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Michael Farr

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Presidential Debates and Middle-Class Economics

Posted: 10/05/2012 8:32 pm

President Obama and Governor Romney spent a fair amount of time debating about the economy and the middle class. There was an interesting article posted on Bloomberg this week by Peter Robison. This article discussed a problem within our economy that Farr, Miller and Washington have been highlighting for several years now. The problem is the growing income disparity between the rich and the "not rich." The unmistakable reality is that the middle class has not benefited much from the economic growth we have seen, not only since the Great Recession, but also for the past two or three decades. More and more of the aggregate wealth and income in the country is accruing to the relatively well-to-do. This long-term trend had been masked by the rapid expansion of credit up until the credit crisis. In other words, many moderate-income people were still able to buy most of the things they wanted to buy until recently. These folks were unable to cover their expenditures through income growth, so they chose to take on more debt to support their expenditures. The credit crisis we experienced a few years ago reflects this trend: Middle-class Americans were simply on an unsustainable path with regard to taking on debt to support unaffordable lifestyles.

Putting all political bickering aside, the continued disparity in wealth and income is not a healthy thing for the long-term growth of the economy. The economy can only grow at its potential if there is a large pool of consumers that is both willing and able to spend money to drive that economic growth. The increased spending we had seen up until the financial crisis was largely driven by the expansion of credit rather than widespread growth in income. And the growth in incomes and spending we've seen since the financial crisis has been driven by those at the top. The Bloomberg article said, "The earnings gap between rich and poor Americans was the widest in more than four decades in 2011, Census data show, surpassing income inequality previously reported in Uganda and Kazakhstan." The article goes on to say:

In 2010, the top 1 percent of U.S. families captured as much as 93 percent of the nation's income growth, according to a March paper by Emmanuel Saez, a University of California at Berkeley economist who studied Internal Revenue Service Data."

Not surprisingly, this issue is taking center stage in this year's presidential election. Republicans argue that a stronger private sector is the answer to the problem of inequality. They argue that government spending and taxes should be cut so that private industry can create more jobs, effectively lifting up the middle class in a process known during the Reagan administration as "trickle-down economics." Democrats, for their part, advocate a more direct redistribution of wealth through heavier taxes on the rich and more direct government support to those of lesser means. While tempted, our objective is not to pick sides in this debate. Rather, we simply want to make the point that the trends leading up to the financial crisis continue today. The only difference now is that many of those needing or wanting credit are unable to get loans. This means that these people cannot spend as freely as they used to, and the onus of economic growth has been placed solely on the relatively few at the top of the wealth and income spectrum. And while the rich certainly have significant means to drive aggregate spending, they cannot do it alone. Again from the Bloomberg article:

Although U.S. consumer spending climbed to its highest level in four years in August, according to Gallup surveys, it still lags 2008 levels by more than 20 percent. Most of the spending came from higher-income households.

The erosion of the middle class in America continues to be one of our greatest challenges. While a lack of middle-class income growth can create headwinds for any economy in the short term, the longer-term risks of political instability and civil unrest can become much greater. The unfortunate reality is that the federal government has made promises to too many people that far exceed its ability to meet make good on these promises. Bringing the country's fiscal house in order, and thereby returning the American dream to the middle class, will undoubtedly require some combination of spending cuts and tax increases for those most able to afford them. We have no doubt that we can meet these challenges, but it will require some pain and sacrifice by all.

 
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