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How do the rich get richer?

August 20th, 2012 by

The spending differences between rich and poor

 
 
 
 

"One thing's sure and nothing's surer: The rich get richer and the poor get - children." So sang a houseguest of Jay Gatsby in F. Scott Fitzgerald's novel, The Great Gatsby. We've all heard the phrase, 'rich getting richer', but is it true here in Canada? And if so, what does that mean for the rest of us non-rich?

The one-percenters

First of all, rich is a relative term. The term "one-percenters" was used last winter in the Occupy protest movements, to indicate the highest-earning 1% of the population. According to the Wall Street Journal, this means Americans earning more than $506,000 annually.

Canadian modesty

In Canada, we are a little more modest. Researchers at the University of British Columbia determined that the minimum annual income to make it to the top 1% in Canada is $230,000. The average income among the group is $450,000 - versus $36,000 among the entire population. Who are these one-percenters? Fourteen percent hold top corporate jobs, while another 10% are doctors, dentists and veterinarians.

Where does it go?

In the US, Lam Thuy Vo of National Public Radio (NPR) and Planet Money used data from the Bureau of Labor Statistics to plot precisely how people at different income levels spend their money. For the purposes of comparison, NPR defined "poor" as having a household income of $15,000-$19,999. "Middle class" has a household income of $50,000-$69,999 and "rich" household income is over $150,000. Here is what they found (see chart above)...

How we are alike

You will notice that all three demographics spend about the same proportional amount on housing, clothing, eating out and entertainment. This explains why that raise you got doesn't make you feel any richer...like most people, as you increase your earnings, you end up increasing your spending on clothes, your home and entertainment by the same ratio.

Your wealthier neighbour might have nicer clothes, cooler gadgets, and a bigger house; she might eat at better restaurants and throw fancier parties, but there's a good chance she is still feeling the same financial stress as you are, because you're still spending the same proportion of your income on these things!

Where wealth has an edge

In a few areas, you will see that the ratio of spending for lower income families is roughly double that of the rich. These areas cover some of the basic costs of living. When it comes to eating food at home (buying groceries), paying for utilities and the costs of health care and health insurance, these prices are usually pretty much the same for everyone. As a result, they take up a much larger chunk of a low-income budget and a much smaller fraction of the richer budget.

In other words, even if you get that raise, the price of your morning bagel will still be the same (unless of course, you start shopping at Whole Foods or have them flown in from New York).

Transportation and gasoline are also a higher percentage of low-income spending than they are for wealthy people. However, the gap is much smaller, perhaps because wealthier people use more expensive modes of transportation: such as driving to work or taking taxis instead of the bus.

The biggest differences

Speaking of F. Scott Fitzgerald, legend has it he once said to Ernest Hemingway, "The rich are different from you and me"; to which Hemingway responded, "Yes, they have more money."

Once the basics, food, shelter and clothing are paid for, there is little money left to spend among those on a low-income budget. The wealthy, however, have plenty left over and they apply it to two important areas: education and saving for retirement.

Wealthy families spend three times as much as lower income families on education; and about six times more on their retirement savings. Those investments have the ability to generate more income and accelerate in value with compound interest - in other words, making the rich become even richer.

And as for the children?

Based on this data, the kids of wealthy households probably have higher levels of education and are more likely to have had their schooling paid for by their parents. As they start out on their own careers, they will be less likely to be burdened with debt than the kids who had to take out student loans. So right away, the kids from wealthier households have an advantage toward becoming rich versus poor, in their own right.

When the parents of these wealthy households retire, their large savings plans mean they will not need to rely on their kids for support. On the other hand, kids of parents with little savings in the bank will likely have to chip in to help their parents out. (Perhaps this explains why Gatsby's friend sings about poor people having children - to take care of them in their old age!)

Once the parents of the wealthy households die (and assuming they haven't left massive bar tabs at the country club), their kids will likely get a boost by inheriting money to establish their own retirement savings. For the kids of parents who weren't able to save, they are truly on their own.

Canada: we got it all

As you can see, the kids of lower-income families must struggle much harder to break out of their income demographic and make a change for future generations of their family. In many parts of the world, this kind of social mobility would be impossible. We are lucky to live in a country where the poor do sometimes get richer (and the rich sometimes get poorer) and love 'em or lump 'em, we all get children.

 
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