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A new paper from two Harvard professors brings into relief the end of income divergence across state economies.For nearly a century, incomes across states converged, on average, at a rate of 1.8% a year, write professors Peter Ganong and Daniel Shoag in a working paper titled, “Why Has Regional Income Convergence in the U.S. Stopped?” published on SSRN.
For instance, they write, the average per-capita income in Connecticut was 4.37 times larger than the average per capita income in Mississippi in 1940. By 1960 that ratio had fallen to 2.28, and it fell again to 1.76 by 1980.
But during the last 30 years this relationship has weakened considerably, they say.
“From 1981 to 2010, the annual convergence rate averaged less than 1%, and in many of the years leading up to the “Great Recession” there was essentially no convergence at all.
“The income gap between Mississippi and Connecticut declined for over a century; over the past 30 years the income gap has remained constant. The residents of Connecticut have average incomes 1.77 times the average in Mississippi today.”
Here’s the chart showing what they’re talking about, with states’ per-capita incomes pointing in the direction of the highest-earning state.
So what happened?
You may or may not be surprised to learn that the answer is housing prices.
Basically, it became undesirable for low-skilled workers to migrate to higher-income areas, because those areas began giving rise to unattainably high home prices, the authors conclude.
So now, if they do move, it’s to areas with low nominal income but high real income net of housing costs, they write. “As a result, there are lower net population flows to productive places and a divergence in skill levels that slows income convergence.”
In fact, there’s now a “red state”/”blue state” divide between states with low housing supply elasticity (red) and high elasticity (blue) and those with income mobility.
And it’s not the usual divide:
The authors conclude:
“Although housing prices have always been higher in richer states, housing prices now capitalise a far greater proportion of the income differences across states. In our model, a reduction in the elasticity of housing supply in rich areas shifts the economy from one in which labour markets clear through net migration to one in which labour markets clear through skill-sorting. As prices rise, the returns to living in productive areas fall for low-skilled households, and their migration patterns diverge from the migration patterns of the high-skilled households.