Publications Archive • Page 25 of 29 • The Aspen Institute Economic Strategy Group

Walking the Tightrope: Variable Income and Limited Liquidity Among the US Middle Class

SUMMARY:
The Great Recession, and now the economic upheaval surrounding COVID-19, have intensified focus on this financial tightrope that many American families walk. In this chapter, author Dan Silverman, Professor and Rondthaler Chair at the W.P. Carey School of Business at Arizona State University, describes a body of evidence showing that large fluctuations in household income are commonplace both across and within years. However, these households’ reactions to shocks reveal substantial resilience despite their lack of a financial buffer. Silverman argues these facts imply that successful policies will focus on limiting the uninsured risks that families face.

Recent studies based on administrative data cast doubt on the idea that being middle class means receiving steady earnings year-to-year. In fact, tax records show that large changes in annual earnings are not rare, including for those around the middle of the earnings distribution.

How do households with little liquid savings respond to large income shocks? Silverman says that when families face financial turbulence, research finds that many briefly delay making bill payments in order to meet most of their usual consumption needs. Though potentially costly, recent studies suggest that a combination of payment grace periods, along with the tendency to pay bills when households are liquid rather than when the bills are due, allowed for little lasting damage to result from any delay in payments.

Silverman argues that these findings question long standing economic theories about the importance of precautionary saving to smooth consumption. Silverman suggests that the cost to total income or nearer-term spending in order to build up a savings buffer are not worth bearing, perhaps, because households can often use other mechanisms to get by when income is low.

In this view, Silverman argues that policy aimed at promoting greater financial security for the middle class would do better to focus on addressing the uninsured risk these households face, a feature held by traditional forms of social insurance such as public unemployment and disability. Silverman concludes by emphasizing that if reducing uninsured risks is indeed the better path, policy makers must then confront the costs of doing so, whether that cost be to the taxpayers or the workers themselves. The hope is that by providing such insurance at scale the costs will be less than those of self-insurance which, it appears, are too high for many households to accept.

Middle-Class Redistribution: Tax and Transfer Policy for Most Americans

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SUMMARY:
In this chapter, authors Adam Looney, Professor of Finance at the David Eccles School of Business at the University of Utah, Jeff Larrimore, Chief of Consumer and Community Development Research at the Federal Reserve Board of Governors, and David Splinter, an economist for the Joint Committee on Taxation, provide an in-depth analysis of after tax and transfer incomes of middle-class Americans over time.

The authors find that in recent decades, government tax and transfer policy has increasingly benefited the “middle class,” defined as the individuals in non-elderly households in the middle three income quintiles. The share of federal taxes paid by the middle class has declined over time, while their share of means-tested transfers has risen. They also document that middle-class income support is a relatively recent phenomenon. Market income—that is, amounts that individuals earn from work, running a business, or investments—and income after taxes and transfers grew together before 2000 but, since then, middle-class income after taxes and transfers has grown at three times the rate of market income.

Although middle-class market incomes have grown less quickly than aggregate income, public policies have offset some of this disparity by boosting after-tax, after-transfer income and enhancing economic security. Comparing the more comprehensive measure of after-tax, after-transfer income, Looney, Larrimore, and Splinter find that between 1979 and 2016 middle-class market income per person increased 39 percent while their after-tax, after-transfer income increased 57 percent over the same period.

Over the past few decades, transfer programs have reflected an increasingly sizable share of federal expenditures. From 1979 to 2016, the amount that the federal government devoted to human resources increased from 53 to 73 percent of the budget and from 10.4 to 15.2 percent of GDP. The middle-class benefited tremendously from these spending increases; specifically, the authors found that the share of means-tested transfers going to middle-class households increased from 27 percent to 49 percent between 1979 and 2016. At the same time, the middle class share of federal taxes paid fell from 45 percent to 31 percent.

This substantial growth in federal spending on social insurance programs was financed in part by reductions in defense spending and in part by deficit spending, while the tax reduction stemmed primarily from declines in federal income tax liabilities. With the cost of health care rising and non-transfer government spending on public goods at an historical low, the authors argue that it will be hard for fiscal policy to continue to boost middle-class income growth.

Looney, Larrimore, and Splinter also question whether it is possible to continue boosting income growth by raising new revenues from the top income quintile or top 1 percent and redistributing that revenue to the middle class. The authors present several scenarios in which taxes are increased on high-income households in order to reduce the tax burden on or finance new benefits for low- and middle-income households. While increases in progressivity and government revenues are feasible and would be effective at reducing poverty among low-income households, they find that this approach has significant limitations when the intent is to boost the income of the broad middle class. In one example, they show that the top one percent could not pay for a 10 percent increase in middle-class income, because the necessary marginal tax rate would exceed 100 percent.

Harnessing the Power of Markets to Solve the Climate Problem

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SUMMARY:
In this chapter, Gilbert E. Metcalf, the John DiBiaggio Professor of Citizenship and Public Service and Professor of Economics at Tufts University, argues that a carbon tax should be the centerpiece of any portfolio of policies that aim to achieve zero net emissions. However, a carbon tax alone is insufficient to achieve zero net emissions, and argues that regulation, federal support for innovation, and reforming current energy tax incentives and regulatory rulemaking should be part of a comprehensive climate policy agenda.

Metcalf describes key decisions that policymakers face when designing a federal carbon tax:

Tax base and point of taxation: Because the carbon content of fossil fuels is consistent at each stage of the process, they can be taxed at any point along the chain from extraction to consumption, allowing for flexibility when administering the tax.
Tax rate: Economic efficiency dictates that the tax rate would be set equal to the social marginal damages from emissions—so-called the Social Cost of Carbon (SCC). Pinning down the SCC is difficult given its reliance on key parameters that are subject to considerable uncertainty: climate sensitivity, the discount rate, and the magnitude of economic damages. Given these three areas of uncertainty, other approaches, such as revenue targeting and emissions reduction targeting, will also be relevant for setting the tax rate.
Trade and competitiveness: A carbon tax can be designed on a production or consumption basis. Although levying a consumption-based tax is more challenging than a production-based tax, consumption-based taxes mitigate the competitiveness concerns raised by production-based taxes. To simplify the consumption-based tax, Metcalf suggests imposing a tax on select carbon-intensive goods based on the carbon content of like-domestically produced goods.
Achieving desired emissions reductions: Metcalf proposes a tax mechanism called an Emissions Assurance Mechanism (EAM) designed to achieve any desired emission-reduction goal. Once a carbon tax legislation is enacted with an initial tax rate and default growth rate, the EAM tracks cumulative emissions and automatically adjusts the tax rate as needed. The EAM avoids the need for Congress to continually revisit the tax rate over time.
Use of revenue: A carbon tax could collect significant amounts of revenue which could be used in numerous ways. Metcalf argues that the tax should be implemented in a revenue-neutral way, including, potentially, progressive household rebates. It could also be used to finance Green New Deal initiatives though he argues that the currently low interest rates make borrowing for green infrastructure investments highly attractive.
State-level policies: Most state-level carbon pricing programs are cap-and-trade programs. Implementing a carbon tax will drive down allowance prices in state or regional programs and so affect revenues. Congress should consider how best to address potential revenue losses to these programs so as not to punish states that are early movers on climate policy.

Other policies will be necessary in addition to carbon taxes to achieve a significant reduction in the country’s GHG emissions. Metcalf highlights the need for policies that regulate emissions not amenable to taxation, such as agricultural emissions of methane. He also recommends updating current environmental regulations of GHG emissions, supporting research and development, and addressing the regulatory and institutional barriers, such as state resistance to interstate transmission lines. Metcalf stresses the importance of providing consistency in regulatory analysis — most notably the calculation of damages from GHG emissions and the treatment of co-benefits — as well as eliminating many energy-related tax breaks.

Finally, Metcalf discusses the economic evidence on the macroeconomic impact of a carbon tax. Economic analysis shows that while job creation or economic growth would not be adversely affected, carbon taxes would substantially change the composition of jobs in the economy. However, a carbon tax could raise $2.2 trillion net revenue over a 10 year window and modest amounts of this collected revenue could be used to ease the burden of this change and help the U.S. efficiently transition to a new economy.

A Renter Safety Net: A Call for Federal Emergency Rental Assistance

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SUMMARY:
For decades, escalating housing costs have outpaced income growth for middle- and lower-income earners. As a result, millions of American households struggle to accumulate a savings buffer with the little income they have leftover after paying rent, and are therefore left vulnerable to evictions or forced moves when unexpected financial shocks occur. In this chapter, authors Ingrid Gould Ellen, Paulette Goddard Professor of Urban Policy and Planning at the NYU Wagner Graduate School of Public Service and Faculty Director of the NYU Furman Center, Amy Ganz, Deputy Director of the Economic Strategy Group, and Katherine O’Regan, Professor of Public Policy and Planning at NYU Wagner and Faculty Director of the NYU Furman Center, document the costly externalities that such housing instability poses and propose the creation of a Federal Emergency Rental Assistance Program to provide one-time, short-term financial help to low-income renters who face unexpected financial shocks.

Although renters across the income spectrum now pay far more in rent than they did in 1970, the rising cost of rent has been particularly challenging for the lowest-income renters, given that the increase compounded pre-existing high levels of rent burden. By 2018, the authors estimate that nearly 82 percent of renters with incomes in the bottom fifth of American households paid more than 30 percent of their income on rent, and 61 percent paid more than half of their income in rent. Shrinking residual incomes mean that many rent-burdened households have a limited ability to accumulate savings and would struggle to absorb unexpected expenses or income losses.

Yet financial shocks occur frequently and may be important drivers of evictions or other forced moves. The authors emphasize that such housing instability is extremely costly, both for households and for society as a whole, and cite studies that show formal evictions elevate the risk of homelessness and long-term residential instability, and also increase the likelihood of emergency room use. However, as costly as they may be, forced moves appear relatively cheap to prevent. Emergency assistance can significantly reduce the likelihood of missed payments or eviction filings. To this point, Ellen, Ganz, and O’Regan note that donor preferences, social and fiscal externalities, and private benefits give political favor to housing assistance programs over simple cash transfers.

The authors propose the development of a short-term rental assistance program to address temporary income and expense volatility that can threaten housing stability. This tool would provide households with one-time emergency federal assistance covering rent, utilities, and other qualifying expenses in order to protect them against forced moves and evictions in the face of unexpected financial shocks. The program would be limited to renters with incomes of 80 percent of AMI or less prior to the income or expense shock, which balances the desire to target the very neediest households with the interest in serving somewhat high-income households, for whom short-term help is more likely to be sufficient to prevent a forced move.

Their federally-funded proposal complements current federal housing programs, many of which are ill-suited for addressing one-time financial shocks. Additionally, while intended to address idiosyncratic events in renters’ lives, the program could be modified and scaled up to mitigate harm during a common shock, such as the COVID-19 pandemic. The authors state that the costs of such a program would be modest relative to the benefits of stabilizing low-income renters and avoiding the cascade of other social problems (and costs) that may follow from forced moves.

AESG Member Statement in Support of Immediate Pandemic Relief

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Amidst a resurgence in COVID-19 caseloads and continuing economic devastation from the pandemic, we urge Congress to enact legislation that focuses on the core measures necessary to provide additional fiscal relief as quickly as possible and no later than the end of this calendar year.

A bipartisan relief package should include—first and foremost—additional funding to fight the virus. We also endorse assistance to individuals and families, including extended federal government income relief to unemployed individuals, enhanced benefits to households who need help buying food, and measures to help people who are facing potential eviction and homelessness because of pandemic-related income loss. Legislation should include fiscal support to state and local governments, which face budget shortfalls as a result of the pandemic while they face emergency spending needs, including much needed funding for K-12 schools to open safely. Congress should also prioritize support to small businesses, as they continue to operate under reduced capacity restrictions, weakened consumer demand, and a high level of uncertainty.

The CARES Act that was passed with bipartisan support in March 2020 provided necessary relief to millions of Americans and helped the economy rebound more quickly than expected. Many of the Act’s key provisions have already expired but are still needed. Meanwhile, the pandemic resurges throughout the country. Our nation’s leaders should act on another round of fiscal relief now. At the same time, the administration should act aggressively to deploy the unspent resources it already has to combat the virus and support businesses. Our country and economy cannot wait until 2021.

Signatories

Henry M. Paulson, Jr.
The Paulson Institute; Economic Strategy Group

Erskine Bowles
The University of North Carolina; Economic Strategy Group

Melissa S. Kearney
The University of Maryland; Economic Strategy Group

Ben Bernanke
Brookings Institution

Lanhee Chen
Hoover Institution, Stanford University

Kenneth Chenault
General Catalyst

Dave Cote
Vertiv Holdings

James S. Crown
Henry Crown and Company

Mitchell E. Daniels, Jr.
Purdue University

Dr. Sue Desmond-Hellmann
Bill & Melinda Gates Foundation and Google Ventures

Diana Farrell
JPMorgan Chase Institute

Jason Furman
Harvard University

Timothy F. Geithner
Warburg Pincus

Austan D. Goolsbee
The University of Chicago Booth School of Business

Douglas Holtz-Eakin
American Action Forum

Glenn Hubbard
Columbia Business School

Joel Kaplan
Facebook

Neel Kashkari
Federal Reserve Bank of Minneapolis

Maya MacGuineas
Committee for a Responsible Federal Budget

N. Gregory Mankiw
Harvard University

Marc Morial
National Urban League

Janet Murguía
UnidosUS

Michael A. Nutter
Columbia University School of International and Public Affairs

James W. Owens
Caterpillar

John Podesta
Center for American Progress

Ruth Porat
Alphabet and Google

James Poterba
Massachusetts Institute of Technology

Penny Pritzker
PSP Partners

Bruce Reed
Civic LLC

Robert E. Rubin
Council on Foreign Relations

Margaret Spellings
Texas 2036

Robert K. Steel
Perella Weinberg Partners

Lawrence H. Summers
Harvard University

Mark Weinberger
EY

Thomas J. Wilson
The Allstate Corporation

Robert B. Zoellick
Brunswick Group

Bringing Jobs to People: Improving Local Economic Development Policies

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SUMMARY:
Even before the current recession, local labor markets across the U.S. had large and persistent disparities in employment among prime-working age adults. Roughly 15 percent of the U.S. population, totaling 47 million people, lived in areas with employment rates at least 5 percentage points below the national average. In this Economic Strategy Group memo, author Timothy Bartik, Senior Economist at the W.E. UpJohn Institute for Employment Research, argues that large and persistent differences in employment rates across U.S. places highlight the need for local economic development policies to better promote cost-effective job creation in distressed areas.

State and local governments spend roughly $50 billion on economic development each year. Of this amount, $47 billion is spent on tax or other cash incentives for firms. Bartik argues local economic development policies can have large benefits by increasing long-run local employment rates. However, cash and tax incentives tend to be expensive, poorly targeted, and favor the largest firms, resulting in escalating costs due to competition among state and local governments. In Bartik’s view, incentives should be cut back. He argues that other local development policies, which provide businesses with customized public services, such as job training partnerships with community colleges and infrastructure development, are more cost-effective strategies for increasing long-run employment and worker productivity.

Economic development policies are most cost-effective when targeted to distressed areas, where the initial rate of employment is low. Bartik also explains that policies should be designed to promote local growth beyond the specific industries they target. Export-based industry targeting, in which firms employ workers in the local market but sell their products outside of that market, creates a multiplier effect in the local economy and avoids drawing business away from other local firms. In addition, assistance should be provided to a wide variety of industries and firms, rather than targeting only one locally dominant firm or industry.

Local political interests, lack of funding, and poorly designed policies often impede local governments from maximizing the net benefits of economic development policies. For example, most government institutions are not organized around local labor markets, which span local and sometimes state political boundaries. Because low-income areas tend to lack the funding and coordination needed for long-term investment policies, state or even federal interventions can help to maximize the benefits of such programs.

Bartik recommends state-level policy reforms to improve evaluation, promote local economic development planning, and direct resources to distressed areas. He also highlights two potential federal interventions. The first is capping the size of tax- or other large discretionary incentives awarded by state or local governments. Second, he proposes a new federal block-grant program that would be awarded to local labor markets that are 5 percentage points or more below the U.S. average in prime-age employment rates, for a 10-year period. He estimates this regional aid program would cost around $15 billion annually, or $150 billion over a decade.

The Faltering Escalator of Urban Opportunity

David Autor is the Ford Professor of Economics and Co-Chair of the MIT Task Force on the Work of the Future. This report was produced in collaboration with the MIT Task Force on the Work of the Future.

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SUMMARY:
Since 1980, college-educated workers have been steadily moving into affluent cities while non-college workers have been moving out. At the core of understanding why non-college workers (defined by author David Autor as workers without a bachelor’s degree) are no longer flocking to the cities is the question of push versus pull. Are economic forces—such as high housing costs—pushing non-college workers out of thriving cities that otherwise offer strong labor market opportunities? Or, are the opportunities offered by these places eroding—meaning that their pull is weakening? While the role of rising housing costs is widely recognized, this briefing presents evidence that employment and earnings opportunities for non-college educated workers in urban labor markets have substantially deteriorated over the past three decades.

The reversal of opportunity for non-college urban workers is the result of long-term changes in urban labor markets. Rising automation and international trade have reduced demand for middle-skill occupations that were traditionally held by non-college educated workers, such as administrative support, clerical work, and urban manufacturing. Today, urban residents are on average substantially more educated—and their jobs vastly more skill-intensive—relative to four decades ago. Yet, non-college workers in U.S. cities perform substantially less specialized and less skill-intensive work than in earlier decades—with little opportunity to develop specialized skills on the job as they once did. The gradual disappearance of urban middle-skill, non-college jobs reflects an unwinding of the distinctive structure of work for non-college adults in dense cities and metro areas relative to suburban and rural areas that prevailed in the first four post-World War II decades. And, as this distinctive occupational structure has receded, so has the formerly robust urban wage premium paid to non-college workers.

The demographic contours of occupational polarization were much more pronounced among non-white workers: Polarization among both non-college and college workers was most pronounced among Hispanics; less pronounced, but still substantial among blacks; and substantially more moderate among whites. Most disconcerting is the experience of black male college graduates. Their employment share in mid-paying occupations fell by steeply, this and was mostly accounted for by their movement into low-paying occupations. The polarization of occupational employment among urban workers was paralleled by a decline in their relative wages: the education and race/ethnic groups that saw the largest downward movement in urban versus non-urban occupational employment shares saw the largest declines in urban versus non-urban wages. Thus, for the majority of non-college workers—but especially for minorities—U.S. cities no longer appear to offer the escalator of skills acquisition and high earnings that they provided in earlier decades.

Looking ahead, the author anticipates that the current COVID-19 crisis is likely to exacerbate these adverse trends by reducing demand for non-college workers in the urban hospitality sector (i.e., air travel, ground transportation, hotels, restaurants) and in urban business services (i.e., cleaning, security, maintenance, repair, and construction) and they will not likely recover to its previous trajectory.