The Middle Is Falling Out of the Economy

At the surprising invitation of House Appropriations Committee Chairman David Obey of Wisconsin, I testified today to the Labor Subcommittee of the House Appropriations Committee (Obey chairs the subcommittee as well) on the long term state of the economy, rising inequality, the dearth of good jobs in the middle of the economy, and America's changing role in the world economy. What follows is an edited version of my written testimony.

Mr. Chairman, over the past three decades, not the bottom, but the middle has fallen out of the American economy. The great social achievement of the United States in the 30 years after World War II-the creation of the world's first majority middle-class, of a society that offered more economic stability to more people than any in human history-has been undone.

The stagnation of incomes for most Americans, the injection of insecurity and instability into the lives of the American people, is at the root of many of the seemingly discrete problems that we are grappling with today. The subprime mortgage crisis is fundamentally a crisis of the rising cost of housing while the income of many Americans has flat-lined. As home-building executive Michael Hill pointed out in a Washington Post op-ed column just this Monday, "forty years ago, the median national price of a house was about twice the median household income. In some parts of the country, this ratio was closer to 1 to 1. Twenty years ago, the median home price was about three times income. In the past 10 years, it jumped to four times income." And in most thriving metropolitan areas, Hill adds, the ratio is far higher than that.

Conclusion: If median income in America had continued to increase as it did in the years from 1947 to 1973, when it doubled, we would not be facing the mortgage-market meltdown we are experiencing today. So, too, with credit cards, where default rates are also increasing sharply, reflecting the growing desperation of Americans struggling to pay their bills, and further destabilizing many of our already shaky financial institutions.

I do not mean by these assertions to hold those financial institutions blameless in the current crisis, far from it. They aggressively marketed credit cards and mortgages to consumers whom they knew would have trouble paying back their debt. I merely wish to point out that had the incomes of ordinary Americans continued to rise over the past 30 years as they had in the previous 30, the American people would not have taken on so much debt.

What has happened that has so changed the economic life of the American people? Why do a clear plurality of Americans, in several polls over the past two years, now say they believe that their children will have a harder economic life than they themselves have had? Can this really be Americans speaking-that most optimistic of peoples, believers for centuries in the certitude that their children will have a better life than they had? How has this nation of incorrigible optimists become a nation of pessimists? And what changes in public policy can our government undertake to remedy the problems that have caused so many Americans to believe that our best days may be behind us?

THE MIDDLE VANISHES

In 1980, economist Alan Blinder, later to become Vice-Chairman of the Federal Reserve, wrote that the level of economic equality in America had become a constant. "Income inequality," he wrote, "was just about the same in 1977 … as it was in 1947." Blinder was right, but even as he was writing, the situation was beginning to change.

In the 1980s, economic inequality in America soared. Many mainstream economists at the time laid the blame on technological change, which enabled better educated Americans to benefit from productivity gains while less educated Americans lagged behind. As Thomas Lemieux, an economist at the University of British Columbia, argues in a paper ("The Changing Nature of Wage Inequality") issued by the National Bureau of Economic Research last October, that thesis failed to explain why the same rise in inequality wasn't evident in other advanced economies undergoing analogous technological changes.

Lemieux divides our new era of inequality into two acts. In Act I, in the 1980s, there are widening gaps between the wealthiest Americans and Americans with median incomes, and between Americans with median incomes and the poor. That is, both the gaps between the 90th percentile of Americans and the 50th percentile, and between the 50th percentile and the 10th percentile were growing.

In the 1990s and 2000s, however, the gap between the 90th and 50th percentile continues to expand. However, the gap between the 50th percentile and the 10th percentile grows no wider for women, and actually declines a bit for men.

The same pattern is evident when we segment the American public by level of educational attainment. While the gap between high school dropouts and high school dropouts expands in the early 1980s, along with the gap between college post-graduates and high-school graduates, the situation changes in the 1990s and 2000s. For both men and women, the gap between high school graduates and dropouts ceases to expand, while the gap between college post-graduates and high school graduates explodes.

In short, America in the past two decades has not been becoming more unequal at all points in the economic spectrum. Rather, Americans at median levels of income and education-indeed, Americans at all levels of income and education save the highest decile-have been falling dramatically behind the nation's wealthiest and most highly credentialed citizens, and most dramatically behind the nation's wealthiest one percent, whose share of the nation's income hasn't been this high since the late 1920s-that is, since before the New Deal set in place the laws and institutions that led to the broadly shared prosperity of mid-20th century America. As economists Ian Dew-Becker and Robert Gordon have demonstrated, over the past couple of decades, all the income from productivity gains have gone to the wealthiest 10 percent of Americans.

It's important to realize that in our new post-egalitarian America education is no longer the magic carpet to prosperity. Elite education is. As my friend Wally Knox, the former chairman of the Revenue and Taxation Committee of the California State Assembly has noted, higher education today stratifies us more than it equalizes us. The 50 or so elite colleges and universities have not expanded in size over the past half-century. There's been a huge expansion, though, in the number and size of colleges generally. College graduations almost quadrupled between 1960 and 2003. Again, though, the benefits of college accrue chiefly to the graduates of the better schools. In inflation-adjusted dollars, the paychecks of 60 percent of college graduates are lower today than they were in 1960. Worse yet, Knox concludes, "one sixth of male college graduates earn less today than the least paid high school graduates of the late 1960s."

Let's cut to the chase. What has fundamentally shifted in American economic life is that jobs in America-jobs for high school graduates, jobs for college graduates-no longer provide the level of income they once did. Nor the level of benefits, nor the assurance of steady, long-term employment. We are no longer a nation of good jobs. The benefits, pensions, and rising annual income that were the common, though by no means universal, experience of American workers a generation ago are now a thing of the past to all but the talented, or more precisely, fortunate tenth. That is why Americans now tell pollsters they fear their children will have a harder time than they did. Those fears are well grounded.

WHAT HAPPENED TO THE AMERICAN JOB?

The key determinants in the decline of the American job are deunionization, deindustrialization, and globalization. Each of these trends, moreover, reinforces the other two; each is a cause and consequence of the others.

In the two decades following World War II, close to one-third of the American non-agricultural work force was unionized. In consequence, median household income doubled between 1947 and 1973, rising at exactly the same rate as productivity. In consequence, health insurance and defined benefit pensions became the norm for major, and many minor, American employers.

In the late 1970s, however, American employers began to fiercely resist all further attempts at unionization, and were willing to incur the minor penalties for violating, say, the National Labor Relations Act's strictures against firing workers involved in organizing campaigns rather than allow their employees to unionize. A union-avoidance industry arose within the legal profession and management consultancies. Today, the rate of private sector unionization, which is 1955 stood at 39 percent, hovers at just over 7 percent. In consequence, wages have decoupled from productivity gains. Defined benefit pensions have gone the way of the dodo. And, according to a study by the Kaiser Family Foundation, the percentage of companies with 200 or more employees that offered retiree health benefits declined from 66 percent in 1988 to 33 percent in 2005.

Deindustrialization has also played a role in the decline of the American job. Manufacturing jobs, particularly jobs in durable-goods manufacturing, have long paid more than service-sector jobs. But the combination of automation and the eagerness of corporations to offshore production to nations with cheaper labor costs has led to a significant decline in the share of workers employed in manufacturing. From the late 1970s through the early 1990s, America lost 2.4 million manufacturing jobs. Since 2001, we've lost an additional 2.7 million.

Economists debate how much of that loss is due to globalization and how much to automated production. But the chief effect of globalization may not be direct job loss, but rather a constant downward pressure on wages in sectors-service as well as manufacturing-where the work can be done more cheaply in another country. Economist Alan Blinder has calculated that the number of American jobs with incomes held in check by globalization to be close to 30 million. Nor are these jobs to be found exclusively in blue-collar America. Scientists, mathematicians and engineers are particularly vulnerable to having their jobs performed elsewhere, which is one reason why the wages of computer software writers haven't kept pace with those of other highly-credentialed professionals. In 2006, economists Jerry and Marie Thursby, of Emory and Georgia Tech, respectively, surveyed 200 U.S.-based multinationals and concluded that 38 percent of them planned to relocate at least some of their research and development facilities to other nations, chiefly India and China.

Put these all together-the deunionization, the deindustrialization, the globalization-and what you get is the ratcheting down of the American job. Dead-end service and retail jobs proliferate. Technical and professional jobs involving information that can be digitized have pay and benefits held in check by technical and professional employees in Asia. Jobs in manufacturing decline in quality as well as quantity. Highly profitable Caterpillar Tractor, for instance, now offers its new hires just $22 an hour in wages and benefits, half of what it pays its more senior employees. "There is a balance that must be struck," Caterpillar group president Douglas Oberhelman told The New York Times, "between being competitive and being middle class." The balance that has been struck by the American economy is entirely toward being competitive. Being middle class will just have to go.

AMERICA IN THE WORLD ECONOMY

Time was-and we all remember it-when the American economy was the marvel of the world. It was American production, along with the strategy of our leaders and the dedication of our soldiers and sailors, that won World War II. It was the exports of American manufacturing and agriculture that revitalized postwar Europe and Asia-indeed, one of the several goals of the Marshall Plan was to ensure Europe had enough funds to buy American products.

And what is the role of the United States in the world economy today? We are the consumers of last resort-and first resort as well. According to economist Stephen Roach of Morgan Stanley, the personal consumption has amounted to 72 percent of our Gross Domestic Product in recent years-up from 66 percent just a few years previous.

You may recall that England in the 19th century was called a nation of shopkeepers. America today is a nation of shoppers, and our role in the world economy is to buy what other countries make. Or, more accurately, what U.S.-based corporations have made for them in other countries so they can sell it to us here at home.

Consider, for a moment, the difference between a nation in which the largest employer is General Motors, as was the case in the United States for four decades after World War II, and a nation in which the largest employer is Wal-Mart, as has been the case for the past decade. GM followed in the footsteps of Henry Ford, who by 1913 had concluded he needed to pay his workers enough so that they could afford to buy a new Ford. Wal-Mart, by contrast, pays its workers so little that they are compelled to shop at Wal-Mart. And with its mastery over and control of logistics, Wal-Mart has been able to reduce wages at its suppliers and shippers across the land.

But even if Wal-Mart weren't a downward force on wages throughout much of the economy, consider the implications of a nation whose chief economic activity, whose designated place in the world division of labor, is personal consumption. More particularly, personal consumption at a time when incomes are stagnating. The only way such a nation can get along economically is to go into debt, which is precisely what Americans, collectively and individually, have done.

In the 1980s, economists tended to dismiss the idea that the United States should have an industrial policy. The government, it was argued, couldn't pick winners and should stay out of promoting industries altogether. Twenty years later, we don't have an industrial policy, we have a diminished industrial base, and what has kept the economy afloat during the current decade hasn't been the proceeds of production. It has been asset inflation-the rising value of homes, against which Americans have borrowed to purchase the things they could not afford had they been dependent on their static work-derived incomes. This was not a sustainable strategy.

Increasingly, the macro-economic policy of the United States has been, Shop Till You Drop. So we've shopped. And now, we've dropped.

TOWARD AN INDUSTRIAL POLICY AND AN INCOMES POLICY

In an era of globalization, when U.S.-based transnational corporations no longer think of themselves as American entities, the reconstruction of a vibrant American economy can no longer be left to the private sector. Creating a well-paid, secure, sizable U.S. work force is no longer necessarily a part of these corporations' business plans. Indeed, such a goal is more characteristically inimical to these corporations' business plans, since a flexible labor force increasingly paid by world labor standards is the goal to which a growing number of these companies aspire.

And so it falls to government to rebuild a thriving middle class. The project, as I see it, has several elements.

The first is to step in where America's employer-based private welfare state is crumbling. Beginning in World War II, American companies provided health insurance and retirement benefits to their workers. For the past two decades, however, American companies have either cut back or altogether scrapped their benefit packages, or, if new, refused to adopt any. Employers such as Wal-Mart have relied on Medicaid to provide health care to those of their workers too poor to afford either the company's plan or coverage of their own. Accordingly, it falls to the government to offer affordable health coverage when employers choose not to, and to assist workers in setting aside income for retirement in a Social Security-Plus plan.

The second is to foster industry and public-works projects that create decent jobs within the U.S. With the advent of sovereign wealth funds, we've reached the point where other nations' governments make strategic investments in the American economy while our own government makes no such commitment. It's time for our own government to foster a range of strategic industries. The vast majority of machine tools used in U.S. factories and shops, for instance, are made abroad now, and with them have vanished a generation of American workers familiar with high-end machine technology. The need to reduce greenhouse gases requires far greater public investment in alternative energy technologies, and in retrofitting our homes, offices, plants and infrastructure.

The third is to upgrade all non-offshorable work. Upwards of 50 million private-sector jobs-in health care, construction, transportation, retail sales, education, tourism, security, maintenance, logistics, elder- and childcare-cannot be offshored and aren't in competition with lower-wage versions of the same jobs in other countries.

There are two components to upgrading industrial, infrastructure and unexportable jobs. The first is for the government to credentialize and professionalize these jobs where possible. That means a far greater commitment to vocational education. It means professionalizing childcare and elder care service jobs, as is currently done in the Scandinavian nations. "We usually think of a revived WPA creating employment in construction and manufacturing work," Nobel laureate economist Robert Solow told me for a Prospect article I wrote in 2006, "but if it's not focused on the service sector, it won't be that useful."

The second is for the government to enact the Employee Free Choice Act, which would enable workers to join unions again without fear of employer harassment and being fired, which is a common occurrence under the lax terms of the current labor law. It is no accident that the one period of broadly shared prosperity in American history coincides with the one period of union strength in American history-World War II and the three subsequent decades.

We may not think of retail, tourism and security jobs as commanding decent wages-but there was a time before the NLRA was passed in 1935 when auto factory jobs didn't command decent wages, either. In general, union density is determinative. In cities where hotels are largely unionized, room maids make $20 an hour; in cities where half the hotels are unionized, they make $12 an hour; in non-union cities, $7 an hour. In heavily unionized Las Vegas, hotel workers can avail themselves of employer-funded training programs to advance to more highly-skilled jobs, and make enough to buy homes that would be beyond the reach of hotel workers in non-union towns.

Capitalism creates prosperity. Governments create the legal and social environments in which prosperity can be broadly shared. By assuming the responsibility for benefit programs employers no longer offer, investing in strategic industries, offering serious vocational education programs, creating "green jobs" and human-service jobs requiring credentialing and offering commensurate pay, and amending labor law so it unambiguously permits workers to join unions, our government can begin the arduous and utterly necessary work of rebuilding the American middle class and setting the nation's economy on a far sounder footing. These are fundamental tasks-promoting the general welfare, as the Preamble to our Constitution puts it-from which our government has been AWOL for far too long.