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Monday, November 16, 2020

US Household Incomes Increased More in 2018 Than in the Previous 20 Years—Combined

Why did US incomes suddenly explode in 2018 after decades of tepid growth? The answer is not difficult to find.

Image Credit: Pxfuel

For years, a school of economists has complained that US wages have been virtually stagnant for decades.

“Jobs are coming back, but pay isn’t. The median wage is still below where it was before the Great Recession,” former Labor Secretary Robert Reich said in 2015. “Last month, average pay actually fell.”

In fact, it’s not hard to find data showing that wages have barely increased since the 1970s, a figure many have used to stoke classy envy.

The truth is, there have always been problems with the claim that real wages (adjusted for inflation) have been stagnant for years. As economist Don Boudreaux has pointed out (see below), Reich and others overlook several important factors—including how inflation is calculated, compensation outside of wages such as healthcare, and the distinction between individuals and statistics.

The stagnant wage narrative was always mostly wrong. Federal Reserve data (which uses a chain-weighted price index) shows US hourly earnings have seen impressive growth in recent years.

Nevertheless, if one does choose to use Bureau of Labor Statistics data to measure family incomes over the last two decades, the picture is indeed a bit bleaker—at least it was.

Government statistics, which use the Consumer Price Index to measure inflation, show that from 2002 through 2015 median weekly earnings didn’t budge at all, but surged between 2018 and 2020.

I’m not the first person to notice this stunning wage growth. Writing in Bloomberg, economist Karl W. Smith describes the growth in income using a slightly different metric, real median household income.

“In 2016, real median household income was $62,898, just $257 above its level in 1999,” writes Smith. “Over the next three years it grew almost $6,000, to $68,703.”

Indeed, median household incomes increased from $64,300 to $68,700 in 2018 alone—an increase of $4,400. To put it another way, US incomes increased more in 2018 than the previous 20 years combined. (Household incomes were $61,100 in 1998 and $64,300 at the end of 2017.)

The question, of course, is why did US incomes suddenly explode after decades of tepid growth? The answer is not difficult to find.

The year 2017 saw massive deregulation and passage of the Tax Cuts and Jobs Act (TCJA). Estimates placed the deregulation savings at $2 trillion. But what was likely even a bigger factor was the cut businesses saw in corporate taxes.

Prior to 2017, the US had the highest corporate tax in the developed world (if not the whole world). With a top bracket of 35 percent, its corporate tax rate was higher than Communist China and socialist Venezuela.

This was a terrible policy on a number of levels. For starters, the revenue-maximizing rate of a corporate tax is 15-25 percent, which means anything above that isn’t even generating more revenue, it’s simply punitive and economically harmful. (Evidence bears this out. The United Kingdom, for example, reduced its corporate tax rate and saw revenues grow.)

Second, high corporate taxes actually hurt workers more than “Big Business.” Tax experts point out that roughly 70 percent of what businesses earn in profits gets paid to workers in the form of wages and other benefits. So it’s no surprise to see that studies show that workers bear between 50 and 100 percent of the brunt of corporate income taxes.

But the reverse is also true: cutting corporate taxes leaves companies more capital to grow and invest.

“Lower corporate taxes increase rewards for improving techniques, technology, and increasing capital investments, which increase worker productivity and earnings,” writes economist Gary Galles. “They expand rewards for risk-taking and entrepreneurship in service of consumers. They reduce the substantial distortions caused by the tax. And those changes benefit others, such as workers and consumers.”

So in 2017, when the Tax Cuts and Jobs Act was signed into law, companies saw their tax rate fall from 35 percent to 21 percent. Just that fast, businesses suddenly had more capital to spend to grow their business, improve productivity, and hire more workers—and few things attract workers more than higher wages.

Media scoffed at the possibility that corporate tax cuts would actually result in wage increases for US workers. But the data speaks for itself: Families saw incomes increase faster than at any time in generations.

Moreover, though median wages surged, showing the benefits were broad-based, every segment benefited from these wage gains.

“The lowest quintile increased their pay more than the upper quintile,” Americans for Tax Reform president Grover Norquist recently pointed out in a conversation with FEE’s Brad Polumbo.

To be sure, reducing the corporate tax rate wasn’t the sole factor for the surge in wages, but it was likely by far the biggest.

The surge in family incomes no doubt helped soften the impact of the economic destruction the world suffered in 2020 during the recession precipitated by economic lockdowns during the coronavirus pandemic.

Whether the wage gains continue may depend to some extent on the permanency of the corporate tax cut. Former Vice President Joe Biden, who appears poised to become the next US president, has signaled he’d restore the corporate tax to its 35 percent rate or raise it to 28 percent.

“Biden would make our business tax higher than China’s,” Norquist quipped. (He’s not wrong. China’s corporate tax rate stands at 25 percent.)

This appears unlikely to happen, however. Even if Biden’s claim was more than campaign rhetoric, it appears unlikely that he’ll have enough votes in the Senate to roll back the tax cuts.

Even more promising for US workers, Biden appears inclined to roll back Trump’s tariffs, which are basically taxes on Americans and imposed costs on businesses.

“When you put a tariff on steel, you make American cars not competitive anymore. You make everything made with steel less competitive,” Norquist observed. “We did a lot of damage to the American economy that way.”

If a Biden administration rolls back Trump’s tariffs while leaving the corporate tax rate in place, the US economy could build on the gains made prior to the arrival of the lockdowns.

That would be a winning formula for US workers, businesses, and the US economy.

  • Jonathan Miltimore is the Senior Creative Strategist of at the Foundation for Economic Education.