Pareto’s Principle and the Economy

In the early 1900’s the Italian economist Vilfredo Pareto proposed what is sometimes called the 80-20 rule. It turns out to (roughly) approximate many effects in the world: 20% of software code will produce 80% of the errors, 20% of the people in the world own 80% of the wealth, 20% of your customers in a business will generate 80% of the complaints, etc, etc, etc.

Now here is a sobering thought: in today’s American economy, 20% of workers produce 80% of GDP. (and the top 10% produce 40-50%, and the top 1% produce about 20% of GDP).   Who are these workers? They are mostly the very high-skilled, innovative, highly productive workers in technically-demanding fields, the STEM fields (Science, Technology, Engineering, Mathematics).

What are the implications of this? I see three:

(1) Although politicians, especially Democrats, worry mostly about keeping the lower 80% employed when they worry about unions and manufacturing jobs, it is really the top 20% they ought to be worrying more about – if that innovative top 20% disappears, so does 80% of GDP. If 80% of GDP disappears, so do the union and manufacturing jobs of most of the lower 80% of workers.

(2) That highly-productive, innovative top 20% of workers is a very, very scarce resource in the world (which is why they can command such high pay). America is as wealthy as it is because we currently own the largest supply of that scarce resource. But that is rapidly changing. Even as our K-12 education system continues to fail, countries like China are striving as hard as they can to increase their supply of this scarce resource. The US graduated about 150,000 science and engineering students last year, about a third of them foreign students who will now have to return home. China graduated something like 500,000. The percent of college degrees in STEM fields is only 13% in the US, but 40% in China, 26% in India, and 18% in Japan.

(3) It is not the shift of low-skill, low-wage American jobs to offshore factories that ought to be worrying us. It is the shift of high-skill, high-wage jobs to nations like India and China and South Korea that really ought to worry us. So far that isn’t happening much, but if we penalize success (by, for example, heavily taxing high pay), or if we cease to produce many of these workers ourselves (by, for example, failing to reform our educational system), that shift in this scarce resource will occur, and we will soon be eclipsed economically by other nations.