Sometimes political wisdom comes from unlikely places. And sometimes it comes from the least expected places. It is at these very times when we best take heed! Who would have ever thought that a study condemning the trends in widening wealth and income inequality in the US as bad for economic growth would have come from...Wall Street! And yet, that is exactly what has now occurred.
A brief report released on August 5, 2014 by Standard & Poor's entitled, How Increasing Income Inequality Is Dampening U.S. Economic Growth, And Possible Ways To Change The Tide is making the rounds in establishment circles and is finally promoting the proverbial "discussion-we-need-to-be-having" on the political and socio-economic effects of the ever widening income and wealth inequality in the US over the past three decades. The report begins its introduction by specifically shifting the inequality debate from the more traditional moral/social justice basis of the attack on inequality to the sphere of economics. The report fearlessly asserts, "Despite the tendency to speak about this issue in moral terms, the central questions are economic ones..." and then goes on to make a market based case for less inequality.
The report begins with one of the most basic assumptions of Keynesian economics; "... income inequality can lead affluent households (Americans included) to increase savings and decrease consumption..." which according to Keynes was the worst thing for any market economy since it is effective consumer demand that leads to a virtuous cycle of investment, hiring, spending and growth. High levels of income concentration discourage all the things that spur growth because income is concentrated where it is far more likely to be saved as opposed to spent and where government has less access to it meaning less revenue to promote fiscal stimulus. Worst of all, middle class households begin to heavily borrow to fill income gaps in order to make ends meet creating risks for the financial system and deeper recessions from "debt overhang" during downturns in the business cycle.
The report then goes on to detail the ways in which this has cost the US economy billions in income growth by slowing demand and output. It also sees how social mobility itself has been hampered in the process creating a less educated and skilled workforce which has also lowered potential GDP growth. In this sense, the decline in average incomes means a decline in the economy strongly implying that and advanced, forward moving society is also a middle class society. Unstable, undemocratic and backward societies are typically the most economically unequal. A society ruled by the wealthiest oligarchy has no real incentive to invest at home for the purpose of social development and nation building because there is too much poverty to profitably absorb such investment and so investment remains confined to the export sector and to foreign capital markets. As a result, the home society remains "backward." A thorough examination of Saudi society should quickly dispel any reasonable doubts!
The report makes its case that the US income profile has been skewed upwards over the past few decades by quoting some well known statistics provided in a 2011 study by the Congressional Budget Office;
In 1979, the bottom four-fifths of the income spectrum earned nearly 60% of total labor income, about 33% of income from capital and business, and about 8% from capital gains. By 2007, the bottom four-fifths share of labor income had dropped to less than 50%, income from capital and business had decreased to 20%, and capital gains fell to about 5%. In other words, all sources of income were less evenly distributed in 2007 than in 1979.
The report stresses that the widening income distribution gap is both cause and consequence of widening education gaps implying that higher education is a big key to bridging the gap. This has usually been the focus of conservatives who can even bring themselves to acknowledge a growing income gap. Of course, this needs to be addressed buy the obvious problem has been more nearly job outsourcing of so many unskilled and semi-skilled jobs and the shrinking of domestic rates of job growth, union busting, a lower real minimum wage and the resulting overall secular stagnation which has lengthened downturns and created higher average annual rates of unemployment. It has also increased the number of long term unemployed as well as lengthened the time from the start of a recession for a labor market recovery.
The most statistically impressive demonstration of the impact of high levels of inequality is the correlation between income distribution and the length of business cycle upturns. They cite a group of IMF economists who claim that there is no tradeoff between productive efficiency and income equality. IMF economists Andrew Berg and Jon Ostry examined business cycles across a variety of economies over the period 1950 to 2006 and found that income distribution has the single largest impact on the duration of business cycle upturns. At one point they claim that, "...a 10% decrease in inequality (a change in the Gini coefficient to 0.37 from 0.40) increases the expected length of a growth spell by 50%." Clearly, the data show that more equal economies grow faster and sustain much longer periods of cyclical expansion. This data present a devastating blow to the traditional arguments that high consumption dampens capital investment and GDP growth! Economic growth is more compatible with growing average middle class incomes than with wage compression. And this all goes to say that austerity, not fiscal expansion, is the real enemy!
Nobel Laureate and former Chief Economist at the World Bank, Joseph E. Stiglitz, has recently added his voice to the chorus of those claiming that growth and austerity run at cross purposes and that inequality is more of a problem than federal budget deficits. In a popular opinion piece written early last year in the New York Times called Inequality is Holding Back the Recovery, Stiglitz argues that the failure of real middle class incomes to keep pace with productivity year over year has resulted in chronic stagnation resulting in greater difficulties in recovering from business cycle downturns. Stiglitz begins by saying, "Politicians typically talk about rising inequality and the sluggish recovery as separate phenomena, when they are in fact intertwined. Inequality stifles, restrains and holds back our growth."
Such inequality also creates financial instability through middle class reliance on debt in lieu of rising real income, dampens social mobility and make education more difficult to obtain for many workers who need the new skills demanded by modern high tech industry. In a word, the widening economic inequality that we've seen over the past three and a half decades is the real issue. Stiglitz argues;
There are four major reasons inequality is squelching our recovery. The most immediate is that our middle class is too weak to support the consumer spending that has historically driven our economic growth. While the top 1 percent of income earners took home 93 percent of the growth in incomes in 2010, the households in the middle — who are most likely to spend their incomes rather than save them and who are, in a sense, the true job creators — have lower household incomes, adjusted for inflation, than they did in 1996. The growth in the decade before the crisis was unsustainable — it was reliant on the bottom 80 percent consuming about 110 percent of their income. Second, the hollowing out of the middle class since the 1970s, a phenomenon interrupted only briefly in the 1990s, means that they are unable to invest in their future, by educating themselves and their children and by starting or improving businesses. Third, the weakness of the middle class is holding back tax receipts, especially because those at the top are so adroit in avoiding taxes and in getting Washington to give them tax breaks...Fourth, inequality is associated with more frequent and more severe boom-and-bust cycles that make our economy more volatile and vulnerable.
Stiglitz's argument is unimpeachable; according to the Center for Budget and Policy Priorities, average real working age median household income in 2010 dollars, fell from an historic peak of nearly $62,000/year to well under $56,000/year! It is also that case that when real middle class incomes fall as much as they recently have, debt fills the gap. When recession strikes, recoveries are harder because spending is delayed by household financial deleveraging. In essence, "debt overhang" delays the consumer spending needed for a sustained economic recovery. According to the St. Louis Fed, the US household debt to GDP ratio was around 98% in the middle of 2009 when the official recovery began. By the first quarter of this year, it dropped to 80% of GDP. Though this is still high, making private debt a bigger problem than public debt, it represents a large share of consumer income suddenly shifting to debt repayment in a short space of time which could have been pumped through the economy to stimulate further GDP growth and job creation.
A study by economist Christian Weller for the Center for American Progress showed that middle class Americans have the very highest debt to income ratios, sometimes at over 155%, and that even though increasing debt levels financed the surge in consumer spending during the 2002 to 2007 cyclical expansion, it also slowed the recovery after 2007. Weller explains;
The economy of the last business cycle, from March 2001 to December 2007, depended heavily on banks pushing ever-more debt on consumers. In each quarter during that period, households’ purchasing power—measured as after-tax income—increased by an annual rate of 3.1 percent because of more debt on top of actual income growth. But that also meant that the debt burden increased at an unprecedented rate during the last business cycle, laying the foundation for a lot of economic pain to follow.Weller concludes that high American household debt is impeding a more robust economic recovery due to its effects on consumer spending. He shows that US household debt as a share of after tax income is still higher than it was at the 2004 peak of the 2002-2007 expansion. Policies to boost incomes and relieve household debt need to speed up. Only a turnaround in middle class income stability can promote long term, sustained economic growth.
US trends in income inequality may have enriched a few but it has harmed the middle class and the slowed our recovery. The rich have gotten richer while the poor have become poorer. According to David Cay Johnston, a 2007 survey of IRS data show that the incomes of the richest 400 US households increased from an average of $71.5 million/year in 1992 to nearly $357 million/year in 2007 when calculated in 2009 chained dollars! This represents a nearly 400% real rise in income! Over the exact same period, the real increase of the average gross adjusted income of the bottom 90% of US households was a mere 13% or less than one percent a year!
Reversing this trend will take greater social spending, higher taxes on the rich, a restoration of union rights and most of all, a massive public investment program at the federal level to create jobs in such sectors as infrastructure and mass transit. These are "green jobs" that not only lower the cost structure of the economy by creating logistical efficiencies and energy savings but also can't be outsourced! Such a program can create millions of middle class jobs! But we need the political will. Time to get to the polls this November and elect progressives that will make the reversal of income inequality the core of their agenda!