The Witheringof the American Dream

ZIA MIAN

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The gap between the richest and the rest has become even more dramatic since. As the New York Times pointed out recently, there were 25 American financial hedge-fund managers who each made over $ 240 million in 2006 (for a total of almost $ 6 billion). The highest earner among them made $1.7 billion last year.

For comparison, half of all American families had an income of less than $44,000 in 2006.

The hedge-fund managers may be the new financial hyper-elite in terms of income but more typical corporate bosses have done very well. A study of executive pay found that the median executive salary at 350 large public companies was $ 6.8 million in 2005 (that is to say half of these executives earned more than this).

Workers have not done so well. The Institute for Policy Studies and Unitedfor a Fair Economy tracks the gap between bosses and workers. The current gap in annual incomes is 411-to-1. This compares with a gap of 107-to-1 in 1990. In 1980, the gap was only 42-to-1. It is clear how the pace has quickened from one decade to the next.

By looking at the past several decades, it is possible to see how far the rich have moved away from the rest. A Congressional Budget Office (CBO) study found that the after-tax income of the top 1 per cent of American families increased by 139 per cent from 1979 to 2001. While the incomes of the richest households more than doubled, the incomes of the middle 20 per cent of families rose by just 17 per cent over this time. For the poorest 20 per cent of families, incomes rose only 9 per cent. Reflecting the fact that the situation of the poor has worsened further in recent years, a more recent analysis by the CBO found that the poorest 20 per cent of American families had seen their incomes rise by only 2 per cent from 1979 to 2004.

In an important recent essay, Frank Levy and Peter Temin of the Department of Economics of the Massachusetts Institute of Technology note that the relative increases in incomes in recent decades were not connected to the overall productivity of the economy. Between 1980 and 2005, American business productivity increased by almost two-thirds, but the median weekly earnings of full-time workers rose only 14 per cent. Since productivity growth increases total income, the low income growth for the average worker means that others

– those with already above average incomes – gained the lion’s share. The richest gained at a rate much higher than was generated by productivity growth.

They observe that this lack of balance between increased productivity and average incomes is not inevitable. During 194773, both labour productivity and median family income each roughly doubled. They show that the enormously greater and rapidly increasing inequality in America since the late 1970s is due not to technology, education, or the changing structure of the economy but from government policies and practices and public sensibility about the importance of equality and inequality.

A key policy driving this process has been tax cuts for the wealthy. The Bush administration’s tax cuts have dramatically favoured the already rich. In 2006, the average tax cut for the richest 1 per cent of households added about 5 per cent to their after tax income. The middle 20 per cent of families got a 2.5 per cent increase; the poorest 2 per cent received only an additional 0.3 per cent because of the tax cuts.

Despite this, the tax cuts have had great support among those who have not seen any real benefit. Middle-income and poor Americans have supported the Bush tax cuts. They seem to know that the tax cuts largely favour the rich but also to believe that even a little benefit for themselves was better than none. Studies have found that many Americans just do not understand how the economy works and how tax cuts lead to growing inequality and reduced government spending on education, and other social programmes that support the poor.

At heart may be the illusion of the American dream. A 2005 poll found that 40 per cent of Americans believe that the chance of upward class mobility had risen during the past 35 years, and another 35 per cent said it had not changed. Only about 20 per cent understood that class mobility has declined in each of the past three decades. In fact, fewer American families moved up the income ladder during the 1990s than the 1980s, which in turn saw less upward movement than the 1970s. The question now is what will government and people do about the withering of the American dream.

Email: zia@princeton.edu