Econ 101: Rich and Poor in a Market Economy

     The media love stories about the gap between the rich and poor in America. But they rarely explore that gap, why it exists, and what it means.

     It is an interesting question whether a normal bell curve of income is the prime indicator of a just or socially stable society. This requires us to think about what we mean by justice and what is likely to result in a stable society. Frederic Bastiats The Law is one of the best places to look for a definition of a just society. Bastiat begins with the hypothesis that we all have a natural right to self defense. He then writes that government is formed as the organization of this natural right.

     In other words, we form government in order to protect ourselves and our property against threat of assault. A just government is one that serves this purpose. It follows that government policies that take from one person and give to another are in violation of this purpose of government, and thus unjust. A law that would take my income and give it to you is nothing other than what Bastiat calls legalized plunder.

     We then might ask ourselves, if government is basically stealing when it redistributes wealth, should we agree to a government that does this anyway? We might if we thought that the method by which people receive income is unfair in some sense. Is it fair that Bill Gates has billions of dollars more than I do? This question cannot be answered unless we understand how people become rich in a market economy.

     A market economy is based on voluntary exchange. No one forces you to purchase anything and you cannot force anyone to purchase what you are selling. Thus, I can only get wealth if I provide something for others and they are willing to pay me for it. The greatest wealth is gained by those who produce something for which others willingly give up their income. A system that allows for enormous wealth in this way is one that creates an incentive for people to produce things of enormous value for others.

     I would prefer to live in a society in which the poorest among us were very wealthy. This can only happen if someone is producing lots of goods and services for everyone. Bill Gates is enormously wealthy because he produces something for which millions of people all around the world voluntarily give up something. If only the rich could afford computers and computer software, Bill Gates would not be rich. In comparison, there are relatively few people who give up something of value for my services as an economics professor. This is the sole reason Bill Gates has billions of dollars more than I do.

     It is difficult to think of a fairer or more just system than one where you are rewarded only if you produce something for others. A wide distribution of income is actually consistent with a system that creates great wealth for the poorest members of society because great wealth for any individual is likely to occur only when he or she produces something for which large numbers of people are willing to trade. Would you prefer a society where Bill Gates is poor and we write on typewriters, or where Bill Gates is rich and most people can afford Microsoft Word?

     A system that takes from one person to give to another in order to limit the width of the income distribution will not only be unjust from Bastiats perspective, but also will result in less wealth for the poorest in society. An enormous strength of the market system was pointed out by Adam Smith 203 years ago: It is not from the benevolence of the butcher, the baker, or the brewer that we expect our dinner, but from their regard to their own interest.

     Restrictions on peoples ability to earn wealth in the interest of ensuring an equitable distribution of income are merely restrictions on the incentives to create things for others. Thus, measurements of income inequality are of no value for discussing whether a society is just, or whether the system is fair. A better measure is how wealthy the poorest members of society are. Market capitalism produces, by this measure, the most just and fairest of societies.

Dr. Gary L. Wolfram is the George Munson Professor of political economy at Hillsdale College in Hillsdale, Mich. He also serves as an adviser to the Business & Media Institute.

Ask the professor:
Do you have a question about an economic issue covered in the news?