Tuesday, March 3, 2015

“Mumbo-Jumbo” Mumbo-Jumbo

Today, Cato’s Alan Reynolds took a few bizarre shots from the pages of the Wall Street Journal. In particular, Reynolds it calls “far-fetched” that incomes of the middle class have stagnated for decades.

First, he asserts “The average income for the bottom 90% is not a decent proxy for the median nor even a decent measure of household income." This is clearly indefensible as a check of the numbers at Reynolds’ source demonstrates. Here, we see the average of the bottom 90 percent and the median compared for both before-tax and after-tax household income.

(Source)

Over Reynolds’ chosen 1984-2007 period, median before-tax income fell 0.05 percent per year relative to the bottom 90 percent and median after-tax income rose less than 0.01 percent per year relative to the bottom 90 percent. Obviously, such differences are in no way meaningful.

Next, Reynolds argues that median after-tax (and transfer) measures better describe the evolution of middle-class incomes than does pre-tax and transfer “market income.” However, the comparatively higher rate of growth in after-tax income simply reflects the government attempting to compensate households for the broad stagnation of income. If the median household is better off in 2007 than 23 years prior it is because we have recognized that wages have fallen and households have had to work much more to maintain a modest 0.5 percent annual increase in pre-tax income. We have increased transfers and cut taxes in order to help those households to share in the increased productivity of the economy.

It is also worth noting that much of the increased transfers which make up the wedge between market and pre-tax incomes have come as a result of a broken health-care system. The government now pays health providers considerably more and yet life expectancy for those in the bottom half of the income distribution has grown so slowly that such workers may enjoy shorter– not longer– retirements. It is not so obvious that such increases in payments contribute to growth in household income.

It is no surprise then that real per-person consumption has grown faster than median pre-tax household income. Not only does this conflate the median with the overall average— it ignores that household savings rates have declined considerably over the decades in question. In 1989, the median net wealth of households headed by someone aged 45-54 was \$177,300 compared to only \$105,400 in 2013. Even that does not consider the simultaneous decline in defined-benefit pensions held by such households.

The middle class may still appear middle class because households have dedicated more time to work, received increased assistance from the government, and accumulated considerably less wealth than the previous generations; such measures merely hide the obvious stagnation.

2 comments:

  1. Your graph does NOT compare the Piketty & Saez estimate of mean incomes of the bottom 90% of "tax units" with CBO estimates of median income of households. My graph does http://www.cato.org/blog/bottom-90-pretax-pretransfer-income-no-proxy-median-after-tax-income

    Newspapers hate graphs, but the relevant data were in my article.

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    1. That is correct. My graph does not compare Piketty and Saez with CBO; nor did I claim that it did. There are multiple issues at hand, and the first is whether or not "[t]he average income for the bottom 90% is not a decent proxy for the median" as you asserted. To resolve this issue, I considered data from a single CBO report. It seems clear that for purposes of evaluating income growth, the two measures are practically interchangeable.

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