Modern capitalism isn’t working for the middle class

By Chrystia Freeland
September 20, 2011

We know one thing for sure: the gap between rich and poor in the United States has widened in the past 30 years. In 2007 the top 1 percent of earners took home 18.3 percent of national income — that is more than two and a half times their level in 1973, when their share was 7.7 percent. Those at the top haven’t enjoyed such a big slice of the national pie since 1929. The middle-class dominated nation that the Greatest Generation inhabited has become as polarized as the plutocracies of Latin America or as America itself was during its fevered Gilded Age.

For a long time, the United States was in denial about its growing income gulf. The middle class clung to the old promise of mass affluence — and used home equity loans and credit card debt to make that dream real.

The elite, particularly the conservative intellectuals who have dominated the national economic debate since the Reagan era, insisted that growing income inequality was propaganda invented by the class warriors on the left, and cited robust consumer spending as evidence. In a 1998 speech at Jackson Hole at the annual gathering of American economists and economic policy makers, Alan Greenspan, then chairman of the Federal Reserve, argued that what mattered was what people could buy, not what they earned.

“Inequality in consumption, when measured by current outlays, is less than inequality in income,” he said. Greenspan illustrated his point with some unusual measures of inequality — ownership of consumer goods like dishwashers, microwaves and clothes-dryers. The comforting result? Even though inequality as measured in dollars was growing, when measured in dishwashers, microwaves and clothes dryers it was decreasing.

The 2008 financial crisis and the prolonged economic downturn has eviscerated the consumption defense as ruthlessly as it has burst the credit bubble that allowed the middle class to feel richer than it was. Income inequality is today a fact of life, as essential to doing business as the rate of inflation: Proctor & Gamble executives study the Gini co-efficient, a technical measure of income inequality, to divine what is happening to their erstwhile middle-class consumer base, and have decided the best strategy is to give up on the center and to market instead to the top and the bottom.

Citigroup advises investors to design their portfolios around income inequality. It calls this strategy the “Consumer Hourglass Portfolio” and has created an index of companies that serve the rich and the poor while avoiding the vanishing middle.

Once income inequality has become a tool for marketing executives and stock pickers it becomes pretty hard to deny. But we can still argue over what is causing it.

The left likes to blame pro-rich tax policy. And it is certainly true that the gap in the U.S. has widened even as taxes on the rich have decreased. Today’s top tax rate, 35 percent, is half what it was 30 years ago. Capital gains taxes are even less than half of what they were 35 years ago — 15 percent today, compared to 39.9 percent in 1977.

Politics have tilted the playing field in favor of those on top in other ways, too. Unions are less powerful than they were 30 years ago, and an ever bigger gap between executive officers and the average worker has become acceptable to shareholders and boards: in 2010, C.E.O. pay at S&P 500 companies was 343 times the median wage.

But taxes, unions and compensation committees tell only part of the story. What’s also happening is an economic revolution — actually, a pair of them — that favors those on top and squeezes those in the middle. The technology revolution and globalization have allowed the very talented, the very lucky and the very brave to build companies and make fortunes nearly overnight. They have also created a highly numerate superclass of workers — technologists, engineers, traders — whose skills are in great international demand and whose salaries have soared accordingly.

Meanwhile, a vast swath of jobs — ranging from manufacturing, to clerical work, and now to routine law and accounting — can be done much more cheaply by machines or by people in lower-income countries, and this is devastating the U.S. middle class, even as those at the top prosper.

Justice is a central issue in American politics and in American society. That’s why it seems so important to figure out whether the rich are paying their fair share. It is a crucial question — and the truth is that the rich are getting a better deal than they used to. But the even more central issue — and it is one that both left and right are reluctant to acknowledge — is that the fundamental forces shaping U.S. capitalism today are hostile to the middle-class majority, which defines U.S. democracy.

The rancor and the paralysis that characterize American politics at the moment are the result of this conflict. Someone needs to admit that modern capitalism isn’t working for the middle class, and find a way to make it work better, before it is too late.

This piece was originally published on the New York Times’s Room for Debate blog.  You can read the rest of the debate here.

17 comments

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Very nice post. Fueled by westward expansion and immigration, for 200 years US consumption drove US employment (more or less), and shaped everything from our industrial base to our retail channels. That will never happen again. Global consumption and global employment offers a new set of challenges, especially since the US represents on 6% of the world’s population. The reality of these new challenges seems to escape most of our political leaders and much of our population. Business leaders seemed to have all become Friedmanites, in a self-serving way.

Posted by BusSchDean | Report as abusive

Personally, I find there is a more compelling argument than justice, which is endlessly debatable. Our domestic economy is being starved of demand through growing income equality (through the well-known declining propensity to consume with rising income), and stripped of productive capacity by our mercantilist rivals in Asia. The future of this trend looks a lot like the United States of the Cayman Islands – a haven for global corporations, a relatively small number of high net-worth households, and 300m peons sweeping the streets to pay for groceries at WalMart.

The tax code could at least stop subsidizing this trend.

Posted by TheCageNovel | Report as abusive

I’d make a case the poor are to blame as much as the rich! Picking the lowest fruit and taking the path of least resistance in life is expensive for the rest of us! Example: 40% of US GDP is now government! How much more government do ya suppose the rest of us can fund? I’m for helping the least of us and for motivating the rest to take care of themeselves! (2) $9hr (min wage in Oregon) minimum wage jobs now pays $35,000 per year and there’s plenty to go around! In Portland, OR we graduate 50% of HS students-too many loosers! Ask what your country can do for you?

Posted by DrJJJJ | Report as abusive

Nice article. Class equality, or lack thereof, should be measured in terms of personal freedom and empowerment. Blatant attempts by Greenspan and others to define it in terms favorable to the rich are inexcusably immoral. I don’t know the solution, but I think smaller government and a more equitable tax structure would be two steps in the right direction.

Posted by 5dd | Report as abusive

What an excellent article. I agree with its conclusion, that capitalism isn’t working for the American middle class.

One bone I have to pick, however, is the statement that technologists and engineers have seen their salaries soar. That is definitely incorrect.

The H1B visa program has flooded America with young graduates of foreign engineering schools, notably from India, but many other coutries. It’s analagous to importing a hundred busloads of plumbers into the city of, say, Cincinatti. It immediately drives down the wages of plumbers in Cincinatti, and certainly throws many plumbers out of work.

The H1B visa program has done that to the engineering profession in America. Engineering salaries in America are today much LOWER than they were 10 years ago, in 2001.

These lower engineering wage rates are causing American college students, who naturally have an interest in engineering, to choose some other career. Studying engineering is hard work. Why should an American college kid study engineering when he or she knows it barely pays a living wage. Whereas 15 years ago, a new engineer could count on earning enought to buy a house and raise a family.

The H1B visa program has changed all that. And it’s true what Chrystia Freeland says, capitalism is no longer working for the American middle class.

But for Indians rising from poverty? Our capitalism does indeed benefit them.

Whom does the American government represent? The American engineering students or the Indian engineering students?

Posted by AdamSmith | Report as abusive

I always enjoy reading you, Chrystia, and seeing you in your *pundit* role on-air.
It’s so rare these days, to read a thoughtful, fact-based take on things.
Unfortunately, the Media in-general, has become so enamored with a “he said, she said” mentality of reporting, that there just isn’t any fact-checking, or real Journalism done anymore.
It’s become just a lot of noise, & the electorate suffers… and ignorance grows.
The income disparity will continue to grow, as well as the shrinking of the Middle-Class, as long as so many continue to support policies that hurt their own financial interests.
And with a complicit media, in dumbing down the Electorate, I fail to see any way out. It’s looking more & more like America is headed to 3rd-World status.
A very scary thought for our kids.

Posted by burf | Report as abusive

Good point busshchdean. In our present situation it is the technically and intellectually adroit who also have the right personalities that are succeeding. We can see how and why this is happening, but our political leaders no longer have the insights to do so. They simply cannot understand what is happening because they’re not a part of what is happening. That has never been true before. Our policy makers are just not in the scene.

Posted by bigturkey | Report as abusive

It seems as though a large block of the middle class is acutely aware that something has gone very wrong for them, but an equally large block of the middle class is not politically and economically astute enough to clearly define the problem and a solution.

The Republicans and Democrats are once again attempting to promote their views of the problem and solution. It will be interesting to see whose version is easiest for the middle class to swallow.

Posted by breezinthru | Report as abusive

Dont be fooled into thinking that this is just a push of non-technical, simple accounting jobs overseas. High-tech I/T jobs have been flooding out of this country at an alarming rate. Large tech firms are paying for college and training in BRIC and other low income countries to continue the evaporation of the jobs that were to replace the lower end manufacturing jobs that they had already sent. There is no end in sight to what these CEO’s will do. The problem is, sooner rather then later… there will be no one making enough to purchase these same goods and services. But, of course by then their pockets will full.

Posted by fromthecenter | Report as abusive

I have been to a country whereby this process is complete, and it may surprise a lot of people. That country is the Philippines. There is no middle class to speak of, only the ultra-rich and the ultra-poor. The hallmark of the culture that I saw when I was there was the rampant and across the board corruption. If you were not tied to and kicking back to the government in some way, then you lived a subsistence life. Do you think that an exclusive distributor of JVC products is really needed? And enforced by law? Guns are illegal, but killings from guns are continuous. The police seek bribes in routine traffic stops … for safety? The connected and the political savvy are the ultra-rich. The rule of law is meaningless, for those of means. Is this what we want for America? Stop handing the government the right to control your neighbors actions and pocket book for his own good, or end up like the Philippines!

Posted by Byanyothername | Report as abusive

The US economic politics of the last 20 years have turned the US from a world economic leader to bordering on third world status and bankrupt.
Corporate American based multinational companies have caused this problem.
In their quest for ever increasing profits, corporate “leaders” have pushed for “free trade” agreements which allowed export of American jobs to China, India and other slave states to manufacture their products with $.80 a day labor.
These same agreements allowed them to bring these products back to the US and sell them to American citizens with no tariffs, thus maximizing corporate profit, while postponing the real cost to American citizens by increasing trade deficits which were just added to the national debt by our unscrupulous GOP politicians who sell US debt to China and other nations.
Corporate profits were protected from taxation by these same GOP politicians with loopholes and tax breaks, or by corporations keeping their profits offshore and not repatriating the profits back to the US where the money might actually “trickle down” to Americans.

Net winners = greedy corporate management and their paid for GOP politicians, the wealthy Americans who own large blocks of stock in these corporations, and foreign countries whose governments use their citizens as slaves.

Net losers = the American people (lost jobs, high unemployment, huge national debt)

Not surprising that the GOP is financed by these same corporations and wealthy robber barons, and that now the GOP’s main focus is to protect these corporations and wealthy individuals from taxation which might preserve what little social safety net Americans citizens have (SS and Medicare).
Instead the GOP wants to further cut taxes, and reduce “entitlements”, so the wealthy and corporate multinationals can get ever richer at the expense of future generations of American citizens.

WAKE UP AMERICA, YOU HAVE BEEN RIPPED OFF BIG TIME!!!!!!!
GET THE JERKS WHO GOT US IN THIS MESS TO PAY THEIR FAIR SHARE TO CLEAN IT UP!!!!!!!!!!

Posted by wmoore | Report as abusive

Capitalism itself is not the problem here. DUring the post war period up to Reagan, the middle class in the USA saw continued prosperity, as did most of war ravaged Europe and Asia. What happened in the 1980s that stopped the middle class advance? The US Tax Structure.

Huge tax give aways to the upper 1% has certainly fed the income and wealth disparity, but stagnant wages and stagnant middle class standard of living due to lack of job growth has more to do with how the US tax structure encourages speculation over investment.

The US tax structure on capital gains, futures, derivatives, real estate investment, etc. has pushed the US equity market into a day trading roulette wheel. What the US needs is a tax structure that rewards the long term investor and punishes the short term speculator: 80% cap gains tax on all trades held under 6 months, 70% under one year, graduate the tax down with longer holding period (i.e. over 5 years 10% tax). All derivatives should be taxed at 80%. Eliminate 1031 exchanges on investment real estate.

Until the financial wiz kids see that they are rewarded for long term investing, the US markets will remain a boom/bust economy which is obviously destroying jobs and the US middle class.

Posted by Acetracy | Report as abusive

Business is the single-minded pursuit of profit. Business is not guided by conscience, empathy, or virtue. Business is, however, guided by the policies set by our Federal lawmaker’s whose main job was to protect it’s people from ruin. Pretty easy to figure out who dropped the ball.

Posted by GLK | Report as abusive

I don’t think that the basic principles of capitalism are the problem. There is an increasing disparity in dollars, but in terms of access to labor saving devices and lefestyle items like plasma TV’s and diswashers, we are much more equal than 200 years ago, when these items would only be available to a king or prince. My beef is the definition of “rich”. It is fine for our president to speak of the disparities of jet flying millionaires and billionaires, but when you look at his policies they equate this with people who make $200,000.00 year. I make more than this, but I have no stockpile of wealth and so my income is all I have. I’m strapped to pay for my 3 college aged children much less fly around in a jet, not because of capitalism but because of our tax system. If Warren and I and everyone paid the same tax rate and could not wiggle out of it, the country would have enough revenue, we could all pay a lower percent, and the “rich”, as well as the “poor” , not just the upper middle class,would be paying their fair share for the govt services we all receive.

Posted by zotdoc | Report as abusive

The percentage of income/wealth spent yearly goes way down the richer you are. The amount of dollars out there has risen, not gone done–the problem is, it’s not being spent.
It’s common now for a large number of people to spend over 100% of their income just for basic necessities–they borrow because they don’t make enough.
We have a consumer economy. Lack of money being spent is closing companies and reducing profit. The tax cuts for the rich and corporate subsidies are obviously NOT creating new jobs. The money circulation is now stagnant.
Austerity measures are like telling a then, starving person tht he needs to diet and to reduce his need for food….

Posted by rickhan | Report as abusive

I agree with the general theme of this article, that modern capitalism isn’t working. However, modern capitalism is very different from free market capitalism and is really just fascism. While Greenspan and Bernanke may claim to be conservatives their policies have been very economically interventionist.

One should also be very skeptical of the Gini coefficient. When the value is calculated does it include things like employee benefits, welfare, government subsidies, etc.? The answer will depend on who is doing the calculation and will cause huge variations in the result.

Posted by Etherman | Report as abusive

@ DrJJJJ < I find your math puzzling. 9$ hr * 40 hours a week * 52 weeks in a year is only 18,720. That’s with no time off and full time employment. Now factor more than half of these workers are part time, so companies don’t have to give benefits and it goes down quickly from there. Now just where is the other 16,280 dollars a year you say minimum wage workers are getting? And don’t say it is in benefits, unless you walk into mcdonalds and ask the cashier what kind of insurance their job gets them. Unless you ask the manager they will probably laugh at you.

Posted by onlylogical | Report as abusive