What’s the Solution to Middle-Class Stagnation?

Economists have considered the implications of building more housing, raising taxes on the rich, expanding unions, and reducing social safety nets. Is there an answer we haven’t considered yet?

A&Q is a special series that inverts the classic Q&A, taking some of the most frequently posed solutions to pressing matters of policy and exploring their complexity.

One of the underlying themes of the tumultuous presidential election is that middle-class Americans feel like they’re stuck in a rut.

Indeed, U.S. workers’ share of national income has been shrinking since the late 1990s (meaning that more of it than ever is going to the top 1 percent), and average annual income growth in the United States for the “bottom” 90 percent has been negative for the last two decades. What can America do to save its middle class?

ANSWER

For many families, the cost that’s crushing their budgets is their homes. So let’s build more housing to bring down the cost of real estate.

QUESTION

What can be done to get all those homes built?

The richest cities hold few homes within reach for middle-class families. Meanwhile, many of the cities with affordable homes don’t have a record of upward mobility for its residents. In fact, rich liberal cities have the worst affordability crises. One fix for America’s stagnant middle class would be to build more homes—apartment buildings, really—in rich metropolitan areas, so that more middle class families could benefit from the wealth clustered in these cities.

The case for building more urban and urban-lite homes in the United States is very strong. But housing policy is set at the local level, so it’s hard to imagine a successful national campaign to relax zoning and combat NIMBYism across the country. Second, maybe the reason so many families move to the suburbs isn’t just that city life is too expensive, but also that they just prefer the suburbs. Building apartment buildings that middle-aged families don’t want to live in won’t help the middle class very much.

So if the costs that families face can’t be easily reduced, perhaps the right thing is to figure out how to get them more money, which is to say ...

ANSWER

The government ought to just raise taxes on the rich to redistribute more income to the poor.

QUESTION

The simplicity of this approach is appealing, but what will this do to worker productivity?

A family’s income comes from two places: market wages and government transfers. Therefore, there are two ways to raise a family’s wage: more money from wages or more money from the government. Although politicians and wonks love to promise that their budget plans will raise annual GDP growth to 4 percent or 5 percent, the reality is that economics in a global system is complicated. It’s very difficult to know how a certain mix of taxes and spending will affect wage growth. There is a more straightforward solution to giving middle class Americans a raise: The government gives them more money.

Expanding the Earned Income Tax Credit or establishing a kind of minimum-basic income would, without a question, be the surest and simplest way of raising after-tax incomes for most Americans. But besides being politically daunting to come up with the money, it also wouldn’t solve the underlying problem: productivity growth. You can give every American household a one-time raise of $5,000. But what then? If incomes still don’t grow at an annual rate, you’ll eventually face the same crisis of stagnating wages, albeit from a higher level. Long-term economic growth is all about productivity growth.

That’s why some economists suggest that, to make people work harder, we shouldn’t give them any more money from the government. In fact, we should do the opposite.

ANSWER

Okay, so we should reduce the size of the social safety net.

QUESTION

Returning government policy to the early 20th century might force more people to work longer hours, but is that really what we want for the middle class?

Many budget proposals from conservative politicians dramatically reduce the size of government spending, particularly on the poor. Too much government support, they argue, is a disincentive to work. As eligibility requirements have loosened for programs like Social Security Disability Insurance, the share of working men has declined. Economists like Casey Mulligan have argued that a strong safety net hurts the very people it is intended to help.

If the point of economic policy were exclusively to encourage as many people as possible to work as much as possible, it might be advisable to do away with the social safety net entirely. But that’s not the point. Rich countries are rich enough to help its citizens live good lives, and living well isn’t about working as hard as possible. A thriving rich economy should have a high rate of worker participation, but it should also have certain government protections in the event of poverty or sickness. Those government protections, too, are an intrinsic part of a safe and prosperous middle class.

Perhaps the real solution to middle-class woes isn’t to reorganize government, but to re-organize workers.

ANSWER

So let’s bring back unions.

QUESTION

Promoting organized labor might be a fine idea if people actually want to belong to unions. But do 21st-century workers want to adopt a 20th-century approach to work?

There is very little question that the golden age of union membership was the golden age of the middle class in America. Since the 1960s, both unions and the American middle have been suffering.

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Union Membership vs. Middle Class Shares of Income

(Center for American Progress Action Fund)

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But perhaps the real story isn't the decline of labor causing the decline of the middle class. It’s technology and globalization causing the decline of both. As economists Emin M. Dinlersoz and Jeremy Greenwood have pointed out, in the early 20th century, demand grew for unskilled workers in factories. This was the perfect condition for unionizing—a homogenous group of unskilled laborers whose professional interests naturally coincided. But more recently, globalization and automation have destroyed many manufacturing jobs. These workers have moved into industries where work is more skilled, less routine, and more diverse. Such workers seem less interested in pooling their outcomes with dissimilar colleagues.

It’s also notable that unions thrived in an economy with less globalization and no Internet, where corporations and consumers didn’t have so many low-price options. The 20th century was the heyday of workers, but the 21st century belongs to consumers. In a global market, most shoppers might not pay the higher prices that come with more expensive labor. For example, the two most important stories in retail in the last 30 years are arguably Walmart and Amazon, both of which are seen as low-paying employers with labor-replacing business models.

If the decline of the American middle class is more about global changes than internal labor dynamics, then perhaps America should try out more protectionism, meaning ...

ANSWER

Time to repeal NAFTA.

QUESTION

Trade with Mexico hasn’t helped the average American worker, but would unwinding NAFTA really do much good?

Many left-wing writers and economists blame the North American Free Trade Agreement for opening up American workers to the whims of the global labor market, which has sucked out jobs and sapped wage growth. The result of NAFTA “has been 20 years of stagnant wages and the upward redistribution of income, wealth and political power,” writes Jeff Faux at the Economic Policy Institute. But although NAFTA is a popular boogieman, the truth is that its effect on the U.S. labor force is consistently overrated. Some back-of-envelope math from economist Brad Delong estimates that NAFTA may have cost the United State 350,000 jobs since the agreement in 1994. That’s something! But it’s 0.25 percent of the labor force, and most economists agree that the trade deal has created significantly more jobs for Mexico and made Mexicans richer, which (despite what you might hear from a certain frontrunner) isn’t a bad thing. Meanwhile, many policies given scarce national attention, like occupational licensing barring workers from certain fields, matter more for the outcome of middle-class workers. If policy makers really want to help the middle class, they should focus on the most important levers of economic growth—those strong enough to counteract the effects of trade policy. And perhaps none is more important than monetary policy.

ANSWER

So the answer is to use the Federal Reserve to keep interest rates extremely low, or even negative.

QUESTION

Aggressive monetary policy has helped the U.S. avoid another Great Depression, but what has it done for wage growth in the last few years?

Although it doesn’t get as much credit or media attention as globalization, robots, unions, or taxes, monetary policy might be the most important economic tool that American policy makers actually control. Without the Federal Reserve’s ultra-low interest rates and quantitative easing policies (in which the bank injected money into a frozen banking system), the last recession would have been much worse. So it’s natural to look to the Federal Reserve for help when we’re thinking about how to get middle class incomes growing at a faster clip.

The problem is that the Federal Reserve’s effect on the labor market is indirect. Low interest rates and quantitative easing have had a large and observable effect on things like asset prices and the stock market (which has soared since 2009) and on mortgage rates (which have been historically low). Although monetary policy is monumentally important, it is not magical.

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Looking ahead, there are many more big questions about whether the U.S. can ever regain the widespread prosperity it saw during the post-war period.

How will new technologies change the fortunes of the middle class, positively or negatively, like automation replacing common low-income jobs, like cashiers, salespeople, or drivers?

Would raising high-skill immigration help, by bringing educated immigrants who are more likely to start new companies, or would workers revolt for fear that more immigrants would push down wages for the white-collar jobs they’re moving here to do?

Also, I haven’t mentioned education: Would investing in universal pre-K or subsidized community college education yield a smarter, more productive workforce?