Recently, a number of economists and commentators have suggested that faster productivity growth would be a big way to boost the income of middle-class households. I’m all for faster productivity growth, though I’d argue no one knows how to reliably make it happen. But given the wedge of inequality between productivity and low and middle incomes, wages, and wealth, I’m skeptical that this would work as well as some think.
So I wrote this paper exploring the issue and adding some of my own estimates. Here’s the intro:
Faster productivity growth would be great. But don’t count on it to raise middle-class incomes.
The stagnation of middle-class incomes is one of the most important and influential trends in American economics. Politicians, from President Obama to Hillary Clinton and Jeb Bush have consistently argued that loosening the middle-class squeeze is a major goal of their policies. Prominent economist Larry Summers recently wrote that in crafting “global as well as domestic” economic policy, “the middle class matters the most,” warning against approaches that offer “little to those in the middle.”
In recent weeks, largely motivated by an analysis by President Obama’s economic team, a solution to stagnant middle-income growth has been elevated: faster productivity growth. The President’s Council of Economic Advisors (CEA) tells us the following:
“What if productivity growth from 1973 to 2013 had continued at its pace from the previous 25 years? In this scenario, incomes would have been 58 percent higher in 2013. If these gains were distributed proportionately in 2013, then the median household would have had an additional $30,000 in income.”
That’s a huge increase—more than 50 percent—over the current median household income of about $52,000. Given an increase of this magnitude, it’s no surprise that the idea that higher productivity growth is an important answer to stagnant middle-class incomes has been touted by various commentators in this debate. Based on the CEA’s calculation, Tyler Cowan goes as far as to claim that faster productivity growth would not just boost middle class incomes, but would increase their economic mobility, implying they’d gain relative to other groups.
There are, however, two problems with all this cheerleading. First, there is a large and persistent gap between productivity growth and middle-class incomes: we cannot realistically assume that faster productivity growth would reach the middle as opposed to doing an end-run around them on its way to the top. Second, while it would be great to have faster productivity growth, I’m afraid we must be humble about our ability to make that happen.
In what follows, I document the inequality-induced split between median family income and productivity growth, with a focus on the point that, while productivity did slow in the mid-1970s, it still grew much faster than middle incomes. In this regard, income inequality has increasingly played a wedge-like role between middle-class income and productivity growth.
This observation on the role of inequality in the income/productivity split is key to my argument. Productivity is really another way of looking at overall, or macroeconomic growth—it is aggregate output per hour. A central, even definitional, characteristic of increased inequality is that less growth reaches the middle class relative to the wealthy. Thus, to assign the benefits of faster productivity growth to the middle class is analogous to assuming away growing inequality, an obvious “diagnostic” mistake with the potential to distract policy makers who want to help middle-class families from the importance of policies designed to push back against rising inequality.
To be clear, faster productivity growth would be a highly welcomed development, and would surely help boost median incomes to some degree. But as long as inequality continues to play a wedge-like role between aggregate growth and the incomes of low- and middle-income households, analysts need to be much more cautious in their assumptions regarding the benefits of faster productivity to the middle class.