19/12/16: Income Polarization in the U.S.: Building Blocks of Trumplitics

Having just reviewed some fresh evidence on the trends and underlying drivers of declining wage growth rates in the U.S. post-Global Financial Crisis (GFC) in the previous post here: , now let’s take a look at some current state of research on income inequality dynamics. In general, relative income dynamics can be driven by increases in income at the top of the income distribution relative to the rest of the distribution - the so-called 1% effect or inequality factor; or by decreases in income distribution at the bottom of distribution - another inequality factor; or they can be driven by the decline in incomes in the middle of income distribution relative to both top earners and bottom earners (polarisation).

A new study from the IMF concerns with the latter type of dynamic. Titled “Income Polarization in the United States” and authored by Ali Alichi, Kory Kantenga, Kory and Juan Solé, study documents “the rise of income polarization - what some have referred to as the 'hollowing out' of the income distribution - in the United States, since the 1970s.”

The key findings are:

“While in the initial decades more middle-income households moved up, rather than down, the income ladder, since the turn of the current century, most of polarization has been towards lower incomes.” In other words, the middle class is increasingly joining the poor, rather than the upper classes.

And this holds for all demographic cohorts or the U.S. population:

CHARTS: Middle-Income Population 1970-2014 (percent of total population with the same characteristic)

 So the younger cohorts are now experiencing more hollowing out of the middle class than the older cohorts and this trend started manifesting itself around 2000.

 Education no longer protects the middle class, either.

And in racial terms, there is more marked decline in the fortunes of the middle class for the whites, whilst the recovery of the 1990s-2007 period in the fortune of the African-Americans  has been reduce by more than 50 percent since the onset of the GFC.

Similarly to race trends, gender trends offer nothing to be proud of.

“…after conditioning on income and household characteristics, the marginal propensity to consume from permanent changes in income has somewhat fallen in recent years.” Put differently, when today’s middle class workers receive a wage increase, they tend to save more and spend less out of that increase than before. This can only occur if today’s middle class workers are saving more from wages increases. Incidentally, the authors also show that the same has taken place for higher income households.

Secular decreases in MPC can reflect either increased investment (from savings) or increased precautionary savings (including savings used to buffer against liquidity risks). Unfortunately, the authors do not look into which effect is at play here, or (if both are) which effect dominates.

And here is another conclusion from the authors worth noting: “Income polarization has risen substantially in the past four decades—much the same, if not even faster than inequality.”

Which, of course, helps explain why we are witnessing activist voting by the disenchanted, angry middle class voters. You can blame political candidates, you can blame the media, you can blame outside forces and powers. But you can't avoid one simple conclusion: the U.S. middle class is pis*ed off with the status quo. For one very good reason that the status quo doesn't work for them.


Full study here: Alichi, Ali and Kantenga, Kory and Solé, Juan A., Income Polarization in the United States (June 2016). IMF Working Paper No. 16/121. https://ssrn.com/abstract=2882555