Is the United States Really Facing Economic Decline?

Is the United States Really Facing Economic Decline?

April 11, 2012

A growing chorus of pundits and politicians, along with a few policy intellectuals, are pressing a new debate over whether the United States is in economic decline. The question is usually posed as a yes-or-no proposition, but the economic facts tell a more complicated story. The United States is experiencing an economic transition; and while that transition may actually make American stronger economically, it involves serious and unanticipated costs for the majority of Americans. The result is a real specter of decline that threatens not the U.S. economy, but the American middle class. So, the best answer lies in helping the middle class, without running roughshod over the economy.

The current sense of economic decline is closely linked to new concerns about economic inequality. As we have discussed in this space before, income inequality has been gaining steam for nearly 30 years. From 1977 to 2007, the share of income earned in the United States which the top 1 percent claims every year soared from 8.7 percent to 23.5 percent. Yet, until the last decade, most middle-class Americans and those striving to join them still made progress. From 1983 to 2000, Americans in the third income quintile, smack dab in the economic middle, and the two quintiles below them saw their real incomes grow, year after year, by an average of 1.3 percent per-year. To be sure, those in the fourth income quintile did a little better, registering annual income gains of nearly 1.7 percent, and Americans in the top-earning quintile did better still with annual gains of more than 4 percent. And, of course, the top 1 percent way outpaced everyone else by a country mile: Their incomes grew by an average of nearly 10 percent year after year from 1983 to 2000. So, steady progress for most middle-class Americans accompanied growing inequality.

That progress ended a decade ago. From 2000 to 2007, the middle-class and those below them saw annual income gains averaging less than one-half of one percent; and those meager gains turned to big income losses in the financial crisis, deep recession and slow recovery which followed. The sense that the economy itself is in decline has been reinforced by comparable income stagnation and then losses by those in the fourth quintile. Only the top 10 percent, and especially the top 1 percent, saw healthy income gains from 2000 to 2007. And while the wealthy suffered big setbacks when the markets crashed in 2008, those markets have recovered, as have those incomes.

Yet, for all those problems, the evidence also shows that the overall economy is not in decline. Over the last 10 years and the last 15 and 20 years, too the United States has posted the strongest growth and, by far, the greatest productivity gains of the large advanced economies. From 1990 to 2010, through two serious recessions and one mild downturn, the American economy grew by an average of more than 2.6 percent per-year. That growth compares to annual averages of less than 1.5 percent for Germany and Japan, 1.8 percent for France and 2.4 percent for Britain. And those differences were just as large for the last decade.

Over the same two decades, multifactor productivity across the U.S. private economy increased by more than 60 percent. The Bureau of Labor Statistics reports that real U.S. output, per-hour worked and dollar invested, grew at an average annual rate of 2.2 percent in the 1990s and then accelerated to 2.6 percent per-year from 2001 to 2010. Thats the best record in 50 years. The OECD has its own measures for multifactor productivity. It also reports that over this period, the average annual productivity gains of the American economy outpaced those of Japan by 30 percent, those achieved in France by 40 percent, and those seen in Germany by an astounding 70 percent.

We have some idea about why this is happening. Much of it, as expected, involves innovation. Especially critical here are the successive advances in information and communications technologies and, even more important, their successful application by virtually every business across the U.S. economy. This is the essence of an on-going transition to what is popularly dubbed the idea-based economy. Stated a bit more precisely, the American economy is developing in ways which increase the intellectual capital and consequent value embedded in most economic goods, services and activities. This has been happening not only in manufacturing, but across service industries from retailing and hospitality to traditional business services. There is even evidence that public organizations, including education and government itself, have begun to successfully absorb these new technologies and new ways of doing business. And for many reasons, the United States is better than Japan and most of Europe at broadly applying these technological and organizational innovations.

Thats why the productivity advantages of the U.S. economy, compared to most other large advanced economies, have actually increased. The result is that per capita income in 2011 was between 26 percent and 40 percent higher in America than in Germany, France, Britain, or Japan. And those gaps take account of the cost of living in each country, as well as the sharp income declines seen here in 2009 and 2010.

Setting aside the sustained recklessness of Americas most sophisticated financial institutions, the U.S. economy has clearly performed well for the last generation. Yet, for reasons we do not fully understand, this ongoing transition to a highly-productive, idea-based economy is altering how the benefits of that productivity are distributed. A piece of the answer lies in the changing value of peoples skills. Those who can neither produce new ideas that generate value, nor work efficiently with ideas and the technologies that manage them, find themselves struggling in every sector. Their numbers include most of the bottom 40 percent or so of American workers. Beyond that, much of the value of the strong productivity gains produced by this economy is eaten up by rising fixed costs for most businesses, especially the fast-rising costs for energy and health care seen since 2000. The people whose incomes are squeezed by those forces include the rest of Americas middle-class.

The best response here is to lift up the middle class without undermining this productive economy. That means expanding public and private investments in research and development, infrastructure and, above all, the education and skills of working people. It also means serious measures to ease the burden of health care and energy costs on businesses and families. Through taxes, regulation or new incentives, its time to drive much greater energy efficiency in American workplaces and homes, and to bend the curve of rising health care costs. That is where the next President will have to start, if he hopes to head off the real decline of the American middle class.