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The President’s Middle Class Economics

Research & Commentary
March 12, 2015

by John Schwarz

America’s middle class can once again prosper, but only if we confront growing inequality within the nation’s private sector. President Obama’s new plan for middle class revival doesn’t do that confronting.

Had wage increases since the 1970s been distributed more equally across the board, two-earner families today would be making $20,000 more per year.

Had wage increases since the 1970s been distributed more equally across the board, two-earner families in the United States today would be making $20,000 more per year.  flickr/James Yu

By John Schwarz

When President Obama touts his new “middle class economics,” it sounds terrific, just what American workers who’ve been held back for 40 years need.

The President is talking about helping working and middle-income Americans get ahead — with more support for financing college education, larger tax cuts and credits, and big new investments in public infrastructure.

But under the President’s plan, I think we need to ask, where are the economic opportunities — the good-paying jobs average Americans need to get ahead — going to come from?

The U.S. Department of Labor is currently estimating that our economy will add about 15-20 million jobs over the coming 10 years. Say we take the higher figure of 20 million. That’s the equivalent of adding 2.5 million jobs per year, outside two projected years of recession.

Some context: The best six years under the second Bush administration produced 1.5 million jobs per year, and the last four years under Obama — his administration’s best years — have generated 1.8 million jobs per year. So adding 2.5 million jobs per year will clearly take quite a hefty performance.

The Labor Department also estimates that about 5 million of the 20 million new jobs over the next decade will pay below the median wage. The labor force, meanwhile, is slated to expand by about 10 million workers.

Adding all these numbers together leaves us with just 5 million new jobs paying at or above the median wage. Not enough. Not nearly enough. We need 100 million much better-paying jobs in all if we’re going to provide real opportunity for all the American workers who’ve seen little increase in real hourly compensation over recent decades.

Employers, of course, would create plenty of these jobs if they saw a significant increase in demand for their products and services, if, in other words, average Americans were consuming more.[pullquote]Rising private sector inequality will offset the impact of the President’s proposed tax cuts.[/pullquote]

But we can’t assume that this significantly increased consumption will somehow magically appear as increases in productivity translate into higher wages. Over the past 40 years, virtually all the gains in compensation from greater productivity have gone to Americans at the top. Even for typical college grads, pay increases have lagged far behind productivity increases, by nearly as much as has the median wage for all workers.

The President’s path does address the necessity to lift consumption. His “middle class economics” is proposing tax cuts to boost the take-home pay of the 100 million workers whose pay has flat-lined for so long. These tax cuts will generate significantly greater consumption. The reason: Working and middle-income households have a substantially higher “marginal propensity” to consume than wealthy households, who will, under the President’s plan, be paying higher taxes to finance the tax cuts.

Here’s the problem: The President’s tax cuts will have only a one-off effect. The cuts will lift income and consumption at and around the time the cuts happen. But the cuts won’t lift income and consumption more than that single time unless taxes for the wealthy are raised again to facilitate further cuts for working and middle-income households.

The President’s tax cuts also do little to curb the pay inequality still rising within the private sector and the terrific drag this rising inequality has on the consumption needed to support better-paying jobs and the economy’s expansion.

This rising inequality occurring within the private economy will offset — and even override — the impact of the President’s proposed one-off tax cuts. If pay inequality continues within the private sector, we end up right back at square one, or worse.[pullquote]Mushrooming inequality within the private sector explains why middle and working class Americans have received so little.[/pullquote]

Even adding in a muscular multi-year program of public infrastructure investment, as urgently as this may be needed, would have little impact on employment figures or the wage picture after spending for the program has tapered off.

Those 100 million Americans with stagnating wages will continue to stagnate until we come to grips with the disproportionate raises that have gone to the top 10 percent of America’s workforce.

How disproportionate have these raises been? Had workers received just average wage increases since the 1970s, instead of having nearly all the nation’s pay hikes go to the top, the median full-time worker today — the full-time worker exactly at the middle wage — would have been taking home $10,000-plus more in compensation annually, about 25 percent more than the actual pay received.

Simply proportionate increases in pay over recent decades would have completely changed the economic lives and circumstances of ordinary workers and families, enabling them to get significantly ahead through work instead of running faster and faster only to stay pretty much in the same place. Pay for families with two full-time workers would now be $20,000 higher.

Mushrooming inequality within the private sector, in short, explains why middle and working class Americans have received so little, far more than either globalization or slowed growth. To be effective, a “middle class economics” must change inequality’s trajectory within the private economy and end the corrosive impact this inequality has on consumption.

Collective bargaining used to help make sure that reasonably proportionate shares of improved productivity went to workers, but unions, very regrettably, no longer play as large a role as our economy as they once did. So how can we put a renewed focus on containing the pay skew within the private sector?[pullquote]We should consider linking corporate taxes to how fairly companies compensate top execs relative to their workers.[/pullquote]

One way could be through a reform of corporate taxes.

We should consider linking corporate and business taxes to how decently companies compensate their top executives relative to their average and lowest-paid workers — and how much they pay workers relative to the profits they take. We could do this linking by applying a significantly reduced tax rate for companies that comply with basic pay standards and a significantly higher tax rate for noncomplying companies.

Awarding both government contracts and subsidies to businesses by criteria that advantage companies that follow the guidelines could strongly reinforce this new tax approach.

Over time, such policies would begin to alter how major corporations distribute their compensation and take their profits. That, in turn, would lift pay, bolster overall consumption in the economy, incentivize employers to create more and better-paying jobs, and enable most Americans to get ahead.

This happens to be precisely the aim of middle class economics. It is exactly what ordinary American workers need.

President Obama correctly identifies this high aim as America’s foremost goal. But the President’s game plan fails to see the path we must take to arrive at it. We need to focus like a laser on the inner workings of the private sector and blunt that sector’s escalating inequality, the actual source of the problem that’s holding back our workers — and entire economy.

John Schwarz is professor emeritus of public policy at the University of Arizona and author most recently of Common Credo: The Path Back to American Success, published by Liveright Press in 2013.

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