GOODBYE, MIDDLE CLASS, Part 5: Credit Debt. Or, The Only Way We Get By
"Debt is the fatal disease of Republics, the first thing and the mightiest to undermine governments and corrupts the people." --Wendell Phillips
In The Tyranny of Dead Ideas, Fortune editor Matt Miller explains that much of our thinking about the current economy is outdated. One such example: The idea that our kids will earn more than their parents.
This core American value may have been true historically, but today there are 100 million Americans who now live in families earning less in real terms than their parents did at the same age.
African Americans have been hit even harder than whites. “Roughly 45% of blacks born into solid middle class families had lower incomes than their parents by 2007,” reports Hedrick Smith in Who Stole the American Dream?
Miller explains that after World War II, “From 1945 until the early 1970s, the U.S. economy grew at an unprecedented rate. Productivity…which determines earnings and living standards, surged. Real incomes doubled in a generation. Americans at all income levels shared in the gains. Poverty rates fell dramatically. College attendance and graduation rates soared.”
This golden age was “the result of the United States being the only economy left standing after a devastating global war,” Miller says. “By 1950, though most of the reconstruction of Europe and Japan had been completed, and the United States still accounted for 60% of the output of the seven biggest capitalist countries. Foreign competition was virtually non-existent…[Here in America] new highways spawned new suburbs and a building boom. Meanwhile, the federal government, pushing full employment and subsidizing the health and pension benefits increasingly offered by U.S. firms, made it a great time…to be an American worker.”
A number of other institutions helped ensure that prosperity was broadly shared. Labor unions, a robust minimum wage, progressive taxes, and a sense of restraint on corporate boards regarding the salaries of chief executives all contributed to a sense of a shared economic destiny.
It was during this prosperity that the idea of the next generation being better off was realized.
However, "Property and markets rest on government and law," writes Jacob S. Hacker in Winner-Take-All Politics, "and they have to be restrained and limited by law. Without such restraints and limits, greater economic inequality will lead to greater political inequality, which in turn, will lead to government policies that reflect the interests of those at the top."
When we changed economic policy in the 1970s and 1980s, we also changed our intergenerational economic mobility. Thus, the assumption that we will be better off than our parents no longer holds true.
So while the comfortable chastise the poor for not living within their means, the reality is that we are simply trying to maintain the same standard of living as our parents.
In Strapped: Why America’s 20- and 30-Somethings Can’t Get Ahead, journalist Tamara Draut explains:
“When our parents [the baby boomers] were starting out, three factors helped smooth the transition to adulthood. The first was the fact that there were jobs that provided good wages even for high school graduates… if you wanted to go to college, it wasn’t that expensive and grants were widely available. The second was a robust economy that lifted all boats, with productivity gains shared by workers and CEO’s alike. The result was a massive growth of the middle class, which provided security and stability for families. Third, a range of public policies helped facilitate this economic mobility and opportunity: a strong minimum wage, grants for low-income students…a generous unemployment insurance system, major incentives for home ownership, and a solid safety net for those falling on hard times. Simply put, the government had your back.”
That world no longer exists.
According to Tamara Draut, “the types of jobs available have changed dramatically. As the economy has transitioned away from manufacturing industries and toward service industries, the pay and quality of jobs have changed as well…Feeling pressure from foreign competition, many companies slashed manufacturing jobs permanently. As a result, many of the high-paying blue-collar jobs were no longer around for Generation X. On top of that, unions began to disappear and the minimum wage lost ground against inflation, leaving young workers without college degrees in a serious pinch.”
But that doesn’t make life for those with a degree any easier.
Today’s college grads have amassed more debt than any generation of graduates prior, earning less than the college grads of thirty years ago, and becoming the first generation to earn less than their parents, reports Draut in Strapped.
The majority of debt in the U.S. comes from housing and increasingly, student loans.
Today, tuition prices have soared. Federal aid has been reduced. Student loans have created a debt-for-diploma system that stunts most young adults’ economic growth.
“College students today are graduating on average with close to $20,000 in debt. Those who take the plunge into graduate school can plan on carrying about $45,000 in combined student loan debt. Those who want to be lawyers or doctors will be lucky to escape with less than $100,000 in debt,” warns Draut.
“Back in the 1970s, before college became essential to securing a middle-class lifestyle, our government did a great job of helping students pay for school. Students from modest backgrounds received almost free tuition through Pell grants, and middle-class households could still afford to pay for their kids’ college.”
According to Devin Fergus at The Washington Post, “Today’s student aid crisis has its roots in the 1980s. In 1981, the Reagan administration, with a coalition of congressional Republicans and conservative Democrats, pushed through Congress a combination of tax- and budget-cutting measures. No federal program suffered deeper cuts than student aid. Spending on higher education was slashed by some 25% between 1980 and 1985. In raw dollar figures, cuts totaled $594 million in student assistance and $338 million in Pell grants. Students eligible for grant assistance freshmen year had to take out student loans to cover their second year. For middle-class families, eligibility was changed as well. Low-cost, low-interest, subsidized federal loans were limited to families with household incomes of less than $32,000, regardless of family size. Effectively, these changes shifted the federal government’s focus from providing students higher education grants to providing loans.”
This should come as no surprise, since Reagan as governor of California called for an end to free state college tuition and demanded a 20% across-the-board cut in higher education spending by declaring the state will no longer “subsidize intellectual curiosity.” Reagan not only demonized campus protestors as “brats,” “freaks,” and “fascists,” but even demanded legislative investigations into communism and sexual misconduct at California universities in order to punish the “hippies, radicals and filthy speech advocates.”
Draut explains that in the 1960s and 1970s, the U.S. strove to address the structural inequality and lack of opportunity. The economy and public policy worked hand in hand to make a middle-class life possible for millions of young families. During the 1960s, the U.S. increased the minimum wage, ensuring that anyone who worked full-time would not be poor.
Today, the value of our minimum wage has fallen by more than 40% since the late 1960s, when Congress passed the Higher Education Act, establishing federal financial aid systems. A few years later, Congress redoubled its efforts to ensure that low-income students could afford college by creating the Pell Grant, which initially covered most of tuition costs, but today covers very little.
Tamara Draut explains the Debt-for-Diploma system by reporting that, “In 1977, college students borrowed about $6 billion (in 2002 dollars) to help pay for college” compared to $56 billion in 2002.
In 2004 alone, George W. Bush cut 80,000 students off the eligibility for Pell Grants.
This could explain why education is no longer the great societal leveler of years past. At the college level, 50% of children from high-income families completed college in 2007 versus only 9% of low-income families.
Hedrick Smith explains in Who Stole the American Dream? “An important driver of these radically different educational outcomes, scholars have determined, is the significant additional time and money that affluent families invest in extracurricular learning and tutoring for their children compared with what low-income families can afford – a spending gap that has been increasing. In addition, the quadrupling of average college tuition and room fees from the late 1970s to the early 2000s has put teenage children of average middle-class families at a large financial disadvantage.”
To make things worse, Congress changed the qualifications for student aid from need-based to achievement based, which translates to more Upper Class whites getting free aid and fewer minorities from poorer school districts.
While college tuition soared, post-college paychecks took a nose-dive.
“In 1972, the typical earnings for males 25-34 years old with a high school diploma was $42,630 (in 2002 dollars). In 2002, the typical earnings for high school grads had dropped to $29,647.”
These dwindling salaries and rising costs mean less money to contribute to 401Ks, and more credit card debt, tied directly to the earnings crisis.
And because of our deregulated credit card industry, the interest rates are that of loan sharks.
According to scientist Cathy O'Neil in Weapons of Math Destruction: How Big Data Increases Inequality and Threatens Democracy, "The poorest 40% of the US population is in desperate straits. Many industrial jobs have disappeared, either replaced by technology or shipped overseas. Unions have lost their punch. The top 20% of the population controls 89% of the wealth in the country, and the bottom 40% controls none of it. Their assets are negative. The average household in this enormous and struggling underclass has a net debt of $14,800, much of it in extortionate credit card accounts. What these people need is money, and the key to earning more money they hear again and again, is education. Along come the for-profit colleges...to target and fleece the population most in need. They sell them the promise of an education and a tantalizing glimpse of upward mobility while plunging them deeper in debt. They take advantage of their pressing need in poor households, along with their ignorance and their aspirations. Then they exploit it. And they do this at great scale. This leads to hopelessness and despair along with skepticism about the value of education more broadly, and it exacerbates our country’s vast wealth gap."
While anyone can cite an example of an acquaintance living frivolously on credit, the plural of anecdote does not equal data.
The reality is that most young adults leave college with student loan debt, compounded by extra expenses, the most common being:
1. Car repairs.
2. Travel – primarily home for holidays and out-of-town weddings.
3. Apartment furniture, replacing computers, and dry cleaning.
Few people leave college with their own bedroom set or sofa or toilet brush. Even Suze Orman endorses relying on credit in your 20s, as it’s the only way to establish an adult life.
This explains why Generation Y has postponed adulthood and has now become a culture of “boomerang kids,” returning to their parents after college because of rising home costs and low starting salaries. It’s one of the only ways for them to get a leg up financially.
Because the U.S. is the only industrialized nation that refuses to provide paid parental leave or a system of affordable high-quality child care, Americans are getting married later, starting a family later, and having fewer children.
Even if you have a decent salary, the chances are great that you still live paycheck to paycheck.
Even Americans in the upper middle class have almost no financial cushion and are unprepared for retirement. Financial assets excluding home, car, or business is reflected in the charts below, including retirement funds, of which there are few.
Even a high earner who’s part of the workforce for decades has less than a year’s salary saved. Where companies used to save for their employees through pensions, now most do so through 401(k)s.
But since we are earning less and spending more on basic necessities, there is little money left to save, or to pay off debt.
Speaking of 401(k)s, as Hedrick Smith explains in Who Stole the American Dream? “In 1980, 84% of workers in companies with more than 100 employees were in lifetime pension plans financed by their employers. By 2006, that number had plummeted – only 33% had company-financed pensions. The rest got nothing or had been switched into funding their own 401(k) plans with a modest employer match. The switch offered big savings for employers… The lifetime pension system cost companies from 6%-7% of their total payroll, but they spent only 2%-3% on matching contributions for 401(k) plans.”
It’s not that Americans aren’t self-disciplined or forward thinking enough to save. It’s that they have no money to save. Their salaries have shrunk, the cost of living has increased, their taxes have increased, and corporations keep wages stagnant. There is little or no money left to put in a savings account or 401(k), and corporations have eliminated pensions, while the federal government threatens to reduce social security, the only thing keeping millions of Americans from poverty.
“The starkest indicator of mounting middle-class distress has been the sharp rise in personal bankruptcies, now an integral feature of the new economy,” explains Smith.
“The single biggest determinant of bankruptcy rate is how fast consumer credit goes up,” Robert Lawless told Congress, not that it mattered. Congress had deregulated consumer lending in the 1970s and 1980s, which flooded the market with complicated, high-interest, and potentially dangerous credit products sold to consumers unaware of the fine print. Enter credit fees and charges that add up to a quagmire of debt.
The single biggest cause of exploding debt was a U.S. Supreme Court decision in 1978 that effectively deregulated credit card interest rates. Enter a 30% charge for people who previously didn’t qualify for loans. Those who were previously too high a risk were now the most lucrative borrowers.
“More than 75% of credit card profits come from people who make low minimum monthly payments,” explains Elizabeth Warren in The Two-Income Trap. “Who pays late fees, overbalance charges, and cash advance premiums? Families that can barely make ends meet, households precariously balanced between financial survival and complete collapse. These are the families that are singled out by the lending industry, barraged with special offers, personalized advertisements, and home phone calls, all with one objective in mind: get them to borrow more money.”
Because slow-paying borrowers in financial peril were banks’ most lucrative targets, they lobbied Congress to close the bankruptcy door or tighten the terms for going bankrupt. And they succeeded.
As Hedrick Smith explains in Who Stole the American Dream? “Congress passed the Bankruptcy Abuse Prevention and Consumer Protection Act, which raised the legal and financial barriers to bankruptcy filings. As expected, the number of personal bankruptcies plunged from just over 2 million in 2005 to about 750,000 in 2006.”
But what this meant is that fewer consumers had the protection that bankruptcy offered. However, because of the Great Recession, high unemployment and massive layoffs were so widespread that even with these new barriers, bankruptcies once again reached over 2 million a year.
So what do all of these bankruptcies and credit debt mean?
“This year, more people will end up bankrupt than will suffer a heart attack. More adults will file for bankruptcy than will be diagnosed with cancer. More people will file for bankruptcy than will graduate from college… Americans will file more petitions for bankruptcy than for divorce,” wrote Elizabeth Warren in 2003.
The #1 reason homes are foreclosed in this country is because of bankruptcy.
There are many reasons people declare bankruptcy, including the loss of a job, divorce, foreclosure or loss of home value, or the poverty of retirement.
The #1 reason for bankruptcy in this country is because of rising healthcare costs (62% of bankruptcies).
Even more distressing is that 78% of those bankrupted people actually had health insurance, demonstrating just how ineffective the American insurance industry is.
According to Jacob S. Hacker in Winner-Take-All Politics, "The United States spends vastly more than any other rich nation on healthcare, both as a share of the overall economy and on a per-person basis... Canada's spending per capita is essentially half the U.S. level, yet the U.S. has fewer doctors, hospital beds, and nurses per person than the norm among rich nations."
Many Americans have fallen out of the Middle Class simply because they can’t afford health insurance. And it’s our own fault.
Rather, our government’s, that is.
Insurance providers like Blue Cross and Blue Shield were formerly nonprofits, which meant they just passed on the actual cost of health insurance to employers.
Enter Reagan and his deregulation of the healthcare industry, and presto: insurance providers could now earn profits off denying coverage to the sick and dying. Within a decade, the entire industry fell apart for everyone but the super wealthy.
Hospitals became for profit and started charging higher rates. Drug companies realized they could raise prices exponentially if they bought out their competitors with Reagan’s lax merger-and-regulations laws. And pharmaceutical companies became the most profitable business in the U.S.
These costs have been passed on to the employers, who in turn have passed the cost on to the employees. As Hedrick Smith explains in Who Stole the American Dream? “In 1980…70% of Americans who worked at companies with 100 or more employees got health insurance coverage fully paid for by their employers. But from the 1980s onward, employers began requiring their employees to cover an increasing portion of the health costs. Other employers dropped company-financed health plans entirely, saying they could not afford them. Many small businesses made employees pay for all, or most, of the health insurance costs… By the mid-2000s, only 18% of workers were getting full health benefits paid by their employers. Another 37% got partial help but had to pick up a large part of the tab themselves. The rest (45%) got no employer support.”
According to Pulitzer Prize-winning journalist David Cay Johnston in The Fine Print: How Big Companies Use Plain English to Rob You Blind, the United States “after spending more than 40% of all the money in the world devoted to health care, we rank 37th in the quality of our health care, and we still have roughly 50 million people without health insurance… In 1981…per capita health-care costs equaled 23% of the average salary of the bottom 90% of Americans. By 2007 it had risen to 49%, with all signs pointing to a growing share of the economy going to big, inefficient, but stunningly profitable health care companies.”
When government tried to solve the problem it created with Obamacare, the special interests-bought politicians decried that government bureaucracy would get in the way of healthcare for its citizens. But it was government bureaucrats who sold us out to big business in the first place.
And what did we get from it? Higher morbidity rates. Even today, the U.S. ranks 25th in the world in life expectancy, infant mortality, and immunization rates.
By the 1960s, every industrialized country had universal, government-run healthcare except the U.S. And like every other business in the 1980s, insurance companies no longer competed to provide low premiums and good service, but competed to please Wall Street with higher profits. And the easiest way to do this? Keep people who actually needed insurance from getting it. (Pre-existing conditions) The other way? Don’t pay claims. (Denied!)
But let’s get back to all the bankruptcies and credit debt.
According to the Credit Suisse Wealth Report, as of 2015, there are more poor people in the United States than in China.
Note that this doesn’t refer to income. They define poor as lacking ‘wealth’, i.e. taking into account assets and liabilities like cash and debt.
With this in mind, America has 10% of the poorest people in the entire world. Because a quarter of Americans have a negative net worth, the report states, “If you’ve no debts and have $10 in your pocket you have more wealth than 25% of Americans."
According to the Federal Reserve statistics, the total personal debt of American consumers exploded from several hundred billion dollars in 1959 to $12.4 trillion in 2011.
The Credit Suisse Wealth Report of 2015 continues, “The thing is– not only did the [American] government create the incentives, but they set the standard. With a net worth of negative $60 trillion, US citizens are just following dutifully in the government’s footsteps.”
David Cay Johnston reports in The Fine Print that the U.S. is the biggest debtor nation in the world, yet only 40 years ago before Reagan took office, we were the greatest creditor nation in the world.
Clyde Prestowitz explains in The Betrayal of American Prosperity, “The United States has accumulated such large trade deficits that its net international credit position has shifted from that of the world’s biggest creditor to the tune of about 2 trillion dollars to that of its biggest debtor, with net debt of 2.5 trillion dollars and borrowing growing at the rate of 400 to 800 billion dollars annually. Think of this as resembling the performance of a highly rich corporation such as Enron, whose sales climbed rapidly and steadily but whose financial viability finally evaporated.”
So why do we have such a huge national debt?
We’ll find out in Part 6: Our National Debt: Tax Creeps and Tax Cuts