Continue reading this on our app for a better experience

Open in App
Home Capital Investing strategies

Consistent downtrend in income mobility… a gloomy future ahead?

Tong Kooi Ong
Tong Kooi Ong • 7 min read
Consistent downtrend in income mobility… a gloomy future ahead?
SINGAPORE (August  6): Anaemic wage growth is a global phenomenon — and one that has stumped central bankers and economists. 
Font Resizer
Share to Whatsapp
Share to Facebook
Share to LinkedIn
Scroll to top
Follow us on Facebook and join our Telegram channel for the latest updates.

SINGAPORE (August 6): Anaemic wage growth is a global phenomenon — and one that has stumped central bankers and economists.

Economics 101 teaches us that when unemployment drops, employers competing for a smaller pool of workers will have to pay higher wages, and that will eventually push up inflation.

This inverse relationship is the core of many economic models, including the Phillips curve, which the US Federal Reserve embraces as part of its policy decision-making. But over the past two decades, actual economic statistics suggest that this correlation has broken down.

In the US, the unemployment rate is now hovering near the lows last seen in 2000 and, further back, in the late 1960s. In Japan, there are 1.6 openings for every job seeker. Yet, wage gains have been cool so far.

Many plausible explanations have been put forth as to the reasons this is so.

A lengthening life span and, thereby, longer productive work life and a delay in retirement mean fewer opportunities for the younger generation to move up.

Politicians often use globalisation and immigration as the whipping boys for stagnant wages.

Digitalisation and technology have diminished the individual worker’s bargaining power under the threat that automation, artificial intelligence and robotics can, and will, replace human jobs.

More recently, the rise of the gig economy — increasingly a lifestyle choice for millennials — creates a readily available pool of talent outside of the formal workforce that companies can tap for outsourcing and to tide over peak requirements. Often, retirees join this growing segment of freelancers, part-time and temporary job seekers, where wages are generally lower.

While the issue and problems associated with anaemic wages may have come to a head after the global financial crisis, a study undertaken by academics from Stanford University, Harvard University and the University of California, Berkeley titled “The Fading American Dream: Trends in Absolute Income Mobility Since 1940” (reference: Equality of Opportunity Project) indicates that this phenomenon has been happening for far longer (see Chart 1).

How to read the chart:

• The x-axis is the year in which the child is born. For instance, a child born in 1940 would be 30 years old in 1970 and a child born in 1985 would be the same age in 2015.

• A comparison is done on how much the child and his/her parents are earning at the age of 30. The study covers a 50-year period from 1970 to 2015.

• The y-axis denotes the rate of absolute upward income mobility, which is defined as the percentage of children that earn more than their parents.

• Sensitivity analyses were also done using different price deflators, income definitions and age as well as subgroups by gender and states and so on to test the robustness of the results.

The research paper studied and compared the income distributions for children and their parents at the age of 30.

The findings are startlingly sobering. In the 1940 birth cohort, the average rate of absolute mobility is 92%. This means that nearly all children grew up to earn more than their parents regardless of their parental income. For those in the 1984 cohort, however, the percentage has fallen sharply — only 50% grew up to earn more than their parents.

In fact, the rates of absolute income mobility were in a consistent downtrend over the last 50 years. The steepest drop came between the 1940 and 1964 cohorts, stabilised briefly for those born in the late 1960s and early 1970s before resuming a steady decline.

The obvious question is why? The study suggests two plausible reasons.

One, the rate of decline is due to a slowdown in the pace of economic expansion in the US (see Chart 2) over the same period.

The steepest drop in income mobility (between the 1940 and 1964 cohorts) matches slower US GDP growth rates, which averaged only 3% a year from 1970 to 1994, down from about 4.4% a year from 1950 to 1969.

Stabilisation in the rates of income mobility for those born in the late 1960s and early 1970s corresponds to the economic boom in the late 1990s and turn of the century, before the dotcom bust.

The decline in income mobility resumed after this brief period, which again mirrors weak GDP growth rates. From 2000 to 2004, the US grew just 2.7% on average, and only 0.9% between 2005 and 2009. As we are well aware, the recovery since the global financial crisis, though spanning more years, was tepid by historical yardsticks (2.2% average annual growth from 2010 to 2017).

According to the study, counterfactual scenarios indicate that lower GDP growth accounts for only 29% of the decline. The study found that the growing inequality of distribution of growth in the country was, in fact, the larger reason behind the drop in income mobility.

To summarise the two main findings from the published paper:

• Absolute income mobility has fallen across the entire income distribution, with the largest declines for families in the middle class; and

• Most of the decline in absolute mobility is driven by the more unequal distribution of economic growth in recent decades rather than the slowdown in GDP growth rates. The rise in inequality and the decline in absolute mobility are closely linked.

The study concluded, “Achieving rates of absolute mobility above 80% under today’s income distribution would require sustained… real GDP growth above 6.4%, well above the historical experience of the United States since World War II.”

Although this study is based on developments in the US, where data is most readily available, the phenomenon is observed worldwide.

Stagnant wage growth, especially for the low-middle class, is of critical importance and has wide implications for governments and society. Indeed, we have witnessed global political instability and existing establishments swept from power by the rise in populism.

The consumption boom underpinned by a growing middle class (first in developed nations, then in emerging countries) has been a key driver for economic growth in the past. Lower-middle-income households typically consume a higher proportion of their disposable incomes whereas higher-income households tend to save-invest more.

But widening wealth disparity and the inability to move up the income ladder is threatening to upend this — by eroding spending power and suppressing aggregate demand growth. Unaddressed, this trend will eventually be a drag on the global economy.

The evidence does paint a gloomy picture and augurs badly for the future of global economic growth. But is this necessarily so? What can policymakers do to improve the livelihood and betterment of the next generation? We will address the potential solutions in future issues.

Stocks in the Global Portfolio lost 1.4% in the past one week. This pared total returns to 4.7% since inception. The portfolio is still outperforming the MSCI World Return index, which is up 3.4% over the same period.

Tong Kooi Ong is chairman of The Edge Media Group, which owns The Edge Singapore

Disclaimer: This is a personal portfolio for information purposes only and does not constitute a recommendation or solicitation or expression of views to influence readers to buy/sell stocks, including the particular stocks mentioned herein. It does not take into account an individual investor’s particular financial situation, investment objectives, investment horizon, risk profile and/or risk preference. Our shareholders, directors and employees may have positions in or may be materially interested in any of the stocks. We may also have or have had dealings with or may provide or have provided content services to the companies mentioned in the reports

Loading next article...
The Edge Singapore
Download The Edge Singapore App
Google playApple store play
Keep updated
Follow our social media
© 2024 The Edge Publishing Pte Ltd. All rights reserved.