The Price of Inequality (part 2)

December 12, 2012

Previous | Next

The previous post summarized Joseph Stiglitz’s discussion of the market inefficiencies that allow more inequality than is necessary to reward productive activity. In any free market, some will be more successful than others; the problem is that the winners can win in ways that erect barriers to the success of others, or impose costs on the rest of society, or take advantage of privileged access to information. The excessive inequality that results then undermines social mobility, aggregate demand, investment in public goods, and economic growth in general. Contrary to the view that less government is always better economics, Stiglitz sees an essential role for government in keeping markets fair and efficient, countering tendencies toward excessive inequality, and encouraging economic growth for the benefit of all.

In general, the policies that Stiglitz recommends flow naturally from his understanding of market inefficiencies and limitations. Where markets allow companies to capture private benefits while evading responsibility for social costs (such as environmental damage), government can restore the balance with taxes and regulation, and make sure that producers pay a fair price for access to public resources (such as oil on federal lands). Where markets tend to give unearned benefits to those with inside information (such as bankers who know that some of the securities they market have been designed to fail), government can insist on regulated exchanges with greater transparency. Where markets underinvest in public goods, government can specialize in the creation of public goods. Where markets leave a large segment of society too poor to afford the products that they offer, government can use progressive taxation and spending to stimulate aggregate demand. Where markets erect barriers to upward mobility, government can provide better access to education and health care, as well as “active labor market policies” to help workers transition to occupations in which their labor is needed. It can also impose estate taxes to keep the children of the rich from enjoying large unearned advantages over other children.

All of these things are easier said than done, for the simple reason that the same inequalities that distort the economy also distort the political process, undermining government’s ability to address the inequalities. Stiglitz calls this an “adverse dynamic” or “vicious circle,” a self-amplifying feedback loop perpetuating and strengthening social inequality.

As the wealthy get wealthier, they have more to lose from attempts to restrict rent seeking and redistribute income in order to create a fairer economy, and they have more resources with which to resist such attempts. It might seem
strange that as inequality has increased we have been doing less to diminish its impact, but it’s what one might have expected. It’s certainly what one sees around the world: the more egalitarian societies work harder to preserve their social cohesion; in the more unequal societies, government policies and other institutions tend to foster the persistence of inequality. This pattern has been well documented.

Economic elites use a variety of tactics to tilt the political playing field in their favor. They employ lobbyists to make their case, and gain access to politicians with large campaign contributions (minimally regulated thanks to recent Supreme Court decisions). They “use their political influence to get people appointed to the regulatory agencies who are sympathetic to their perspectives,” so-called “regulatory capture.” In the global economy, capital can flow toward countries with the most permissive tax and regulatory policies, and international bankers have enormous power over countries that rely on foreign capital. “If the country doesn’t do what the financial markets like, they threaten to downgrade the ratings, to pull out their money, to raise interest rates; the threats are usually effective.”

In a nominally democratic country like the United States, ordinary people can theoretically outvote the wealthy. Much of Stiglitz’s political discussion concerns the question of why they don’t do so more often, that is, why people frequently vote against their own economic self-interest. Here he draws heavily on behavioral economics, which tries to understand “how people actually behave–rather than how they would behave if, for instance, they had access to perfect information and made efficient use of it in their attempts to reach their goals, which they themselves understood well.” Economic elites benefit from the fact that “many, if not most, Americans possess a limited understanding of the nature of the inequality in our society: They believe that there is less inequality than there is, they underestimate its adverse economic effects, they underestimate the ability of government to do anything about it, and they overestimate the costs of taking action.” In addition, the wealthy use their economic power to market their ideas, cleverly framing policies that benefit the few to make them appear beneficial to all. Weapons programs that profit defense contractors are always described as good for the economy, while the same amount to protect the environment is just “wasteful government spending.”

The media play a crucial role here, either performing a public mission of informing the citizenry, or just presenting whatever programing brings in the most advertising revenue, including political advertising revenue. In the US, not surprisingly, the media underperform their public mission, leaving citizens at the mercy of the advertisers with the deepest pockets. Stiglitz sees this as another example of rent-seeking: The media get an unearned private benefit from free access to a public resource, then use it in a way that produces private profit at the expense of democratic discourse. “The public owns the airwaves that the TV stations use. Rather than giving these away to the TV stations without restriction–a blatant form of corporate welfare–we should sell access to them; and we could sell it with the condition that a certain amount of airtime be made available for campaign advertising.” If the public is too often misinformed, manipulated, and alienated from a political process that doesn’t represent them very well, that works to the advantage of the economically powerful: “If voters have to be induced to vote because they are disillusioned, it becomes expensive to turn out the vote; the more disillusioned they are, the more it costs. But the more money that is required, the more power that the moneyed interests wield.”

The result of this distorted democracy is that legislation to serve the public interest is extremely difficult to pass. The government is prohibited from bargaining with pharmaceutical companies over the price of prescription drugs, costing the taxpayers an estimated $50 billion a year. Banks have succeeded in blocking most regulations intended to protect student borrowers from fraudulent educational programs, as well as most state laws intended to curb predatory lending. Patent law protects the interests of large corporations and their lawyers, but allows them to “trespass on the intellectual property rights of smaller ones almost with impunity.” Corporate executives who perpetrate fraud are rarely penalized personally for doing so. The recent housing crisis revealed that the foreclosure laws make it easy for banks to foreclose without actually proving that homeowners owe the amounts claimed. And on and on.

The biggest battle over public perceptions is fought over the role of government in the economy, over the Reagan question of whether government is the solution to economic difficulties or government is the problem. Since the Reagan years, conservatives have had great success convincing politicians, the media, and much of the general public that conservative fiscal and monetary policies are good for the economy, even if they favor the wealthy and aggravate inequality. In fiscal policy, the conservative approach is to tax and spend less; this is supposed to help the economy by freeing up capital for private investment. (Conservatives often support increases in military spending, however, which in combination with tax cuts produce large deficits.) Stiglitz acknowledges that constraints on taxes and spending might make sense under some conditions: “Of course, when the economy is at full employment, more government spending won’t increase GDP. It has to crowd out other spending….But these experiences are irrelevant…when unemployment is high (and it’s likely to be high for years to come) and when the Fed has committed itself to not increasing interest rates in response.” Under these conditions, government can borrow cheaply and spend with great economic effect, increasing the size of the pie for all.

The government could borrow today to invest in its future— for example, ensuring quality education for poor and middle-class Americans and developing technologies that increase the demand for America’s skilled labor force, and
simultaneously protect the environment. These high-return investments would improve the country’s balance sheet (which looks simultaneously at assets and liabilities) and yield a return more than adequate to repay the very low interest at which the country can borrow. All good businesses borrow to finance expansion. And if they have high-return investments, and face low costs of capital— as the United States does today— they borrow liberally.

Stiglitz maintains that government spending can help the economy even if it is balanced by higher taxes to avoid increasing the deficit:

There is another strategy that can stimulate the economy, even if there is an insistence that the deficit now not increase; it is based on a long-standing principle called the balanced-budget multiplier. If the government simultaneously increases taxes and increases expenditure— so that the current deficit remains unchanged— the economy is stimulated. Of course, the taxes by themselves dampen the economy, but the expenditures stimulate it. The analysis shows unambiguously that the stimulative effect is considerably greater than the contractionary effect. If the tax and expenditure increases are chosen carefully, the increase in GDP can be two to three times the increase in spending.

That means that by insisting on low taxes for the wealthy and low spending on public goods, the economically powerful and their political allies are putting private gain before the public good. They are not only promoting social inequality, but they are impeding rather than facilitating economic growth.

Stiglitz is also a long-time critic of conventional monetary policy, as practiced by the Federal Reserve, the European Central Bank and the International Monetary Fund. He believes that the so-called “independent” central banks have been captured by the financial sector, so that they serve private rather than public interests. Their main focus has been on fighting inflation, a policy that has the greatest benefit for wealthy lenders (since they have the most to lose if loans are repaid in devalued currency). Central banks tend to raise interest rates too quickly during an economic expansion, cooling the economy and maintaining unemployment at an unnecessarily high level. On the other hand, in the Great Recession governments have relied on expansionary monetary policy, pumping more capital into the system by lending banks money at near-zero rates. This is less effective than an expansionary fiscal policy, since the problem is not so much a lack of capital as a lack of spending. But it’s a sweet deal for banks, who get money so cheaply that they can make a good profit even from very low-risk investments like treasury bonds, and are not required to invest it in productive enterprises or housing loans. Cheap capital also encourages companies to finance labor-saving equipment instead of employing more workers, contributing to a jobless recovery.

Stiglitz describes a system so tilted in favor of the rich as to leave the reader pessimistic about finding any way out of the vicious circle of economic and political inequality. In the end, he suggests two general routes to reform. One is that “the 99 percent could come to realize that they have been duped by the 1 percent: that what is in the interest of the 1 percent is not in their interests.” The other is that the 1% themselves come to see beyond their own narrow and short-term self-interest. Although the wealthy have become more and more insulated from the problems experienced by ordinary people, that insulation is not absolute. If the United States were to become as unequal as a Latin American oligarchy, there would be plenty of costs to go around as a result of underutilized human talent and social unrest. Even Brazil, one of the world’s most unequal societies, has been taking steps to alleviate inequality recently. No doubt Stiglitz hopes that books like his can sound the alarm and help change opinions at all levels of American society.

Leave a Comment » | Uncategorized | Tagged: , , , | Permalink
Posted by Ed Steffes

Presidential Debate: Performance vs. Substance

October 5, 2012

Previous | Next

Reactions to Wednesday night’s first presidential debate seem to have reached a general consensus along these lines:

  • Governor Romney’s debate performance was stronger than President Obama’s
  • Many of Romney’s key statements were substantively inaccurate or misleading, but Obama didn’t respond very effectively
  • Performance matters more than substance, and so Romney won the debate

As Rachel Maddow pointed out last night, challengers have usually performed very well in their first debate against incumbent presidents, the most notable exception being Senator Bob Dole’s debate with President Clinton. A common strategy is to attack the president’s policies, which are clearly on the record, while remaining vague enough about one’s own plans to inspire hope–or should I say wishful thinking–among the voters. Mitt Romney has perfected this strategy, and it worked for him pretty well the other night. How much it contributes to useful policy debate is another question. In an earlier post, I quoted Ezra Klein’s remark, “Quite simply, the Romney campaign isn’t adhering to the minimum standards required for a real policy conversation.”

Steve Benen has been serving as a one-man truth squad, reporting on the remarkable number of discrepancies between Romney’s statements and reality as most of us know it. I can’t vouch for every single objection he raises, but he does document his points carefully. Benen’s take on Romney’s debate performance is here.

President Obama was particularly flummoxed by Romney’s denial that he was proposing a $5 trillion tax cut. That figure is based on the analysis of the governor’s proposal by the Tax Policy Center:

This plan would extend the 2001-03 tax cuts, reduce individual income tax rates by 20 percent, eliminate taxation of investment income of most taxpayers (including individuals earning less than $100,000, and married couples earning less than $200,000), eliminate the estate tax, reduce the corporate income tax rate, and repeal the alternative minimum tax (AMT) and the high-income taxes enacted in 2010’s health-reform legislation.

We estimate that these components would reduce revenues by $456 billion in 2015 relative to a current policy baseline. According to statements by Governor Romney and his advisors, the remainder of the plan will include policies to offset this revenue loss, although there are no details on how that would be achieved.

The $5 trillion figure comes from accumulating the annual revenue reductions over ten years (a common practice in fiscal projections) and rounding the result to the nearest trillion. When confronted with this figure, Romney doesn’t try to clarify it or revise it; he just denies it.

If we could agree on at least a ballpark figure for the magnitude of the Romney tax cuts, then we could have a substantive discussion of how to make up that revenue, since he insists that his tax cut will not increase the deficit. One way he can do it is by closing tax “loopholes,” but he refuses to say which deductions he would eliminate. He does claim that eliminating or capping deductions for wealthy taxpayers (incomes over $250,000) will make his proposal revenue neutral for that group. One problem with that is that it undercuts his own argument for cutting taxes in the first place, which is to give “job creators” more money to invest in new jobs. A second problem is that cutting deductions doesn’t make the numbers add up unless you hit very popular ones, such as the charitable deduction and home interest deduction, and also eliminate them for more taxpayers than just the very wealthy.

The other way to offset the big tax cut–and another matter for serious debate if Romney would engage in it–is to create a broader tax base by growing the economy. Romney claims that he will do that, but he provides no details. This is the familiar article of faith among “supply-siders” that tax cuts are always good for the economy, and so they can pay for themselves. The recent record on this is not encouraging, since Republican tax cuts from Ronald Reagan to George W. Bush have created large deficits. Faced with those deficits, Reagan was willing to put taxes back on the table, but recent Republicans have insisted that the budget axe fall entirely on domestic spending. Romney’s running mate, Paul Ryan, is famous for proposing unpopular budget cuts. But Romney avoids talking about such cuts, except for the vague promise to make people less dependent on government, as if throwing them off Medicaid were doing them a favor.

Romney’s wonderful “performance” is like a magic act–It’s mostly sleight-of-hand. He shows us a big tax cut, but if we question how he will pay for it, it suddenly disappears. He’s not really cutting taxes for the wealthy, you see, because he’s closing (unspecified) “loopholes,” and the rest is offset by “growing the economy.” He substitutes the dubious magic of supply-side economics for the inconvenient fact that he has a certain amount of revenue to find. (When Obama tried to bring that up, Romney hit him with the zinger that being President doesn’t give him the right to his own facts–point to Romney if you’re keeping score.) Paul Ryan worked the same magic with his budget plan; he instructed the Congressional Budget Office to assume that his tax cuts were revenue neutral without providing any supporting evidence. (And the CBO still couldn’t find too much deficit reduction in his plan because of his refusal to cut defense spending or allow the Bush tax cuts to expire. He achieved his reputation as a “deficit hawk” just by being tough on domestic spending.)

Whichever candidate won the debate, the American electorate lost. We deserve a serious policy debate; what we got was obfuscation and befuddlement.

Leave a Comment » | Uncategorized | Tagged: , | Permalink
Posted by Ed Steffes

Would Another Tax Cut Help?

October 1, 2012

Previous | Next

One of the biggest disagreements between the presidential candidates is over tax policy. It’s really another episode in the ongoing debate over how best to create jobs and maintain a strong economy. “Supply-siders” recommend low taxes to encourage savings and investment, while Keynesians recommend government spending to boost aggregate demand for goods and services. The government can’t do too much of both at once without running large deficits. Keynesians are explicitly willing to allow deficit spending when combating recessions. Supply-siders more often claim to be deficit “hawks,” but they often run up debt anyway because of their eagerness to cut taxes.

President Obama’s position on taxes is familiar by now. He would keep tax rates the same as they are now, except that he would allow the Bush tax cuts on incomes over $250,000 to expire. He would use part of the additional revenue to support spending intended to create jobs, and part to reduce the deficit. Republicans characterize Obama’s policy as a “job-killing” tax increase. Democrats defend it as just bringing tax rates on the wealthy back up to where they were in the Clinton years, when job growth was actually much stronger than it has been since then.

Governor Romney joins most Republicans in opposing any expiration of the Bush tax cuts. He would also preserve tax breaks that specifically encourage investment, such as low rates on capital gains and municipal bonds. In addition, he proposes another large cut in income tax rates, as well as the complete elimination of estate taxes. He maintains that he can cut taxes without increasing the deficit, for two reasons. First, for incomes over $250,000, the reductions in tax rates would be balanced by the elimination of “loopholes,” so the revenue collected from the wealthy would remain the same. Second, the rate reductions would encourage saving, investment and job-creation, and that would broaden the tax base and generate new revenue. So the idea is to help the economy without aggravating the deficit.

Critics of the Romney plan usually make one or more of these points:

  1. Offsetting rate cuts for the wealthy by closing loopholes is very difficult, perhaps mathematically impossible. Romney refuses to say what deductions he would eliminate, but the independent Tax Policy Center concluded that the eliminations would have to hit less wealthy taxpayers as well in order for the numbers to add up. Political resistance to some of the changes would be strong; for example, the deduction for mortgage interest is important to housing sales and the deduction for charitable contributions is vital to non-profits. This is one reason why the tax cuts are likely to increase the deficit, just as the Bush tax cuts did.
  2. Although the assumption that tax cuts generate economic growth is an article of faith for supply-siders, the evidence for it is weak. Testing it properly would require cutting taxes while holding other factors constant–especially spending–but that’s not what governments in recent memory have done. Ronald Reagan and George W. Bush both cut taxes, but they also increased military spending and ran big deficits; job growth was good for Reagan but poor for Bush. Job growth was even better during the 1950s and 60s when taxes were higher, as well as during the Clinton administration, as mentioned earlier. Overall, researchers have found little correlation between rates of taxation and rates of economic growth. If the Romney tax cuts turned out to be no more successful than the Bush tax cuts in expanding the economy, then that’s another reason why they might just aggravate the deficit.
  3. Even if we assume that another tax cut could pay for itself by creating jobs and broadening the tax base, the existing deficit would remain an issue. If the Romney tax cut turned out to be revenue neutral at best, and the Republicans continued their refusal to reduce military spending, then the entire burden of reducing the deficit would fall on domestic spending. That is essentially the Ryan budget plan. The trouble with that is that cuts in domestic spending destroy jobs, both the jobs of government employees and those of private workers whose work (such as road construction) doesn’t get funded. Economists such as Mark Zandi of Moody Analytics calculate that each dollar spent by the government has a larger multiplier effect on economic activity than each dollar reduction in taxes. For that reason, the Economic Policy Institute estimates that job creation would be much weaker under Romney’s plan than under President Obama’s plan (considering both his tax increase on the wealthy and his American Jobs Act).

A positive effect of another tax cut on the economy is not out of the question. But the benefits seem dubious, and the risks of higher deficits or more jobs destroyed seem very high.

Leave a Comment » | Uncategorized | Tagged: , | Permalink
Posted by Ed Steffes

The Servant Economy (part 2)

September 14, 2012

Previous | Next

My last post about Jeff Faux’s The Servant Economy presented a prolog to the main story. It described the rise of a strong manufacturing-based economy with a thriving middle class in the mid-20th century. But most of the book concerns the decline of that economy and its replacement by one that seems unable to create wealth for as many of our people. Since 1979, two-thirds of all the income gains in the U.S. have gone to the richest 10% of the population, compared to only one-third in the previous three decades. Real wages and benefits for non-supervisory workers rose 75% between 1947 and 1973, but less than 4% between 1979 and 2005. Median household income continued to rise slowly, but that was mainly because so many households sent more than one worker into the labor force. The other way that households got ahead was by going more deeply into debt, especially because of the high cost of health care, education and housing. In 1970, it took the average worker 41.5 hours to earn enough to make the monthly payment on an average-priced house; in 2000, it took 67.4 hours.

Between 1980 and 2006, the manufacturing sector declined from 21% to 12% of GDP, as jobs were automated or offshored. The mirror image of that decline was the rise of the financial sector from 12% to 20% of GDP. “Finance replaced manufacturing as the driving force of the American economy.” And what did bankers and investors choose to finance? Massive amounts of consumer debt, for one thing. Leveraged buyouts of existing companies from which short-term profits could be extracted by cutting wages or selling off assets, for another. And speculative bets on future asset prices, such as the housing bubble. The financial sector became both more powerful and less connected with the production of real wealth. Why bother with the long-term risk of investing in new products, let alone new industries like clean energy, when you can see so many ways of making a quick and easy buck?

In theory, the flow of capital toward cheaper foreign labor was supposed to benefit everybody. Countries with less-skilled populations could assemble manufactured goods at the lowest cost, providing jobs there and inexpensive goods for consumers around the world. Countries like the United States would keep more of the higher paying jobs requiring more education and training. It hasn’t quite worked out that way. As economist Alan Blinder pointed out, any task that can be done with a computer can be done anywhere, and large countries like India are rapidly  producing educated workers. The CEO of Intel said that “Intel can thrive today and never hire another American.” So what kinds of jobs are we creating? Primarily personal service jobs, since they are hardest to export. Most of the rapidly growing service occupations–like restaurant workers, retail salespeople, and home health care aides–are fairly low in educational requirements and pay. Rich people can afford to hire maids, nannies, gardeners, and fitness coaches. Busy middle-class families may want more hired help too, but will be unwilling or unable to pay very much for it. Of course, good jobs remain in professional services, but many of those depend directly or indirectly on public funding. (Faux doesn’t make this point, but private capital investment in health and educational services is limited by the fact that the individuals needing the service often can’t afford to pay for it personally. Development and maintenance of our human capital is something we agree to do together.) Getting a good education may be necessary to get a good job, but it’s not sufficient unless the country is investing in the tasks that make use of that education. In general, private capital investment decisions are tending to create manufacturing economies overseas and a “servant economy” at home.

Much of Faux’s book tells how the nation’s political governing class–Republicans and Democrats alike–encouraged or acquiesced in the creation of the servant economy. To put it most simply, they sacrificed the economic vitality of the middle class for other priorities, especially protection of unregulated capitalism and maintenance of the world’s largest military establishment. Faux tells the political story of the last half-century mainly as a series of policy mistakes.

Lyndon Johnson’s decision not to raise taxes to pay for the unpopular Vietnam War increased inflation and weakened foreign confidence in the dollar, as did the growing excess of imports over exports in the 1970s. With the price of gold rising, the Nixon administration had to stop redeeming dollars for gold and devalue the dollar. Oil-producing nations responded by curtailing production in order to boost the price of oil. President Carter’s Chairman of the Federal Reserve, Paul Volcker, fought inflation by raising interest rates and slowing the economy, but the initial result was “stagflation,” a combination of inflation and recession. The energy crisis and trade deficit did encourage some discussion of whether the country needed a new “industrial policy,” but economic conservatives prevailed, and markets were allowed to take their course. Ronald Reagan got elected in 1980 largely by blaming government social spending for inflation. Then he ran up a large deficit of his own by cutting taxes and increasing military spending. He also deregulated the Savings & Loan industry, facilitating the wave of fraud and mismanagement that required a $200 billion taxpayer bailout. Bill Clinton agreed with the Republicans that “the era of big government is over,” and he cooperated with them on cutting spending, adding a work requirement to welfare, deregulating banking, refusing to regulate derivative securities, and encouraging offshore production through free trade agreements. George W. Bush turned the Clinton budget surplus into a new deficit by cutting taxes and increasing military spending, limiting the government’s options for responding to a new economic crisis.

All this set the stage for the speculative housing bubble of the 1980s and the financial crash of 2008. Among the contributing factors were “the 30-year flattening of incomes, which drove consumers to take on more debt in order to keep up with the expanding American dream,” the eagerness of mortgage brokers to make subprime loans at high interest without the traditional banker’s concern about the borrower’s ability to pay, the marketing of financial derivatives rated as low-risk but relying ultimately on shaky mortgages, the corruption of accounting and rating firms by the companies offering the risky securities, and the availability of foreign capital to help finance the boom, due to the trade deficit and the dollars it put into foreign hands. When the bubble burst, U.S. taxpayers had to borrow more money in order to finance a Wall Street bailout.

In Faux’s view, the economic outlook remains gloomy. Both political parties depend heavily on Wall Street for campaign contributions, making new limits on its ability to speculate or move capital overseas unlikely. The U.S. continues to spend almost as much on its military as the rest of the world combined. Reductions in the federal debt will fall most heavily on domestic spending, limiting the country’s capacity to make new investments in infrastructure, energy or education. The main weakness of Faux’s book is that it is more negative than positive, providing little detail about the policies he would like to see. Usually he limits himself to statements like these:

National adjustment to our new condition requires economic redevelopment: improving the basic capacity of the economy to compete in a way that generates rising living standards….The United States is obviously not a third-world country. But its future, like that of a third-world country, depends on its ability to build infrastructures, to educate its people, and to set national priorities….A country’s economic development is a political process as much as an economic one.

The investments that President Obama’s American Recovery and Reinvestment Act made in infrastructure and clean energy are a start, but Faux notes that they had to be marketed as part of a short-term stimulus package to get Congressional approval. We don’t yet have any consensus supporting an expanded role for government in overseeing national economic development.

The most important first step that Faux recommends is a Constitutional amendment to reverse the Citizens United decision, establish that corporations do not have the free-speech rights of persons, and allow strict limits on campaign spending. That would presumably pave the way for a government less under the control of the rich and the financial industry, and more responsive to the rest of society. How that might translate into better American jobs is a question that will occupy policymakers for some time to come.

Leave a Comment » | Uncategorized | Tagged: , , | Permalink
Posted by Ed Steffes

The Servant Economy

September 13, 2012

Previous | Next

Jeff Faux. The Servant Economy: Where America’s Elite Is Sending the Middle Class (Wiley, 2012).

This book is a rather grim assessment of recent economic trends. Faux is an economist and founder of the Economic Policy Institute. He believes that our economic problems go much deeper than the recent recession. We’ve been on the wrong track for about the last 30 years, as evidenced by stagnating real incomes, heavy reliance on debt, and increasing inequality. The economy has been losing good middle-class jobs, and replacing too many of them with low-wage service jobs. These developments were avoidable, and they may still be corrected, but we have come so far down the wrong road that finding a better path won’t be easy.

Faux is no fan of the “rising-tide” or “up-by-the-bootstrap” optimism that often pervades economic discussions. He agrees with Barbara Ehrenreich (Bright-Sided: How Positive Thinking Is Undermining America) that compulsory individual cheerfulness can discourage us from dealing with our social problems. He reports a recent poll showing that the number of Americans expecting to be well off in five years exceeds the number who are actually well off by a factor of three. Upward mobility through individual effort is our standard solution to any economic problem, despite studies showing that it is now less likely in the United States than in other advanced democracies (It’s most likely in Norway, Finland and Denmark). Nor does Faux place his faith in market mechanisms alone to generate favorable outcomes. He believes that we got to where we are through economic mismanagement, and going somewhere else will require some serious changes in policy.

In Chapter 2, Faux provides some historical background on the U.S. economy, calling attention to what made it so strong in the mid-20th century before the condition of the middle class started deteriorating. The country had started out with a number of advantages: a large, sparsely populated continent protected by two oceans from other powerful countries; some of the world’s most productive land; and the prospect of upward mobility through westward expansion. But after the frontier became largely closed late in the 19th century, the country experienced a “struggle for a new social contract between labor and capital that fit the urban experience.” Jefferson’s vision of a land of independent farmers was now obsolete. In the booming industrial cities, large-scale immigration, corporate concentration of power, and anti-union policies kept wages from rising as fast as worker productivity. Despite extreme inequality, standards of living did rise for most people as American manufacturing expanded, aided by high tariffs on imports and an aggressive foreign policy to gain access to foreign markets.

By the 1920s, the need for mass consumption to support mass-production manufacturing was clear. Advertising and buying on credit expanded in order to stimulate consumption. The experience of the Great Depression encouraged the Keynesian idea that high wages are actually good for business in a mass-consumption economy, and that government spending can stimulate the economy in times of low aggregate demand. Government began protecting the collective bargaining rights of workers and shoring up incomes with measures such as Social Security. It also practiced “military Keynesianism,” concentrating much of its spending on national defense, broadly defined to include initiatives like interstate highway construction, funding for science education, and space exploration. Innovations from jet engines to transistors and computers emerged from the collaboration between big business and big government. Foreign policy continued to promote business interests, as when the U.S. supported undemocratic regimes that provided easy access to their country’s markets and raw materials, most notably cheap Middle-Eastern oil.

In addition to Keynesian economics and permanently high levels of military spending, a third factor supported the U.S. economy during the postwar boom. That was the strong dollar, the foundation of the new international monetary system accepted by 44 nations at the 1944 Bretton Woods conference. The U.S. would redeem dollars held by foreign central banks at the fixed price of $35 per ounce of gold. “Dollars were now as good as gold, and the world had a source of credit to grow on.” In theory–and for a long time in fact–the dollar would hold its value even as the supply of dollars expanded, making it easier for Americans to buy assets in other countries cheaply.

These are the factors that Faux associates with the rapid expansion of the middle class after World War II. Between 1947 and 1973, real median household income more than doubled, rising an average of 3% per year. Workers with good manufacturing jobs joined the middle class, and the distribution of wealth and income became at least a little more egalitarian.

In my next post, I’ll discuss Faux’s account of what has gone wrong since the 1970s.

1 Comment | Uncategorized | Tagged: , , , | Permalink
Posted by Ed Steffes

« Previous Entries
Next Entries »