If Donald Trump supercharges economy, who will benefit?

Donald Trump has made bold moves toward an ambitious target: 4 percent economic growth. But even if he succeeds, the working class might feel left out. 

Donald Trump’s economic plan could be boiled down to one word: growth. He reckons that the economy can grow faster – up to 4 percent a year – and put millions more Americans back to work, primarily by adopting a Reagan-style formula of sweeping tax cuts and lighter regulations.

It is an ambitious goal. The economy has averaged only 2.1 percent annual growth since 2009, and the central challenge, economists say, is not policy so much as the fact that more mature economies grow more slowly.

Yet even if Trump were to fuel a faster expansion than President Obama, there are questions about what that would feel like for American households.

By Mr. Trump’s reckoning, a thriving economy lifts all workers – and that has been true in the past, most recently during the 1990s. But many economists counter that the Reagan-era economic mantra Trump is adopting has been a primary driver of income inequality – putting more money in the pockets of the rich and upper-middle class and keeping a lid on middle-income earnings.

Today’s economy shows the continuing effects of those Reagan-era shifts, and other global trends such as automation and outsourcing, these economists add. Some households are moving up the income ladder, but since 2000 more are sliding down. And the likelihood that today’s youth will earn more than their parents – a staple of the American dream – appears to be declining.

“Because of structural changes in this economy, both from globalization and technological change, if you get 4 percent [economic] growth today, then the benefits of that growth would not be shared as equally as in past decades. That’s the core point you want to begin with,” says James Pethokoukis, a fellow at the American Enterprise Institute, a conservative think tank in Washington.

Trump's job No. 1: A roaring economy

From the start of his presidential campaign, Mr. Trump has appealed to the working class through bold promises on job creation and by touting potential gains from renegotiating trade pacts. Since the election, his transition team has emphasized tax cuts, regulatory reforms, and changes to energy policy to stimulate the economy and accelerate the pace of job creation.

There has been less emphasis on tackling the disparities that have funneled the greatest gains to the top because Trump’s team believes that the best answer to wage stagnation is a roaring economy.

“Faster growth in itself will achieve the growth in incomes in the lower income groups that need it,” says Diana Furchtgott-Roth, a senior fellow at the Manhattan Institute and a member of Trump’s transition team.

That scenario played out in the late 1990s, when a sustained boom under President Clinton translated into higher wages and longer hours and more overtime for nearly all workers. It was also a period when wage gains were seen year by year, across the board, from bank tellers to truck drivers, before a tech-stock crash led to a recession in 2001.  

For conservatives, it’s a potent message: economic growth can help the needy in ways that big government can’t. “The difference between poverty and non-poverty in America is work, and having people at work,” says Douglas Holtz-Eakin, a former director of the Congressional Budget Office under President George W Bush.

The '90s exception 

Yet the Clinton-era boom was the exception, not the rule, says Lane Kenworthy, a political scientist at the University of Arizona who studies economic inequality. “It was the only period [since the late 1970s] that we saw sustained wage increases up and down the distribution ladder,” he says.

By contrast, a smaller share of the economic gains of the mid-to-late 1980s, when annual growth averaged 4.6 percent, went to middle-class households.

The 2000s, meanwhile, offer a mixed picture. According to one analysis, they were largely a wash, in part because of the collapse of the housing market hurt most income brackets.

But a 2016 study by the International Monetary Fund found that 2000 marked a turning point for the middle class in the United States. Before that year, more middle-class families rose up the ladder than fell down. From 2000 to 2014, however, nearly all the shift was downward.

Seven years of expansion under Mr. Obama could now be starting to have an effect. Average household incomes jumped 5.2 percent in 2015 to the highest level since 2007. That suggests that Trump will be taking the reins of an economy that’s near to full employment and could deliver more gains to working families.

How to fix income inequality

But figuring out how inequality might affect economic growth is tricky.

The IMF study argues that the polarization of incomes – fewer households in the middle, and more clustered at the top and bottom – hurts economic growth, since the rich are less likely to spend their earnings. Consumer spending is the main engine of growth in developed economies.

Prominent left-leaning economists like Joseph Stiglitz argue that middle-class stagnation and soaring wealth at the top are a brake on the economy that require broader government intervention – a higher minimum wage, paid parental leave, worker protection – and more progressive taxation.

Conservatives say solutions to inequality lie in welfare reforms, workforce skills training, promoting marriage and stable families, and greater choice in K-12 education. Allowing more oil and gas drilling, as Trump proposes, would help the poor, who spend proportionately more on fuel and heating, says Ms. Furchtgott-Roth. But trying to tackle inequality by raising taxes on the wealthy risks upsetting the apple cart.

“Economic growth hasn’t risen as much as many of us would like. But some of the [liberal] solutions to income inequality would result in lower economic growth,” says Furchtgott-Roth, a former chief economist in the Department of Labor.

A fairer economy

To many Americans, what matters most is whether they have an equal shot at improving their lot – even if the rich get richer. But that no longer appears to be happening as much as it did for previous generations, according to new research into how likely children are to earn more than their parents.  

The study led by Stanford economist Raj Chetty found that nearly all households saw intergenerational gains in the postwar period. But the prospects for those born after 1940 steadily declined. Only half of children born in 1980 are making more today than their parents.

The slower growth of the US economy is important since it means the total pie is smaller. But the rise in income inequality – the share of the pie each family receives – is a much greater drag, the authors say.

This suggests that even if Trump could raise growth significantly, the gains would accrue to fewer households. Marginal tax cuts would only exacerbate the inequities.

Under Obama, high earners have been taxed more, while tax credits for the poor and middle class have expanded, along with new subsidies for health insurance. The after-tax income of the top 1 percent, which peaked at 17 percent of total income in 2007, fell to 12 percent in 2013. In 1979, before the Reagan-era tax cuts, it was 7 percent.

Conservatives have pushed back against some of Professor Chetty’s findings, arguing that he may be underestimating income gains. An alternative measure of social mobility – how likely a child born into a poor household is to become rich in their lifetime – hasn’t fallen as sharply, notes Mr. Pethokoukis. But it seems increasingly clear that the American dream of upward mobility has receded for many, and that growth alone is not the solution, he says.

“We need that tide to rise, but it might not lift all boats.”