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Last week, I published an article examining the links between financialization, income inequality and the recent emergence of populism. My argument is that the turn toward neoliberal (“free market”) policies beginning in the 1980s, notably the financialization of U.S. economic activity, has contributed to rising income and wealth inequality and ultimately triggered the recent emergence of populist movements.
A couple of charts will underscore this argument. The first illustrates the sharp downturn in the share of income earned by U.S. workers from about 50% in 1970 to 43% today. This drop was especially pernicious during the 1970s, 1980s and the first five years of this millennium. During the 1970s, the drop reflected declining productivity growth, rising inflation, successive oil crises, the collapse of Bretton Woods, the decline in the dollar, a deep recession in 1974-1975 and finally, the exhaustion of the prior postwar political regime. That regime had successfully linked wage increases with productivity growth, as the government was committed to full employment. The post-1980 period moved in the other direction, with much greater adherence to “free market” (neoliberal) policies across-the-board, including the deregulation and liberalization of finance.
The deregulation of finance triggered a number of financial crises, and ultimately culminated in the near collapse of the global financial and economic system in 2007-2008. The circles in the chart above indicate that labor’s share of income rose during the 1995-2000 and 2003-2007 periods, in which debt-driven asset price bubbles percolated. However, when the global financial crisis occurred in 2007-2008, wealth and income for the bottom 80% of households fell sharply, with no offsetting adjustment to their debt levels.
During the Golden Age (1945-1970), wage growth was closely linked with productivity growth, as illustrated in the chart below. Wages and productivity increased at approximately the same rate from 1948 to 1973. However, wage increases decoupled from productivity growth beginning during the 1970s and the difference has widened considerably over the subsequent decades. Activity has become financialized since the early 1980s. In this period, as markets were liberalized, increasing quantities of credit were used to finance asset transactions, rather than fostering capital formation and production of goods and services. The links between labor, business and government that had existed during the Golden Age vanished as neoliberal policies were adopted.
In truth, the decision was not to neutralize labor; rather, it was to repress wages by decimating labor’s bargaining power. There was an unusual degree of aggressiveness utilized by the Reagan administration during the 1980s, and in combination with double-digit interest rates and successive recessions, the policy shift delivered a fatal blow to the previous labor-business-government compact. Labor remains in a weakened state today.
Financialization of U.S. economic activity eroded the share of income and wealth going to the bottom 80% of households. From 1983 to 2013, the share of income going to the bottom 80% of household declined from 48% to 38%, while the share of total wealth going to this segment has also fallen from 19% to 11%. Most of the wealth held by the bottom 80% is in their homes. The top 20% of households are far more diversified in their asset holdings (owning more than 90% of all financial assets, business equity, etc.). One more statistic – the top 0.1% now own as much wealth as the bottom 90%. After more than 30 years of neoliberal policies, including financialization, globalization and shareholder-value maximization, the rising level of frustration among many households in the bottom 80% begins to make intuitive sense.
In terms of the political scene, both the Republican and Democratic parties appear to be driven more by the desires of their donors than by the needs of their voters. In the case of the Republicans, the donors generally appear to favor "free markets" and further deregulation, while donors to the Democratic Party are closely aligned with Wall Street and financialization. Merging the interests of donors with those of party constituents, or else forming a third party, makes sense.
Something needs to be done to address these issues before the shift toward populism morphs into something even more dangerous. And the response should be crafted before the next financial crisis or recession arrives. Pushing for the revival of public-private partnerships represents a step in the right direction – it offers a way of engaging the wealthiest households (top 0.1% to top 10%) in helping to finance and lead a more democratic (small-d) arrangement. These initiatives must originate outside of the government – clearly, the current administration and Congress have no interest in pushing these policies. In fact, the regressive tax reform just passed by Congress relies on a neoliberal “free market” hope that corporations use the givebacks to increase investment. A more directed set of policies inevitably will be required to resuscitate real economic growth, where finance is excluded (from GDP), preferably before the next recession or crisis hits.
In response to my previous article, one reader stated that a shift to these types of policies may have to wait until the next generation. If that is the case (and I cannot entirely disagree), the bridge between now and then will be shaky, indeed. From an investment perspective, I take a long-term view. I continue to build a cash cushion locking in gains from 2017. At this juncture, given valuations and the myriad other issues, including those listed above, I have no interest in determining how to “dance while the music is playing.” I am not interested in playing a game of "chicken" with the markets. Right now, approximately 50% of my portfolio is in cash (earning between 1-2% – and yes, I am losing to inflation – but eventually expect to reenter the markets, when valuations are more enticing).
I am entirely at peace with this approach.
John Balder’s experience combines more than 25 years of work building innovative investment strategies at firms that include GMO and SSgA. He previously worked with the US Treasury and Federal Reserve Bank of New York after beginning his career with the House Banking Committee on Capitol Hill. His research has focused on the topic of financial stability and the real world relationship between economics and finance.
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