Culture & the Family
J. Scott Moody & Wendy Warcholik, Ph.D. | July 19, 2008
Oklahomans' Personal Income: An Analysis of the Private and Public Sector Components
J. Scott Moody & Wendy Warcholik, Ph.D.
Personal income is an important measure of Oklahoma's economic well-being. Fundamentally, personal income comes from two sources: the private sector and the public sector. Only the private sector-the proverbial "goose that lays the golden egg"-creates new income. The public sector can only redistribute income through taxes and spending.
The share of personal income generated by the private sector in Oklahoma is 67.5 percent-one of the smallest private-sector shares of personal income in the country. More disturbingly, the long-term trendline is pointing toward an ever-shrinking private-sector share. Oklahomans should be very concerned, because states with larger private sectors will grow faster over time than states with smaller private sectors.
What is Personal Income?
The technical definition of personal income by the U.S. Department of Commerce's Bureau of Economic Analysis is as follows: "the income received by, or on behalf of, all the residents of an area (nation, state, or county) from all sources. It consists of the income received by persons from participation in production, from government and business in the form of transfers, and from government in the form of interest (which is treated like a transfer receipt). Alternatively, personal income can be defined as the sum of wage and salary disbursements, supplements to wages and salaries, proprietors' income, dividends, interest, and rent, and personal current transfer receipts, less contributions for government social insurance."1
Through such exhaustive measures, personal income has become the standard measure of the economic well-being of a state. Higher levels of personal income mean that a state's residents are able to buy more goods and services such as homes, cars, education, and health care, to name just a few.
How Does Oklahoma's Personal Income Compare?
Chart 1 shows Oklahoma's personal income from 1929 to 2007 versus the national average. During this time period, Oklahoma's personal income has never exceeded the national average. On one occasion, in 1982, the oil boom at that time fueled a tremendous growth in personal income which closed the gap with the national average to a mere -0.9 percent-$23,247 in Oklahoma versus $23,448 nationally. The gap widened considerably after 1982; however, the gap has been closing since 2000.
In dollar terms, Oklahoma's personal income grew 651 percent to $34,153 in 2007 from $4,545 in 1929. In essence, this means that today's Oklahoma residents are able to purchase 6.51 times more in goods than their ancestors only 78 years ago. This tremendous growth in well-being was fueled by Oklahoma's entrepreneurs operating in the private sector.
We can also look to see how Oklahoma's personal income stacks up against the other 49 states by decade. Since 1929, Oklahoma's rank has rarely exceeded the fourth quintile (in the 30s), with the sole exception being the oil boom years around 1980 when Oklahoma ranked 29th. Fortunately, in this decade, Oklahoma's rank has significantly improved to 33rd up from the 41st position in 2000.
Three Major Components of Personal Income
According to the Bureau of Economic Analysis, there are three moving parts within total personal income: (1) net earnings; (2) dividends, interest, and rents; and (3) personal current transfer receipts. Each component is independent and does not always move at the same speed as the others, or even in the same direction.
Net earnings consist predominantly of wage and salary disbursements and supplements. Wage and salary disbursements are any monetary remuneration received by employees such as salaries, commissions, tips, and bonuses. Supplements are all the "fringe benefits" employees receive such as pensions and health insurance. Net earnings also include the income of small businesses such as sole proprietorships, partnerships, and farmers.
At the national level, in 2007, net earnings constituted 67.8 percent of personal income. The share of personal income due to net earnings has steadily fallen from its peak of 87.8 percent in 1944. In Oklahoma, the share of personal income attributable to net earnings has closely mirrored the national average. Net earning's share of personal income in Oklahoma also peaked in 1944 at 88.5 percent and has since fallen to 67 percent in 2007.
Dividends, Interest, and Rents
Dividends consist of payments made by corporations to their stockholders. Interest consists of payments made to individuals who own interest-bearing assets such as a certificate of deposit, government savings bond, or corporate bond. Rents consist of payments made on the rental of real property and the "imputed" rent of owner-occupied dwellings.
At the national level, in 2007, dividends, interest and rents constituted 17.3 percent of personal income. Generally speaking, the share of personal income due to dividends, interest and rents hold fairly steady with fluctuations around 15 percent of personal income. In Oklahoma, the share of personal income attributable to dividends, interest and rents closely mirrored the national average over the 1929 to 2007 time-period.
Personal Current Transfer Receipts
Personal current transfer receipts consist of payments made by government to individuals and include programs such as Social Security, Medicare, Medicaid, unemployment compensation, and veterans benefits.
Medical benefits-mostly Medicare and Medicaid-are the largest programs at 46.5 percent nationally. They are followed closely by Social Security at 37.4 percent. Together, these three programs alone account for 84 percent of all personal current transfer receipts. Oklahoma's distribution among these programs looks much like the national average.
Chart 2 shows the percentage of personal income that is attributable to personal current transfer receipts. At the national level, in 2007, personal current transfer receipts constituted an all-time high of 14.9 percent. This share has increased dramatically (by 964 percent) to 14.9 percent in 2007 from a mere 1.4 percent in 1929.
In Oklahoma, the share of personal income attributable to personal current transfer receipts is also at an all-time high of 17.3 percent. This share has increased dramatically (by 981 percent) to 17.3 percent in 2007 from a mere 1.6 percent in 1929.
Before 1970, Oklahoma had some of the highest shares of personal income attributable to personal current transfer receipts in the country, with a rank often in the top 10 of states. Since 1970 Oklahoma's share has fallen, with a current rank of 16th in 2007.
The previous discussion is based on the personal income classifications as defined by the Bureau of Economic Analysis. However, another way to classify the components of personal income is to look at their origin from the perspective of the "private sector" versus the "public sector."
Two components are simple to reclassify: personal current transfer receipts fall under the public sector since they represent payments from the government to individuals.2 Dividends, interest, and rents fall under the private sector since they represent payments from business to individuals. Net earnings, however, is more complicated since it contains members of the workforce from both the private and public spheres.
Chart 3 shows the public sector share of personal income, which consists of total government (federal, state and local) compensation (wages and salary plus supplements). The remainder of net earnings is assumed to belong in the private sector.3 At the national level, in 2007, total government compensation constituted 12.5 percent of personal income. The share of personal income attributable to government compensation has increased by 112 percent to 12.5 percent in 2007 from 5.9 percent in 1929.
In Oklahoma, the share of personal income attributable to government compensation has increased faster than the national average, growing 165 percent to 15.1 percent in 2007 from 5.7 percent in 1929.
Generally speaking, Oklahoma's rank among states has been increasing over this time period and currently stands, in 2007, as the 12th highest in the country.
Private Sector versus the Public Sector
With the division of net earnings into its private- and public-sector components, a complete picture of private-sector and public-sector personal income is established. The private sector is defined as dividends, interest, and rents plus private net earnings. The public sector is defined as personal current transfer receipts plus total public net earnings.
The results of the private/public division are shown in Chart 4. At the national level, in 2007, the private sector constituted 72.6 percent of personal income. The share of personal income attributable to the private sector has alarmingly declined by 21.6 percent to 72.6 percent in 2007 from 92.7 percent in 1929.
In Oklahoma, the share of personal income attributable to the private sector has declined more precipitously than at the national level by 27.3 percent to 67.5 percent in 2007 from 92.8 percent in 1929.
Unfortunately, when compared with the other 49 states, Oklahoma's rank has generally been stuck in the lowest quintile among states (in the 40s). In 2007, Oklahoma ranked a dismal 39th with its private sector share of personal income.
Chart 5 illustrates why Oklahoma's policymakers should be very concerned. It illustrates the positive correlation between per capita personal income and the private-sector share of personal income. In other words, the bigger the private-sector share, the bigger the per capita personal income. This should come as no surprise since the private sector is the proverbial "goose that lays the golden egg."
States with larger private sectors will grow faster over time than states with smaller private sectors. And it is a large gap. The state with largest private-sector share (Connecticut at 79.3 percent) has a per capita personal income of $54,117. The state with the smallest private-sector share (West Virginia at 59.1 percent) has a per capita personal income of $29,537. To put it another way, Connecticut's per capita personal income is 83 percent larger than West Virginia's.
This analysis uncovers the alarming trend that, nationally, and in Oklahoma, the composition of personal income has significantly shifted away from the private sector and toward the public sector. More disturbingly, the long-term trendline is pointing toward an ever-shrinking private-sector share of personal income. In the not-so-distant future, the current trends may lead to the day when the majority of personal income is derived from the public sector.
Unfortunately, there will be an economic price paid as the private-sector share continues to shrink. The transfer of resources from the private sector to the public sector, via taxes and/or regulations, will stifle future entrepreneurial growth. Since only the private sector can create new income, the future may well bring a declining standard of living. Keep in mind that it was entrepreneurial action in the private sector that brought a sixfold increase in living standards in just the last 78 years.
However, the future is not written in stone. Oklahoma's own entrepreneurial spirit has helped to reinvent the state's economy many times over the years. Proper public policy that embraces secure property rights, low taxes, and fewer regulations will lead to an environment where entrepreneurship can thrive. Business and policy leaders must work together to ensure that the entrepreneurial spirit lives on so that Oklahomans can rely on the private sector, not the public sector, for their livelihood.
1. "State Personal Income 2006 Methodology," U.S. Department of Commerce: Bureau of Economic Analysis. http://www.bea.gov/regional/pdf/spi2006/Complete_Methodology.pdf
2. A very small fraction of personal current transfer receipts are due to flows from business to not-for-profits and business to individuals. Nationally, in 2007, this amount was only 4 percent of transfers. In Oklahoma, this amount was only 3.5 percent of transfers. Unfortunately, this flow cannot be easily separated from the transfer data since the necessary detail is unavailable for the entire 1929 to 2007 time period. However, its very small share suggests that it does not bias the final results of this analysis.
3. This assumption can be relaxed considering some "private sector" entities-such as not-for-profits and defense-related industries-perform quasi-government activities. However, such an analysis is beyond the scope of this current study.
J. Scott Moody (M.A., George Mason University) and Wendy P. Warcholik (Ph.D., George Mason University) are OCPA research fellows.
J. Scott Moody
OCPA Research Fellow
OCPA research fellow J. Scott Moody (M.A., George Mason University) serves as chief executive officer of State Budget Solutions. Formerly a senior economist at the Tax Foundation and a senior economist at the Heritage Foundation, he has twice testified before the Ways and Means Committee of the U.S. House of Representatives. Moody is the co-creator of the Tax Foundation’s popular “State Business Tax Climate Index.” His work has appeared in Forbes, CNN Money, State Tax Notes, The Oklahoman, and several other publications. This article is an updated version of an analysis published in 2008.
Wendy Warcholik, Ph.D.
OCPA Research Fellow
Wendy P. Warcholik (Ph.D., George Mason University) is an OCPA research fellow. She formerly served as an economist at the U.S. Department of Commerce’s Bureau of Economic Analysis, and was the chief forecasting economist for the Commonwealth of Virginia’s Department of Medical Assistance Services. She is a co-creator (with J. Scott Moody) of the Tax Foundation’s popular “State Business Tax Climate Index.”