Steve Pearlstein seems to have taken on the role of mouthpiece for the left-of-center Washington consensus in his last op-ed, in which he declares the current “recovery” not only sustainable, but so robust in fact that it is now time to start making serious budget cuts. Among other things, he slams the disgruntled left for being irrational in its belief that the stimulus was insufficient and that depression conditions persist.
But is he right? Let us look at the evidence: is the recovery really that strong, and can it last without major government action?
First of all, note that “recovery” is quite a misnomer, bordering on the Orwellian, when describing a situation where 95% of households are still seeing their incomes fall. Median household incomes are down 10% since 2007 and still falling. Wages are falling across the board, even up to the 95th income percentile. Inequality expert Saez’s latest study shows 93% of the gains from growth in 2010 going to the top 1% richest households, a tendency unlikely to abate as long as unemployment stays high thus pushing wages down. The positive trends that are visible, like GDP growth and payrolls expanding marginally faster than population growth, don’t amount to a real recovery for most families, but are at best leading indicators of such a possible future recovery. The hope is that, if GDP growth can be sustained for long enough, rising employment will lead to tightening labor markets where workers will be in a better bargaining position to demand raises and where we’ll then get real wage growth.
So even though Pearlstein may be overstating the strength of the recovery, may he not be right that middle class families should be patient, and that the recovery will eventually come to them?
This brings us to the question: at the current rate of growth/job creation, when will the real recovery for ordinary americans begin? When will they start to see real wage growth?
To answer this question we need to know how tight labor markets need to be – i.e. how low unemployment has to go – before middle-class wages start rising. If you look at median wage trends as compared to the unemployment rate over the last twenty years, you see that wages start rising when the unemployment rate falls to six percent, and wages start falling when unemployment rises above six percent.* So, on this model, the recovery will start to benefit ordinary families when unemployment falls to six percent. If we use the Atlanta Fed’s jobs calculator, at the current rate of job creation (160,000 a month):
And that is if the ‘recovery’ even lasts that long. A big ‘if’. Can the recovery be sustained long enough for wages to stabilize, much less recover to the rather modest levels at the depths of the recession in 2009? Consider that the only post-war period of growth longer than seven years was the Internet boom of the nineties, and that was sustained thanks to the positive feedback loop of (i) rising wages causing (ii) rising demand causing (iii) rising business investment causing (iv) rising productivity, feeding back into … (i) rising wages. Can the current business cycle match that performance?
The problem with the current recovery is that all the extra income is going to the top 1%. All of it. And whereas rising middle-class wages lead to a proportional rise in consumption, rising incomes for the rich just gets socked away. In the current econ-jargon, the rich have a much lower ‘marginal propensity to consume’. Middle class families will spend eighty percent of their income whereas the top one percent tend to spend little more than half of their income.** This means that the usual multiplier effect whereby investment activity raises consumption by several multiples breaks down when returns are so unequally (and inequitably) distributed. The positive feedback loop of rising income leading to rising demand and thereby rising investment breaks down and the metaphorical ‘engine of growth’ stalls.
But maybe even the low investment multiplier given the current trickle-up economy may be enough to keep that income-investment feedback engine going, albeit at low rpms. Is that what is happening? Maybe not. Right now investment in machinery and other capital goods – a proxy for broader business investment trends – is falling rapidly. And it’s falling despite the fact that industrial capacity hadn’t even recovered to pre-recession levels. Of course, that may just be a temporary blip, but it is a worrying piece of evidence that the recovery might be in danger of faltering. Not only is the income-investment feedback loop not accelerating, it may already be reversing.
So given current trends, an optimistic forecast has the middle class starting to recover only in 2016 and a less optimistic forecast has the recovery stalling this year unless further action is taken. Pearlstein – and the Washington consensus he represents – is far too sanguine in declaring the conservative Obama stimulus policy a success, and downright irresponsible in rejecting left-wing criticism as ‘irrational’ and ‘ideologically motivated’. More should have been done over the last three years, and more needs to be done now.
* (You can see on that chart that in 1994 wages rose as unemployment fell to 6%, and that wages stalled in 2002 as unemployment rose near 6% again. At the end of the Bush expansion wages started falling again in 2008 at unemployment hit 6%)
** (The chart shows how the savings rate rises – and consumption rates fall – for the higher income quintiles, and the usual estimates are that the top percentile have the highest savings rate/lowest consumption rate)
Crossposted at kgblogz