THE BLOG
02/15/2011 03:27 pm ET | Updated May 25, 2011

The Broken Covenant Between Rich and Middle Class

Henry Ford did not invent the middle class; it had been around a long time in the form of artisans and shop-keepers. Nor did Ford single-handedly drive the expansion of the American middle class; the Industrial Revolution was already doing that.

What Ford did accomplish on January 5th, 1914 -- when he unilaterally raised workers' salaries from a minimum of $2.34 a day to $5 a day -- was to hugely undermine the tradition of industrial worker exploitation embraced by the robber barons of the late 1800s.

He had several reasons, reducing employee turnover being one of them, but the Earth-shaker was, "So they can afford to buy my cars." Ford wanted more customers, and to get them he needed a bigger pool of Americans with discretionary income: that group called "the middle class." To get that -- in a leap of thought -- he was willing to reduce worker exploitation to sell more cars.

Coming from a noted union-hater, Ford's action and reasoning crystallized a new concept in the distribution of wealth, a concept that would have lacked the same credibility coming from workers or unions. In fact it was so radical one commentator observed that even the Wobblies were momentarily stunned into silence.

It wouldn't last long. In 1929, the combination of financial fraud and folly knocked the workers back into the mud, putting a temporary end to the growth of the middle class.

Whether Federal intervention or World War II (or neither) ended the Great Depression is a moot point; what WWII did do, we are assured by people who lived through it, was "pull the country together" in a way that had not been seen before or since.

Out of that heady atmosphere of cooperation and technical advance came streamlined cars, air conditioning, television, a housing boom, and the GI Bill sending blue-collar workers off to college in unprecedented numbers. By the mid-1950s, Ford's personal dream was realized, because there were a hell of a lot of Americans who could afford to buy a car. The radical idea Ford articulated had become a covenant -- and there was so much new wealth that the rich hardly seemed to object that much of it was going to the growing middle class.

Where the slide started is arguable. If it didn't start with the war in Vietnam, it unquestionably did by the early 1980s, when big business received both tacit and blatant messages from Washington that they could flout Federal regulations with relative impunity.

At the same time there were increases in manufacturing and wholesaling efficiency, more outsourcing of work offshore (now called "globalization"), and the probably-unexpected bonus that women entering the workforce would allow businesses to pay everyone less. The covenant was eroding, and by the mid-1980s the middle class was beginning to need two incomes per family to stay middle class.

So one could point the finger at the manufacturing sector for beginning to chew away at the gains of the middle class. But it would be Big Finance that was destined to bring us to the Great Recession, leading off with the 1980s Wall Street "bonfire of the vanities," hitting the news with the fall of Drexel Burnham, and creating the first widespread bank crisis since the Great Depression in the form of the late 1980s savings and loan crisis. With too few executives going to jail in the S&L crisis, the financial sector retained its chutzpah, and opened the road to ruin in 1999 by lobbying through the gutting of the 1933 Glass-Steagall Act -- a law that among other things limited the relationship between Big Finance and local banking.

It is worth a brief detour here to consider the fundamental difference between producers and financial people. Producers need customers who buy goods and services. Financial people don't, exactly; they live on taking a slice of transactions between producers and customers. One might call a mortgage a real product, but it's not -- it's an enabler to the real transaction, the real transaction being where the producer (home builder) sells a home to the customer.

Psychologically this means there is a huge gulf between producer and financier. The first produces or delivers a more-or-less real thing for real people. The latter takes a slice of the financial pie as it flies by; the psychology is all "take" and no "make." (And local banking stands somewhere in between -- not exactly producing, but providing some services of actual value such as checking accounts.)

This is not to suggest that producers are without sin. A day never passes without news of tainted food, poisoned water, phony shortages, exploding cars, or carcinogenic drugs. Likewise there is no hard-and-fast line between business models. Automakers have become hugely dependent on financing. Major telephone companies and cable networks seem to focus more on selling contracts than providing service.

But at the end of the day, good or bad product, sterling or shoddy service, the producer has to sell their product or service, or they go bankrupt. Further, they have a limited market to sell it to. Shoe companies with $100 sports shoes cannot sell them in the Third World; they need customers with $100 in discretionary income.

Producers are also more accountable. Ford Motor Co. is by most reckoning on track towards a level of reliability that rivals Honda -- but they have to sell those cars to an audience where some are old enough to remember Ford Pintos exploding into flames when rear-ended. Telcos stand tall in their arrogance towards customers, yet AT&T has become known for inferior cellular connections, and they are paying the price as customers ranging from individual consumers to Apple Computer vote with their feet.

Big Finance is more fluid than producers in its "product packaging," as Wall Street demonstrated by selling the worthless dregs of subprime mortgages (ersatz goods) not only to Deutsche Bank, but to the investment funds of small Norwegian towns.

Big Finance is also more nimble. While Wall Street financiers don't have the physical mobility of boiler-room online fraud operations, they don't have factories tying them down either. The executive who can no longer find buyers for CDOs can freely move into selling bison ranching shares or tulip bulb futures to buyers from Kansas to Kenya.

The bottom line is that by any sane person's reckoning, the question "Who caused the Great Recession?" leads to the financial sector -- and the certainty that, left to themselves, the financial sector will "do it again" -- and again and again, leaving nothing of the covenant that "the rich shall allow the middle class a passably decent lifestyle."

So regardless of their individual politics, middle class Americans who want to remain middle class should make note of the fundamental difference between producers and big finance, and accept -- or insist -- that Big Finance once again be closely regulated at the Federal level. Because no matter how it is packaged, the combination of deregulation and lax regulation means "no rules" for Big Finance -- and that doesn't bode well for the remnants of the middle class.