Make America Fair Again
Dean Douglas Elmendorf
October 11, 2017
I am honored to be here at Brown University today and delighted to have the opportunity to participate in your lecture series about “Economics in the Real World.” I will use this opportunity to offer my recommendations for U.S. economic policy, and when I am finished with my remarks, I will be happy to hear your questions, comments, and disagreements.
To formulate policy recommendations, it is very important to be clear in your mind about what problems you see in the world that can be addressed through policy changes. Therefore, I will begin by talking about the problems I see and then explain why I think certain changes in policy would address those problems.
I think the biggest problem in the United States today is a widespread lack of confidence in our economic and political system. You can see this lack of confidence in the frustration and anger that led many Americans to turn away from traditional public leaders toward Bernie Sanders and Donald Trump in the presidential primaries last year and then toward Donald Trump in the general election. Many Americans have rejected the political establishment and criticize people they viewed as elite for being out of touch and self-serving. This lack of confidence in our economic and political system is harmful for our society, because many people feel a growing distance from their fellow Americans. The lack of confidence is damaging to our electoral politics because a fractured society is less able to come together to achieve common goals or even to disagree in civil ways. And the lack of confidence weakens our country’s international leadership because it casts doubt on the desirability of our economic and political system and because people’s frustration hampers our ability to adopt policies that would strengthen our position in the world such as certain trade agreements.
What has caused this growing lack of confidence? Why do many people seem more frustrated now than they did a decade or two ago about the established economic and political order? I view the growing lack of confidence as resulting primarily from a sense among many people in this country that our economic and political system is not treating everyone fairly. For example, surveys show that many more Americans think corporations and the wealthy pay too little in taxes than that they themselves pay too much. I think these people want to make America fair again in their eyes. So, that brings us to another set of questions: Why do many people view our system as less fair than before? Are they right? And if so, what might economic policy do about it?
As I consider various sources of this perceived lack of fairness, I combine them into three categories. The first category is things that many people are confused about; they just have the facts wrong. For example, when polled last year, most people who voted for Donald Trump and 40 percent of people who voted for Hillary Clinton did not know that the number of Americans without health insurance has fallen sharply over the past several years because of the Affordable Care Act. As another example, federal taxes as a percentage of household income are now near the low end of their ranges over the past 35 years for the bottom four income quintiles and near their average of the past 35 years for the top quintile apart from the top 1 percent -- but I doubt that most Americans would state that their tax burdens had fallen over time. In these and other ways, many people are benefiting from the existing economic and political system, and from existing public policies, but do not recognize that. How to communicate the facts about our system and our policies more accurately is an interesting and important challenge, but it is not one I will take up today.
The second category of reasons why some people think our economic and political system has become less fair is that the system is actually becoming somewhat more fair -- and in that process, some people are losing unfair advantages they used to have. Women, members of racial and ethnic minorities, gays and lesbians, and others who previously had been pushed to the edges of our society in various ways are now moving toward their rightful places in the middle of our society. Those changes are agonizingly slow in many regards and very long overdue, but I think they are happening and are being noticed by some people who are losing relative status as a result. Notwithstanding any objections, of course, we must firmly and unambiguously reject any attempts to reverse these positive changes in society. So, this source of perceived unfairness in some people’s eyes is not something I have anything more to say about today.
That brings me to my third category of reasons why some people think the United States has become less fair -- namely, that our economic system has failed to serve lower- and middle-income Americans during the past few decades in the way that it did in preceding decades. We can see the evidence for this view in a wide range of indicators. Although measuring income growth is difficult, there is no doubt that, during the last few decades, lower- and middle-income Americans have experienced much less improvement in their standards of living than have higher-income Americans. There is no doubt that people without college degrees have experienced much smaller increases in compensation than people with college degrees. Moreover, diverging economic opportunities for more- and less-educated people are mirrored in diverging trends in life expectancy, marriage rates, and labor force participation. For example, an expert panel established by the National Academies of Sciences estimated that the probability of reaching age 85 for men in the bottom quintile of the earnings distribution was about 25 percent for the 1930 cohort and is projected to remain 25 percent for the 1960 cohort -- while for men in the top income quintile, those probabilities appear to be rising from 45 percent to 65 percent. All in all, the panel concluded that, if recent trends continue, virtually all of the gains in life expectancy between the 1930 and 1960 cohorts will occur in the top 60 percent of the income distribution. Economists Anne Case and Angus Deaton have shown that mortality rates for less-educated white non-Hispanics have risen during the past two decades -- in contrast with such rates for other groups in this country and for people in many other countries -- in part because of a rise in what they term “deaths of despair” from alcohol, drugs, and suicide. To be sure, these patterns probably stem from a complex combination of economic and social factors, but the correlation between economic trends and many indicators of well-being implies that the economic factors are important.
Our economic system has become less fair by not serving lower- and middle-income Americans in the way that it once did. In that sense -- and, to emphasize, only in that sense -- I think we need to make America fair again.
Doing so will not be easy. The underlying economic forces will probably make these problems worse over time. For example, there are roughly three-and-a-half million drivers of taxis, buses, and delivery vehicles in this country. Many of those drivers are men without college degrees, and many are earning enough to put them in the middle class. The rise of self-driving vehicles will probably cut the number of those jobs substantially over the next few decades. Similarly, manufacturing jobs will not increase to any great extent in this country, regardless of our trade policies, because the primary cause of the decline has been technological advances in manufacturing.
Therefore, to make our economic system more fair to lower- and middle-income Americans, we will need to adopt the right kinds of economic policies. Specifically, economic policies should focus on helping people who have been disadvantaged in economic or social terms have a fair chance to succeed. Let me offer six specific recommendations.
First, we should empower people to be effective in well-paying jobs by increasing public investment in education and training for people who do not have good access to education and training today. When the development of new tools and techniques in farming put agricultural employment on a downward trend in this country, we moved toward universal high school education. Now that manufacturing employment has fallen to less than 10 percent of total employment, and jobs for less-skilled people in the services sector are under pressure, we should improve the education people receive through high school and increase the education and training they receive after high school.
We should focus that investment on people who do not have good access to education and training today so that we can enhance economic opportunity for people whose opportunities are currently limited. That means more preschool education, more support for primary and secondary education in low-income areas, more slots at community colleges, and more mid-career training. For primary and secondary schools, we should ensure that we are getting our money’s worth. For community colleges and mid-career training, we should invest in education that is linked to specific jobs, because that is usually more effective than general education.
Second, we should improve jobs that are often held by people with less education and training so those jobs are more rewarding and offer greater avenues for advancement. My Kennedy School colleague David Ellwood is working with other scholars and practitioners to develop concrete steps to, in his words, “turn bad jobs into good jobs.” These steps can include additional on-the-job training, career ladders, access to portable health and saving benefits, and more.
Third, we should put greater emphasis on buffering the adverse effects of international trade on some people’s incomes. Economists have known for a long time that greater trade generally raises a country’s average standard of living; we have also known for a long time that greater trade hurt some people’s standard of living. That second effect may or may not seem important if different people are being hurt at different times and if everyone’s income is rising briskly for other reasons. But it is surely important if the same people are being hurt over and over, and if those people’s incomes are also being hurt by technological change and other forces. That is what has been happening to less educated workers in this country. Some analysts contend that immigration is causing similar effects, although this is more disputed.
My Kennedy School colleague Dani Rodrik wrote 20 years ago that “the most serious challenge for the world economy [is to ensure] that international economic integration does not contribute to domestic social disintegration.” Half a dozen years ago, he added: “Countries have the right to protect their own social arrangements, regulations, and institutions. That’s more important than squeezing out the last bit of purported efficiency gains from trade.” I agree. Therefore, as we set trade (and perhaps immigration) policies, we should make those policies good not only for the country as a whole but also for lower- and middle-income workers. That means giving extra support for mid-career retraining. It means providing greater transition assistance of other sorts. It may also mean foregoing or at least slowing changes in trade (and perhaps immigration) that would help the country as a whole but be hard on people whose economic and social circumstances are already shaky.
Fourth, we should not cut public support for lower- and middle-income people. According to estimates by the Congressional Budget Office several years ago, nonelderly households in the bottom quintile of the income distribution receive about 3 percent of total income before accounting for federal taxes and benefits and about 7 percent of total income after including those taxes and benefits, because they receive substantial benefits and pay very little in taxes. For households in the middle quintile, the corresponding figures are 14 percent and 14 percent, because they receive smaller benefits and pay more in taxes; and for households in the top quintile, the figures are 55 percent and 49 percent because they receive very limited benefits and pay a lot in taxes. Those specific estimates predate the benefit and tax increases in the Affordable Care Act, which increased the progressivity of federal benefits and taxes but did not change this overall picture. Given those figures, it is clear that cutting benefits would hurt lower- and middle-income Americans directly by reducing their income.
But, one might ask, what about the effect of benefits on people’s work effort, the possibility that benefit cuts could enable reductions in budget deficits or tax rates that would spur the overall economy, and the disappointing outcome of the War on Poverty? It is true that cutting benefits would probably increase work by the recipients, but the evidence suggests that the increases would generally be small. As just one piece of indirect evidence, I will note that the labor force participation rate of prime-age workers is lower in the United States than in many other developed countries, despite those other countries’ more expansive safety nets. It is also true that lower benefits would allow for a combination of smaller deficits and lower taxes, which would increase overall GDP. But the income gains that might result for lower-income people would not be large enough to offset the loss in their benefits. It is further true that the War on Poverty has not succeeded in eliminating poverty. However, the federal benefits we have provided have been fighting against the effects of technological change, globalization, and other forces that have depressed wages for less-skilled people, and one cannot realistically expect the amount of benefits we have provided to have overcome those forces. Moreover, there is a growing body of evidence that children in lower-income families that receive certain government benefits do better in the labor market when they grow up than children in families that do not receive those benefits.
I am not arguing that safety net programs are perfect as they stand. We can and should make changes to improve them. However, we should not pretend that those changes could reduce government spending significantly without hurting the people affected.
Fifth, we should support people’s incomes and strengthen social ties by increasing federal investment in infrastructure. Under the current caps on annual appropriations, federal investment in infrastructure -- such as highways, mass transit, and water treatment facilities -- will soon be smaller as a percentage of GDP than at any time in at least the 55 years for which we have comparable data. That is not forward-looking, growth-oriented policy. Additional federal investment in infrastructure would raise future output and income. Just maintaining the traditional amount of investment relative to the size of the economy would require a substantial increase in the caps on appropriations. Moreover, we should probably increase federal investment relative to its traditional amount, because interest rates are very low and will probably stay below their historical average for an extended period.
Public infrastructure can be especially important for the well-being of lower- and middle-income people because they are less able to use private substitutes for public services. Higher-income people can use private cars when mass transit is poor, they often have more flexible work schedules and can arrange for more home deliveries when roads are congested, and they can buy private water when public water is unhealthy. So, poor infrastructure tends to divide well-off and less-well-off Americans, while good infrastructure brings us together.
Sixth, we should support regulatory policies that protect people from businesses that use their market power, greater information, or stronger legal or technical skills to disadvantage their customers. One example is to stop providing federal financial assistance for students to attend colleges that generally do not equip students to find better jobs but just leave them with significant debt. This is predatory behavior that the Obama administration decided to stop abetting but the Trump administration decided to continue abetting. Another example is that the Consumer Financial Protection Bureau should continue to enforce standards for transparency of debt collection, mortgage lending, and other interactions between households and businesses. A third example is that the federal government should enforce antitrust laws more vigorously, especially in light of increasing economic concentration among U.S. businesses and a step-up in profits that may have resulted at least in part from that increase in concentration.
In sum, my six recommendations for economic policy are the following: to increase public investment in education and training for people who do not have good access today; to improve jobs that are often held by people with less education and training; to buffer the adverse effects of international trade and immigration on some people’s incomes; to not cut public support for lower- and middle-income people; to increase federal investment in infrastructure; and to support regulatory policies that protect people from unfair business practices.
You may be wondering at this point what I think the prospects are for my recommended policies to be adopted. The answer is that I think the prospects are quite poor in the near term, but hopefully much better over time. I am afraid that, in the near term, policymakers will be completely ineffective at making our economic system fairer for lower- and middle-income Americans, and indeed will probably make the system less fair. So, let me spend several minutes describing what I think will actually happen in economic policy during the next few years, and then I will stop to hear your perspectives.
Because President Trump campaigned on policy views that are often described as “populist,” it may be surprising that I expect policy changes in the next few years to hurt lower- and middle-income Americans. There are two broad reasons for my expectation. The first is that the Trump Administration is not effective at formulating policy. The president is not personally knowledgeable about policies or policymaking, most of the people he has appointed to key positions are not knowledgeable about policies or policymaking either, and he has appointed no one to many key positions so the large gaps in knowledge of other officials will not be filled by any one. As a result, the Trump Administration’s ability to shift policies in any direction is limited.
The second reason why I expect policy changes to hurt lower- and middle-income Americans is that key members of the Trump administration and key Republican leaders in Congress are not very populist in their views at all. Instead, these people are committed to traditional conservative policies, and those policies do not effectively address the problems in our economic system that I have discussed. For example, whatever one thinks about the impact on economic growth of reducing the top personal income tax rate in 1981, the impact will be much smaller today because the top tax rate is lower. In addition, whatever one thinks about the desirability of tax-rate reductions in general, combining such reductions with cuts in federal benefits of the magnitude seen in budget proposals from the administration and Congressional Republicans will clearly hurt, not help, lower- and middle-income Americans. Indeed, whether the president himself is populist or not is difficult to evaluate: As a candidate, President Trump promised to maintain health insurance for nearly all Americans, but as president, he supported legislation that would have increased the number of uninsured Americans by roughly 20 million.
Against that backdrop, here is what I expect to happen with tax policy, spending policy, regulatory policy, and trade policy in the next few years.
For taxes, I think the most likely outcome is a prolonged debate about comprehensive tax reform that ends in a straightforward tax cut early next year. Broad tax reform poses unpopular tradeoffs. Almost everyone endorses the general idea of a broader tax base with lower tax rates, because that would be simpler and more efficient -- but when we have to decide exactly how the tax base should be broadened, almost everyone sticks up for the tax breaks that benefit them. That is the fundamental reason why tax reform occurs so rarely, and there is no sign that the Republicans have overcome this problem and are converging on any specific reform proposal that might be enacted. One possibility is that the whole effort just collapses and there are no changes in tax policy, but the political penalty for making no changes would be so large at this point that I expect some tax changes will be enacted. The tax changes that are most likely are cuts in tax rates, including an incentive for American firms to bring back to the United States some of their accumulated overseas earnings, a modestly lower corporate tax rate,and some reductions in individual tax rates, especially because it is politically difficult to cut taxes on business and not on individuals. I think the tax cuts will accrue mostly to people higher in the income distribution, without much gain for others.
For the spending side of the budget, the Trump administration and previous House Republican budget resolutions have proposed dramatic cuts to federal services and benefits, but I do not expect such cuts to occur. Many of the proposed cuts have not been specified carefully. Some changes would require 60 votes in support in the Senate, which would be very difficult for the Republicans to achieve. Other changes would require only 50 votes, but will be much less appealing to many Republicans up close than they seem from afar, because people would be hurt by those cuts and would complain. So, I think that fairly little will happen to federal benefits.
Similarly, the proposed cuts in federal services -- like infrastructure investment, education and training, health research, diplomatic efforts, and so on -- would require 60 votes in support in the Senate, but they will not be supported by any significant number of Democrats or even by many Republicans because most specific cuts are much less popular with their constituents than is the abstract concept of cuts. Therefore, I expect that Congress will legislate lower limits on future spending for nondefense activities to fit the rhetoric of spending restraint, but will not cut nondefense spending by much today -- and then will not carry through with those lower limits when the future arrives. However, I see no prospect of a significant increase in infrastructure spending, as the president has sometimes urged. On balance, my guess is that we will see a greater amount of tax reduction than spending reduction, putting federal debt on a steeper upward trajectory than we would experience under current law.
For regulatory policy, I expect that we will see notable changes in regulations that are controlled by the Trump administration but very little change in law that would require Congressional approval. Legislation to change regulatory policy would require 60 votes in the Senate, which the Republicans would have great difficulty in obtaining because Democrats would be almost completely opposed. But the Obama administration used executive actions up to -- and in the eyes of some observers, beyond -- what was permissible under law, and the Trump administration will try to act strongly in the opposite directions. On energy and the environment, the rollback of Obama administration plans will be somewhat limited by the cumbersome nature of the regulatory process (which affects rolling back regulations as well as imposing them). However, significant rollback will probably occur. On financial markets and institutions, there is a reasonable consensus among most regulators about rolling back some aspects of the implementation of the Dodd-Frank legislation of 2010. However, most of the regulators think that significant changes from the pre-crisis regulatory regime were warranted and do not think that the tighter regulation of recent years has been a significant hindrance to economic growth, so I do not expect a big rollback here.
For trade policy, I do not expect a broad trade war, but I do think there will be protectionist changes in policy. President Trump has argued for decades that imports are damaging to the U.S. economy and that international trade agreements have systematically hurt U.S. interests, and his concerns are consistent with concerns we have seen in this country for decades even if previous presidents have not generally talked this way. So, I expect some renegotiation of the North American Free Trade Agreement (or NAFTA), I do not expect the Trans-Pacific Partnership (or TPP) to be resurrected, and I expect that tariffs and other tools will be used more assertively to block imports in some circumstances. Some of these shifts will probably benefit certain lower- and middle-income people, but others will probably have the opposite effect.
That concludes this brief summary of my outlook for economic policy during the next few years. As important as the issues that I think will be on policymakers’ agendas are the issues that I think will not be on their agendas -- and not be on their agendas in part because the bandwidth for policy debates is limited and that bandwidth is being taken up by debates that are stale and simply not constructive. As one vivid example, Congress spent much of the past seven years considering changes in health policy that would hurt lower- and middle-income people -- and even though such changes now seem unlikely to be enacted, we have still wasted a tremendous amount of time and energy that would have been better put to other issues in health policy or to other areas of policy altogether. Therefore, I am skeptical that the important changes in economic policy we need will be adopted soon. However, the need is so great that I am optimistic we will come back to them before too long.
Thank you, and now I would like to hear your perspectives.