American Wage Stagnation—Posner

Between 1997 and 2008, median U.S. household income fell by 4 percent after adjustment for inflation. It presumably did not rise in 2009, and may not in 2010 either. A median is not an average; average income rose because the incomes of high earners rose, and so the effect was to increase the inequality of the income distribution.

 

Three factors appear to have contributed significantly to this trend. One is the continuing increase in the returns to IQ and education as the United States shifts to a highly automated economy; another was and is the historically unprecedented revenue of the finance industry during this period, much of it received by financial executives in the form of very high incomes; and third is the steep increase in premiums for employer-provided health insurance: the increase was almost 80 percent between 2000 and 2009. Much of this is nominally paid by the employer, but because it is a cost of labor it substitutes for wage increases and so holds wages down.

 

There is no reason to think these trends will not continue; and until unemployment falls to a normal level, it is hard to see what might work to overcome the trends if they do continue.

 

In considering the effect of wage stagnation and growing income inequality, it is important to distinguish between money income and standard of living. As long as the quality of goods and services increases (largely because of technological innovation in a broad sense that includes new business methods as well as scientific and engineering progress) faster than their cost, the standard of living will rise even if incomes do not. The quality of health care continues increasing rapidly, and part at least of the rapid rise in health insurance premiums is payment for that increased quality. The quality-adjusted cost of consumer electronics has plummeted in the same period.

 

But even if the standard of living has increased for most people whose incomes have not risen, or have even fallen, this would not alleviate the growing political problems that wage stagnation and the resulting increase in economic quality are likely to create, if they haven’t done so already. People take for granted most improvements in goods and services, and do not consider the improvements to be full compensation for a flat or declining income. Then too liquidity constraints may exclude people from access to many of the improvements; this is a problem for many people who cannot afford health insurance.

 

Economic anxiety arising from wage stagnation was masked until the fall of 2008 by the Federal Reserve’s low interest rate policies; people could borrow cheaply to maintain and even increase their consumption. Now they realize they are overindebted and cannot continue to support consumption by borrowing.

 

Economic anxiety can produce dire economic consequences by increasing the demand for trade protection, for restrictions on immigration, for union protections, for other anticompetitive measures, and for government subsidies; it can also create class resentment, and thus lead to inefficient regulatory policies, as we may be seeing with proposals to “rein in” the “greedy” banks. One reason I continue to believe that what we have gone through in the last two years is a depression and not a mere recession is that it has raised economic anxiety to a politically dangerous peak. I regard the “tea party” movement as rooted in a widespread sense (not limited to those who identify with the movement) that something is seriously wrong with the country.

 

My analysis suggests that measures to reduce income inequality, especially measures that raise the median household income (as distinct from reducing inequality by leveling down the incomes of the well off, which would have serious disincentive effects), could increase economic efficiency by reducing political pressures for inefficient policies. That was the rationale for “socialist measures,” beginning with Bismarck, designed to secure capitalism against communism and other radical political ideologies. And the measures worked!

 

The problem is that the social safety net has become too expensive to be expanded further without jeopardizing the nation’s solvency, given our huge and growing public debt. The only measures that would address wage stagnation without increasing our public indebtedness further would be subsidies that could be realistically defended as profitable investments in human capital (such as public subvention of college tuition), and essentially costless regulatory changes such as eliminating the tax subsidy for employer-provided health benefits, eliminating or at least reducing many other tax subsidies, instituting means testing for Medicare and Social Security benefits, relaxing certain safety and environmental laws to reduce costs to businesses, weakening teachers’ unions and other public employee unions and reducing the number of public employees, further privatization of public services, reducing tariff barriers, and allowing greater immigration of highly skilled workers.

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