This post was written by Mike Veall of the Department of Economics at McMaster University.
Last week the Fraser Institute published a study that one of the co-authors, Christopher Sarlo, summarized in the Globe and Mail (Is the income gap growing? It depends who you measure, Thursday, July 30). This blog expands on my 150 word letter to the Globe criticizing the study. I thank Stephen for hosting me.
Professor Sarlo highlights “a principal finding of the study” that “individual income inequality has actually declined in Canada” over the study period 1982 – 2010. It is odd to highlight the individual result given that the study argues “that the appropriate recipient unit is the family” and finds that family inequality has increased. But let that pass for the moment, because there are still three red flags.
First, the study’s income definition excludes capital gains but deducts all income taxes, including the income taxes paid on capital gains. Hence the income observation for someone with capital gains will actually be lower than an otherwise identical person with no capital gains. As capital gains mostly occur towards the top end of the income distribution, this reduces the estimate of inequality.
Second, the data source is the Survey of Labour and Income Dynamics (SLID). A 2004 Statistics Canada paper by Frenette, Green and Picot and a 2007 Canadian Journal of Economics (CJE)paper by Frenette, Green and Milligan show that SLID tends to under-represent individuals in the tails of the distribution and hence underestimates inequality. (There is an ungated version of the latter paper here, although I prefer the journal version.) Given it is a direct challenge to its findings, one would expect some comment in the Fraser Institute study, but the paper is not cited.
This connects to the third red flag. The SLID coverage problem means that the top one per cent is underrepresented in the analysis (and does not even get a mention in the paper). Data from Statistics Canada CANSIM table 204-0001 (where I have adjusted for inflation) show why this matters: The average after-tax income of the top one per cent of taxfilers went from about $200 thousand to about $380 thousand between 1982 and 2010, an increase of about 90 per cent. For the top 0.1 per cent the increase was from about $570 thousand to about $1.4 million (about 140 per cent).
In sum, the Fraser Institute study uses a flawed income variable and a data set that lacks coverage in the tails, both in ways that lead to underestimated inequality. And it omits discussion of the top one per cent where significant increases in income inequality have occurred. I noted in my Globe letter that the Fraser Institute study includes this comment: “Too often, improper measures of inequality are used to arrive at results supportive of an advocate’s pre-existing position.” I wondered whether it had happened again.