PAUL KRUGMAN: LETTER TO THE SECRETARY

Dear John Snow, secretary of the Treasury:

I'm glad that you've started talking about income inequality, which in recent years has reached levels not seen since before World War II. But if you want to be credible on the subject, you need to make some changes in your approach.

First, you shouldn't claim, as you seemed to earlier this week, that there's anything meaningful about the decline in some measures of inequality between 2000 and 2003.

Every economist realizes that, as The Washington Post put it, "much of the decline in inequality during that period reflected the popping of the stock market bubble," which led to a large but temporary fall in the incomes of the richest Americans.

We don't have detailed data for more recent years yet, but the available indicators suggest that after 2003, incomes at the top and the overall level of inequality came roaring back.

That surge in inequality explains why, despite your best efforts to talk up the economic numbers, most Americans are unhappy with the Bush economy.

I find it helpful to illustrate what's going on with a hypothetical example: say 10 middle-class guys are sitting in a bar. Then the richest guy leaves, and Bill Gates walks in.

Because the richest guy in the bar is now much richer than before, the average income in the bar soars. But the income of the nine men who aren't Bill Gates hasn't increased, and no amount of repeating "But average income is up!" will convince them that they're better off.

Now think about what happened in 2004 (the figures for 2005 aren't in yet, but it was almost certainly more of the same).

The economy grew reasonably fast in 2004, but most families saw little if any improvement in their financial situation.

Instead, a small fraction of the population got much, much richer. For example, Forbes tells us that the compensation of chief executives at the 500 largest corporations rose 54 percent in 2004.

In effect, Bill Gates walked into the bar. Average income rose, but only because of rising incomes at the top.

Speaking of executive compensation, Mr. Snow, it hurts your credibility when you say, as you did in a recent interview, that soaring pay for top executives reflects their productivity and that we should "trust the marketplace."

Executive pay isn't set in the marketplace; it's set by boards that the executives themselves appoint. And executives' pay often bears little relationship to their performance.

You yourself, as you must know, are often cited as an example. When you were appointed to your present job, Forbes pointed out that the performance of the company you had run, CSX, was "middling at best." Nonetheless, you were "by far the highest-paid chief in the industry."

And the business careers of other prominent members of the administration, including the president and vice president, seem to demonstrate the truth of the adage that it's not what you know, it's who you know. So my advice on the question of executive pay is: don't go there.

Finally, you should stop denying that the Bush tax cuts favor the wealthy. I know that administration number-crunchers have produced calculations purporting to show that the tax cuts were tilted toward the middle class.

But using the right measure — the effect of the tax cuts on after-tax income — the bias toward the haves and have-mores is unmistakable.

According to the nonpartisan Tax Policy Center, once the Bush tax cuts are fully phased in, they will raise the after-tax income of middle-income families by 2.3 percent. But they will raise the after-tax income of people like yourself, with incomes of more than $1 million, by 7.3 percent.

And those calculations don't take into account the indirect effects of tax cuts. If the tax cuts are made permanent, they'll eventually have to be offset by large spending cuts.

In practical terms, that means cuts where the money is: in Social Security and Medicare benefits. Since middle-income Americans will feel the brunt of these cuts, yet received a relatively small tax break, they'll end up worse off. But the wealthy will be left considerably wealthier.

Of course, my suggestions about how to improve your credibility would force you to stop repeating administration talking points. But you're the secretary of the Treasury. Your job is to make economic policy, not to spout propaganda. Oh, wait.