsequent ability for the US government to manipulate the economy has driven levels of income inequality previously unseen before.
So how does Bitcoin put a dent in the income inequality issue?
The decentralized digital currency is a deflationary monetary system that is currently operating under a disinflationary supply schedule. Quite literally, Bitcoin removes inflation from the money system and is able to negate it’s impact on income inequality. Furthermore, Bitcoin’s monetary policy is pre-set by the transparent, auditable software code, so it prevents any government or organization from mimicking quantitative easing to print more money.
If Bitcoin became the global reserve currency, the inability for governments to use it as a tool in their manipulation of the economy would drastically reverse the current trends of income inequality. Additionally, individuals and families in the bottom half of the current wealth distribution would start to see their wealth and purchasing power increase in a way that was previously unfathomable.
While it may seem unpopular to say, I personally believe that Bitcoin has a better chance to improve the income inequality gap than all philanthropic efforts combined. This doesn’t mean that education, opportunity, equal pay initiatives, and other avenues are less important, but rather that Bitcoin is attacking the problem from a different angle.
In order to solve the problem, we must change the system. And the biggest change we could make would be to return to sound money, which Bitcoin so beautifully does.
The “Off The Chain” podcast has been downloaded 1,000,000+ times in 160 countries. You can listen to the latest episode with Mike Cagney, CEO of Figure here: Click here for Off The Chain podcast
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Dave Hendricks is the co-founder and CEO at Vertalo. He is a successful entrepreneur who has previously built and sold technology companies and is now focused on disrupting the existing securities industry. Dave holds unique perspectives on where value will accrue in the future and this was a lot of fun to talk with him.
In this conversation, Dave and I discuss:
The structural issues in the legacy securities system
How we can fix them
What it means to tokenize venture funded companies
How you at home could benefit from this movement
I really enjoyed this conversation with Dave. Hopefully you enjoy it too.
Here are my tweets from yesterday:
Interested in crypto research? Look no further. The premier research firm in the space, Delphi Digital, has two subscription offerings for individuals and institutions alike. Take a look at their Bitcoin and Ethereum reports to get a taste of their analysis. [Click here]
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Nothing in this email is intended to serve as financial advice. Do your own research.