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  • Are Americans Better Off Today Than They Were Four Decades Ago?

    Family finances

    Newscom

    Many pundits and politicians argue that middle-class incomes have stagnated over the past generation. But more accurate data show that the typical household’s income has risen by at least one-fifth in recent decades.

    Former Clinton Labor Secretary Robert Reich expressed this view when he argued that we have gone through “three decades of flat wages during which almost all the gains of growth have gone to the very top.” But those coming to this conclusion use a problematic measure of inflation.

    Median U.S. household rose from $10,512 in 1973 to $50,054 in 2011. Of course, this does not mean financial well-being has quintupled: Any meaningful comparison over time needs to adjust for inflation. But different inflation adjustments lead to very different conclusions.

    One common inflation measure is the Consumer Price Index (CPI), but it has several drawbacks. The CPI does not account for the fact that people change their buying habits when prices change—for example, Americans bought more smartphones when they became less expensive. Consequently, it overestimates the amount Americans spend on more expensive products.

    The CPI also uses surveys that overestimate the amount Americans spend on rent, gas, and utilities—regularly recurring purchases easily remembered in interviews. The prices of these goods have grown faster than overall inflation. These problems artificially inflate the CPI.

    The Department of Commerce uses a different methodology free from these problems to calculate the Personal Consumption Expenditures (PCE) price index. Both the Federal Reserve and the Congressional Budget Office prefer the PCE. PCE-estimated inflation typically grows about 0.4 percentage points slower than CPI estimates. Over short periods of time, this hardly matters. Over long periods, it matters a lot.

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    Adjusting for inflation with the CPI shows median real household incomes stagnating, falling 2 percent between 1973 and 2011. The PCE paints a completely different picture.

    The Commerce Department just revised the PCE to improve its accuracy. The old PCE showed median household incomes rising 17 percent between 1973 and 2011. The updated figures show median household income growing even more—up 20 percent.

    Taking other changes into account—such as the growth of non-cash benefits and the drop in average household size—would show even larger gains. Researchers accounting for such factors find median incomes rising by 30–50 percent over the past generation. These findings accord with recent research showing that, contrary to popular belief, employees’ compensation has risen in tandem with their productivity. Middle-class households produce more and enjoy substantially higher standards of living today than they did four decades ago.

    None of this obviates the pain of the Great Recession or its weak recovery: The PCE also shows median incomes falling 7 percent since 2007. The economy remains painfully weak, but this is a recent phenomenon.

    Posted in Economics [slideshow_deploy]

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