Growth and the Middle Class

First Principles: Arguing the Economy

To challenge trickle-down economics, progressives need to develop a compelling story that explains how to generate economic growth. Otherwise we will remain on the defensive about whether our policies can create jobs and opportunity, and we’ll continue debating economic policy on trickle-down’s terms, which is a recipe for failure.

The problems with trickle-down are legion. But—even after producing only relatively weak growth during good times and then causing the Great Recession—trickle-down remains standing. However inadequate trickle-down is as a model for generating economic growth, elected officials fall back on it because they can understand—and sell—the simplistic logic of cutting taxes and regulations to provide incentives to workers, businesses, and investors to be more productive.

To challenge trickle-down effectively, progressives should counter with their own story about economic growth. In that story, it isn’t the rich that lead the way to growth and prosperity. Instead, it is a thriving and vibrant middle class that shows us the path. It may not seem intuitive that the concept of “the middle class” is the opposite of trickle-down and an effective counterargument against it. But it is. To understand why, we must first grasp that current thinking and rhetoric about the middle class is backwards. Politicians typically see the middle class as something to create with the gains of economic growth. But in fact, the opposite is the case: The middle class is the source of economic growth. A strong middle class provides a stable consumer base that drives productive investment. Beyond that, a strong middle class is a key factor in encouraging other national and societal conditions that lead to growth. It is a prerequisite for robust entrepreneurship and innovation, a source of trust that greases social interactions and reduces transaction costs, a bastion of civic engagement that produces better governance, and a promoter of education and other long-term investments.

Progressives often point out that in the middle of the previous century, the United States had both a strong and growing middle class and a strong and growing economy. But this story hasn’t been particularly compelling because we usually haven’t explained why these two facts are linked. Without a clear explanation for how the middle class creates growth, the story is dismissed as nostalgia for a bygone era rather than a convincing case for how the modern, global economy works.

When modern progressives have attempted to articulate a model of economic growth that challenges trickle-down, they have underplayed the centrality of the middle class. Progressives have tended to highlight issues like infrastructure, education, or manufacturing. These are important priorities, but progressives fail to bind them together in an economic narrative centered around the middle class.

In his 1936 book The General Theory of Employment, Interest, and Money, John Maynard Keynes described one of the core connections between the middle class and economic growth: that stable middle class consumption is needed to spur investment. Numerous other foundational thinkers have highlighted other connections. But the modern economics profession has largely missed the boat on the middle class, hampering progressives’ ability to challenge trickle-down. Modern economists have been caught up in free-market ideology, and their training blinds them to many of the channels that help a strong middle class produce growth. Economists are primarily trained to think of individuals as untouched by institutional or social influences, and as a result have largely ignored or discounted the positive role of institutions like government and of “non-economic” behaviors like trust and civic engagement. And modern academic political scientists, sociologists, urban planners, and scientists who study these factors have yet to weave them together into a broad economic theory.

Empirical researchers are increasingly finding that a strong middle class produces higher levels of growth. A 2005 study of economic growth in the 50 states by Ohio State University professor Mark Partridge concluded, “A more vibrant middle class…increased long-run economic growth.” And NYU economist William Easterly’s research on international economic development has found that “relatively homogenous middle-class societies have more income and growth.” But still, the theory of why this is so has not been fully explained.

By culling from canonical economists and modern researchers, we can create a compelling theory of middle-class-led growth. The core mechanisms of middle-class-led growth include stable demand, trust, good governance, and a set of virtuous, forward-looking capitalistic and proto-capitalistic behaviors.

Stable Demand

One of Keynes’s central insights was that consumption needs to be sufficient to dispose of the current output of industry in order to make new investments profitable. Investment drives economic growth, but sufficient overall levels of consumption are needed for the private sector to make those investments. This is why during a recession policy-makers seek to stimulate demand in the hopes of raising consumption to levels that encourage new investments. Unfortunately, too often this is all that is remembered of Keynes. What has largely been forgotten is that Keynes recognized the importance of the middle class in creating sufficient demand to stimulate growth. He argued that extremely unequal distributions of income depress demand and thus reduce growth.

The wealthy in unequal societies simply do not consume enough to drive a modern economy. The wealthy save more than the middle class and they consume less. This means that when incomes are stagnant or declining for most people, there isn’t enough demand in the economy to encourage productive investment—unless this demand is debt-fueled. But debt-driven consumption can’t last forever; eventually credit stops flowing—often during an economic crash, exacerbated by high levels of consumer debt. And it can take years to recover from deep recessions, slowing growth for long periods.

The lesson is clear: In order to spur sustainable economic growth, the middle class needs to be able to consume. And to do that, they need to see their incomes rise.

Trust

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