The Rules Changed; The Middle Class Lost

Something is wrong with the American economy. For over five long years of recovery,  we have maintained an unemployment rate greater than 7%, or 15% to 20% if you count the part-timers and discouraged workers. This is not all that's wrong but all that is wrong is rigged to hurt the middle classes.

On the surface, the economic statistics describe a prosperous economy. GDP is growing at 2% per year. Inflation is under control at 1.5% per year. The stock market indexes and corporate profits, savings and investment are at record levels. CEO pay is as high as it has ever been and even the housing industry is recovering. In fact, the finance, insurance and real estate industry, which brought us to crisis in 2008, is again the dominant sector.

To understand what is wrong with our economy, you have to explain why the middle-class is in a state of near collapse, why employment has fallen when the economy is recovering and why wages went stagnant for 30 years when productivity was rising constantly. Then you must integrate that explanation with the housing bubble, Great Recession and financial crisis.

The commonly accused culprits – globalization, technology and demographics – simply cannot account for the salient facts. They do not explain adequately why wages delinked from productivity nor why the economy went through the boom, bubble and bust. Somehow, economists have to find a way to link falling employment and wages with a cycle of deregulation and financial takeover of the economy.

Surprisingly, that is not as difficult as it might seem. Mostly, people just don't want to hear about the exercise of economic and political power, the ability of one group to change the rules in its favor.

Our economy is a set of rules that we call capitalism. It is the body of laws that we have agreed to under our Constitution. There is no normal or natural set of rules. There is only what the people in each economy agree on. Each set of rules and each change in the rules, benefits someone and costs others. Think of things as basic as the protection of private property or as detailed as the US commercial code..

The 1960s and early 70s saw important exogenous changes in politics and technology. The rules had to be adapted to a new set of facts. So, beginning in the late 1970s, America began to rewrite its economic rules. We called it deregulation but it might better be called financialization. Finance took over our economy. Transportation and banking were first but then this re-regulation in favor of finance spread across the whole economy.

The changes we made in the micro and macro economic rules are still bothering us. They brought about a vast redistribution of income and assets beneficial to the finance, insurance and real estate industries at the expense of the working classes. Our present political gridlock arises from the fact that the losers have not yet accepted this new order.

And for good reason. Most of these rule changes were cost;y: removal of interest rate ceilings; the relationship between investment and commercial banks, the refusal to study much less regulate trade in derivatives; globalization of manufacturing; pressure on wages; privatization of risk as in medical care, pensions and education; trade agreements; the war on unions; the lack of antitrust enforcement; and the demand for lower taxes which led to the costly privatization of public services. The attack on Social Security and Medicare are the next step in this rule changing process.

The consequent drop in middle-class income explains the macro boom and bust. Workers maintained their standard of living, first, by putting women to paid work. Labor force participation by women increased from 46 percent in 1975 to 57 percent in 2012. Then began the great debt-fueled boom as workers maxed out their credit cards. Credit card debt rose from $204 billion in 1975 to $2.7 trillion in 2012. Finally, workers refinanced or second-mortgaged the bubble value of their home and used it as an ATM. This "payday loan" type society could not and did not last.

The debt burden finally became too much. When the middle class could no longer pay the interest to keep the economy afloat, this fraudulent and criminal system came crashing down. All those liar and ninja loans which were so profitable to the financial sector were paid off, not to make  the workers whole, but to bailout the banks.

The rules have been rigged. The so-called financial markets have become a riverboat casino kept afloat by the Federal Reserve's quantitative easing. They are the means by which the already very rich financial sector siphons off huge amounts of money without adding anything to the economy.

Where do we go from here? We have to change the rules to ensure that middle-class jobs and wages will enrich the real economy and will return the wealth to those who, with their work, created it.