Economic Participation Matters Most


This piece first appeared at Real Clear Policy.


This is the tenth in a series on the major policy ideas — from Left and Right — that should guide the next presidential administration's agenda. (For the opposing view, see David Madland, "A Path Forward for the Middle Class and the Country.")

Do we want to live in a society in which people profit when they have new ideas, products, and abilities that others are willing to pay for? If so, then we will also have economic inequality. 

To most economists and ordinary Americans, inequality is the price we pay for an economy that rewards innovation, risk, and hard work. The topic has been a recurrent theme in our recent political discourse, however, because of two things: the outsized income of the nation’s top earners and the stagnation, or tepid growth, of middle-class incomes. The question is whether we think these two trends say something bad about America, and if so, what public policy can do about them.

On the first issue, the rising incomes of the rich, politicians and advocates who want to reduce inequality typically rely on one of three rationales. 

First, there is the “piece of the pie” rationale. This view regards the economy as a kind of zero-sum game in which larger slices of the economic pie for the rich mean less for everyone else. But the evidence for this view is dubious at best. Even Paul Krugman has claimed to be a skeptic of the idea that inequality affects economic performance.

The second rationale is a kind of moral objection: It is simply wrong, or unfair, for the rich to earn so much. Behind the veil of ignorance, as the political philosopher John Rawls taught us to think, no one would choose to live in a society where 1 percent of the population earns more than $430,000 while everyone else averages one-eighth that amount. But, the fact is, we live in a non-Rawlsian reality in which many would roll the dice and say, “I’ll take those odds!” 

Besides, as polls suggest, everyday Americans just don’t care about inequality as much as they care about upward mobility. They may dislike faceless “bankers” and “CEOs of insurance companies,” but they admire Steve Jobs and Mark Zuckerberg, whose earnings make most bankers and insurance executives look middle class.

The third rationale blames cronyism, the “rigged game,” for making people rich. It is unlikely that cronyism is the main driver of the top 1 percent’s income. Still, as research from Boston University’s Jim Bessen shows, there is a positive relationship between growing corporate profits and lobbying. And Sutirtha Bagchi and Jan Svenjar have found that inequality is greater in countries whose richest citizens earn their wealth through cronyism rather than free enterprise. We live in an era in which the CEO of Goldman Sachs praises Dodd-Frank for making things better for Goldman. Clearly, we have policy work to do to fix this.

But the energy policymakers and pundits spend worrying about the super-rich might be better spent focusing on the second initial question: What do we do about lower and middle-class incomes that are not rising as they should? 

If we get this question right, maybe the first one becomes less important. This seems to be what Adam Smith’s mentor and friend David Hume had in mind back in 18th-century Scotland. Hume observed merchants, who were not welcome in elite society, earning “great profits” by importing and exporting novel and innovative products. Their success made them “rivals in wealth to the ancient nobility.” Commercial exchange had narrowed the gap between the birthright rich and an enterprising class of hardscrabble commoners. 

Not only merchants saw their lot improve. The growing taste for newer and better products prompted ordinary people to become innovators and to get in on the action, producing “every home commodity to the utmost perfection of which it is susceptible…[S]teel and iron, in such laborious hands, [had] become equal to the gold and rubies of the Indies.”

What Hume called “luxury” — goods from overseas and improved products through innovation at home — was no longer the domain of kings and aristocrats alone. The iPhone 4 replaced the flip phone, and the iPhone 6 surpassed the iPhone 4 — not just for the king, but for you. Not only did luxury make life better, it opened up new opportunities to earn a living for those making the products. 

Detouring through 18th-century Scotland reminds us that upward mobility comes not primarily from redistributing money from the nobility to the poor but through economic participation — that is, encouraging work in those sectors of the economy where innovation and growth are robust.

The problem in America today is that some people are participating in the growing, opportunity-rich parts of the economy and others are not. It is the inequality among the 99 percent, not the 1 percent, that matters most in America. MIT’s David Autor has calculated that growth in income between the top and bottom of the 99 percent between 1979 and 2012 was four times greater than the redistribution of income from the entire 99 percent to the top 1 percent.

The so-called “hollowing out” of the middle class can be understood in these terms. As Pew has reported, of the 11 percent decrease in middle-class households between 1971 and 2015, 7 percentage points are the result of families moving up and out of the middle class. Of the remaining 4 percent that moved down, a large share can be explained by the growth in immigrants working in low-wage jobs. 

The best way up for people is — and always has been — the capacity to participate in the economy as an employee, entrepreneur, or owner. No amount of redistributive policy can achieve the same result. The safety net, as the name implies, is to prevent downward mobility; it has never been a very good trampoline. 

Given the gap between the top and bottom of the 99 percent, we need to focus with revolutionary zeal on increasing economic participation among marginalized workers. To do this, our approach to workforce development should emphasize the following:

1. High school certification paths in high-demand skills. Career and technical education needs to move from a sideshow to a central part of high school curricula. The programs should be flexible, using online learning platforms and easily convertible physical space so schools can quickly offer new programs as market demand changes. Also, in place of textbook economics, students should learn about the role of investors and owners in the economy, how firms are formed, what innovation is, and which companies are successful and why.

2. Apprenticeships for the American economy. Current workforce-development funding should shift to support on-the-job training more than classroom vocational training. Given the flexibility of the U.S. labor market, employers should bear minimal cost in the event that the apprentice leaves for another company.

3. Increased rate of new business creation. This may sound more pro-entrepreneur than pro-worker, but the reality is that new companies: create most of the new jobs each year; employ a disproportionate number of young people; and pay on par with more established firms. Sophisticated startups with patents and Delaware registrations are doing well. The rest, not so much. Local clubs, entrepreneur networks, school partnerships, and other ways of connecting would-be entrepreneurs to real entrepreneurs as well as to investors and lenders are needed now more than ever.

We need a policy environment that connects people to the growing, highly productive sectors of our economy. This will do more to “make work pay” than conventional ideas such as setting wage floors, making marginally effective community colleges “free,” and strengthening unions. The only way to increase mobility and deal with inequality is to increase the earning power and vocational prospects of people who are currently on the outside looking in.

This piece first appeared at Real Clear Policy.

Ryan Streeter is the Executive Director of the Center for Politics and Government at the University of Texas at Austin.