Center for American Progress

Put the Middle Class Front and Center to Build a Strong Recovery

Put the Middle Class Front and Center to Build a Strong Recovery

GDP Numbers Suggest House Republican Budget Takes Wrong Approach to Growth

Adam S. Hersh picks apart the latest GDP numbers and concludes a healthy recovery requires rebalancing from the finance industry and the wealthy to middle-class families.

A trader works on the floor of the New York Stock Exchange. Financial sector profits are booming while the middle class continues to be squeezed and the wealthy capture the majority of the economic gains. (AP/Mark Lennihan)
A trader works on the floor of the New York Stock Exchange. Financial sector profits are booming while the middle class continues to be squeezed and the wealthy capture the majority of the economic gains. (AP/Mark Lennihan)

New numbers from the Commerce Department today show that government fiscal belt-tightening is constricting the U.S. economic recovery as household spending and business investment try to take flight. Had government outlays for public services and investments remained constant the economy likely would have grown at 2.9 percent or more in the first quarter of 2011 rather than a tepid 1.8 percent. The lesson is clear: To get the economy back on solid ground we need policymakers to get their priorities straight. Forging a competitive, balanced economy starts with putting the middle class back at the foundation of economic growth.

Growth of gross domestic product, or GDP—the sum of all goods and services produced in the United States minus imports—slowed to four-tenths its pace in the final quarter of 2010. But this disappointing growth performance is just the tip of the iceberg. Underlying data illustrate that fundamental imbalances remain in the U.S. economy: The middle class is being squeezed while the wealthy are capturing a disproportionate share of the economic gains, and financial profits are soaring.

This report also comes at a time when Republicans in Congress just passed a budget plan that will further steal wind from the sails of economic growth and job creation by draining investments from education, infrastructure, and science and research. It also burdens the middle class with tax hikes and higher health care costs to pay for tax cuts for the wealthy. The Republican plan does not tackle the imbalances that impede a healthy and stable economic recovery.

The economy depends on the middle class. Household consumption comprises more than 70 percent of total GDP, and it provides the broadest measure of the well-being of families in the United States. Despite the deepest economic downturn since the Great Depression, critical government supports to those hit hardest by the recession helped maintain consumption and stabilize the economy. While consumption by households has been growing moderately for almost two years, consumption on a per person basis still remains 1.4 percent below its pre-recession level in inflation-adjusted terms. (see Figure 1)

Family budgets are being squeezed on several fronts. Average (median) inflation-adjusted incomes for families have fallen by more than $3,000 since 2000. Rising gas and food prices, up almost 28 and 3 percent respectively over the past year, are pinching families even as prices on most other items—including housing—are flat or declining.

As a result, the personal savings rate is once again declining, meaning it will be more difficult for families to rebuild their retirement wealth and save for a home or a college education. Making matters worse, a number of state governments are cutting unemployment benefits and other supports—part of the fiscal contraction that is holding back growth.

While middle-class families struggle to keep up it is clear who is capturing a disproportionate share of the economic pie. After being bailed out under President George W. Bush’s Temporary Asset Relief Program, or TARP, and receiving extraordinary supports from the Federal Reserve, profits in the financial sector are running an estimated 56 percent above their pre-recession level after adjusting for inflation.

In contemplating the staggering imbalance between the fragile situation of middle-class families and outsized financial profits, it is important to bear in mind that the financial system has not been performing its intended function—directing economic resources to the most productive investments in the nonfinancial economy. Instead, for much of the past decade, the financial system misdirected resources into an $8 trillion real estate bubble. But even after trillions of dollars in bailouts business investment remains 11 percent below where we were before the recession. The financial system still isn’t doing what it’s supposed to do—but it is getting rich not doing it.

The Republican solution to the fragile economic recovery—as envisioned in the budget plan passed two weeks ago in the House of Representatives—is to force more government fiscal contraction, take money out of middle-class pockets, block funding that implements financial reform, and disinvest in the building blocks of a productive, high-growth economy—all while still failing to balance the budget.

Policymakers should focus on reversing this upside-down economy and continuing stabilizing support to those hit hardest by the downturn. They should also strengthen the sectors where we see bright spots for growth: Today’s report confirms anecdotal evidence of reviving manufacturing across all regions of the country, helped by steady improvement in the U.S. dollar’s international competitiveness. Durable goods sales grew by 10.6 percent, exports grew 7.8 percent, and motor vehicle output contributed 1.4 percentage points to overall growth.

Adam Hersh is an Economist at American Progress.

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Adam Hersh

Senior Economist