Category Archives: stagnant incomes

Will ‘Middle Class Economics’ Lift Us Out of ‘Secular Stagnation’?

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‘Secular Stagnation’ is the expression, made popular by the economist Larry Summers,  to refer to the present time period, since the end of the Great Recession, with slow economic growth, high unemployment, stagnant middle-class wages and increasing inequality.  It is to be contrasted with ‘The Great Moderation,’ from 1982 – 2007, with a rapidly growing economy, rising wages and stable prices.
CaptureMy last post, “Does ‘Middle Class Economics’ Really Work,” discusses President Obama’s attempt to appeal to middle-class families with policies such as:

  • Tax and regulatory provisions such as tax credits for childcare, college tuition, and second earners in two parent households; also requiring paid sick leave and a higher minimum wage.
  • Expanding access to community colleges to make workers more productive.
  • Increased infrastructure spending to boost employment.

The problem with this strategy is that it is much too weak to combat the huge headwinds opposing it.  In addition to the well-known effects of globalization and technological advance, consider the demographical challenge described below:

OECD old age support ratio:  the number of workers aged 20-64 relative to those aged over 65
Capture1As is very clear from this chart, the demographics are just going to keep getting worse and worse and will be very bad indeed by 2050.
Here is a surprising quote from Mr. Summers: “To achieve growth of even 2 percent over the next decade, active support for demand will be necessary but not sufficient.  Structural reform is essential to increase the productivity of both workers and capital, and to increase growth in the number of people able and willing to work productively.  Infrastructure reform, policies to promote family-friendly work, support for exploitation of energy resources, and business tax reform become ever more important policy imperatives.”
I would add several additional policy changes which would speed up change in this direction:

  • Reform (but not repeal!) the Affordable Care Act by eliminating all mandates. This would incentivize businesses to move part-time employees to full time. Tax credits and subsidies provide enough incentive for individuals to become insured.
  • Regulatory reform to make it easier to start a new business.
  • Raise the age limits for both Social Security and Medicare to encourage people to work longer.
  • Reform disability insurance to make it more difficult to be declared disabled.
  • Tighten up welfare requirements to require all able-bodied adult recipients without dependents to work.
  • Reform immigration with guest-worker visas for needed foreign workers.

We need to get serious about boosting our labor participation rate in order to grow the economy faster.  Happy talk about ‘middle class economics’ will simply not do the trick!

Does ‘Middle Class Economics’ Really Work?

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An article in yesterday’s Wall Street Journal, “What Clever Robots Mean for Jobs,”  illustrates the stark fact that “automation is commandeering much middle-class work such as clerk and bookkeeper, while creating jobs at the high- and low-end of the market.  This is one reason the labor market has polarized and wages have stagnated over the past 15 years.”
CaptureThe above chart shows the divergence between productivity growth and payrolls beginning in the year 2000.  It is a vivid portrayal of the “hollowing out” of the middle class which is causing so much grief.
Now let’s turn to a column in today’s New York Times, “What Is Middle-Class Economics,” by the journalist, Josh Barro.  The term, of course, refers to the policies by which President Obama hopes to appeal to the millions of middle-class families with stagnant incomes. According to Mr. Barro, the President’s policy proposals have three facets:

  • Tax and regulatory provisions such as tax credits for childcare, college tuition and a second earner in households where both parents work. Employers would be required to provide paid sick leave and the minimum wage would be raised.
  • Make workers more productive by expanding access to community college.
  • Increase overall economic growth with increased infrastructure spending and new trade agreements.

The problem, as Mr. Barro points out, is that such policies would have only a small effect on the taxes of a middle-income family, amounting to a cut of no more than $150 per year on average.  This is much less than the average family will save from falling gasoline prices.
On the other hand, it is generally understood that stagnant middle-class wages will not rise very much until the labor market becomes tighter as a result of falling unemployment.  Mr. Barro suggests that the government can help this process along in two ways:

  • By the Federal Reserve holding down interest rates, or at least letting them increase only very slowly.
  • With policies to make it easier to work less. The Affordable Care Act does this by decoupling health insurance from full time work. The surge in disability insurance recipients takes people out of the labor market. The rapid retirement of baby-boomers does the same thing.

Unfortunately there are many negative effects from both the Federal Reserve’s easy money policy as well as a shrinking labor participation rate.  I will return to this issue soon!

Is It Feasible to Cut Tax Preferences to Pay for Lower Tax Rates?

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I have been focusing lately on America’s two biggest fiscal and economic problems:

  • How to boost the economy in order to put more people back to work
  • How to either cut spending or raise revenue in order to shrink the deficit.

A few days ago in “The Great Wage Slowdown and How to Fix It,” I laid out a fairly specific proposal to make a substantial reduction in tax preferences in order to cut tax rates across the board and especially for the 64% of taxpayers who do not itemize deductions.  These are the middle- and lower-income workers with stagnant incomes who would likely spend any tax savings they received thereby giving the economy a big boost. Let’s examine whether or not this is a realistic course of action.
CaptureThe above chart from the Congressional Budget Office document, “The Distribution of Major Tax Expenditures in the Individual Income Tax System,” shows that, for example, the upper 10% of households by income receive about 40% of the total $1 trillion in individual tax expenditures per year.  Furthermore, this same top 10% of tax payers have an income of about $140,000 or more (Congressional Research Service). My basic idea is to shrink tax preferences by $250 billion per year and to lower tax rates for middle- and lower-income non-itemizers by this same amount.  If we assume that they would spend 2/3 of this new income, it would boost the economy by $170 billion per year which is 1% of GDP.
A reasonable way to achieve this savings is to expect higher income earners to contribute a greater percentage of their tax preference savings.  For example:

  • top 1% contribute $110 billion (2/3 of their total deductions).
  • top 96th % to 99th % contribute $50 billion (1/2 of their total deductions).
  • top 91st % to 95th % contribute $30 billion (1/3 of their total deductions).
  • top 81st % to 90th % contribute $30 billion (1/4 of their total deductions).
  • top 61st % to 80th % contribute $30 billion (1/5 of their total deductions).
  • this gives a total of $250 billion in tax preference savings.

This back-of-the-envelope calculation is not intended to be definitive but rather to suggest what can be done along these lines.  Those who are more well-off need to make bigger sacrifices in getting our economy back on track.