Variability and uncertainty are the real root causes of discontent

An important article providing some metrics to an issue I have been discussing for a while: variability and uncertainty: We Tracked Every Dollar 235 U.S. Households Spent for a Year, and Found Widespread Financial Vulnerability by Jonathan Morduch and Rachel Schneider.

The US as a political and cultural system has been more antifragile than most other OECD countries. Its welfare system is thinner and more targeted than in Europe and therefore forces more adaptions than do most European countries. The reality is that you cannot, on a continuing basis, consume more than you produce. The books eventually have to balance.

Most OECD countries, the US included, have hidden how much productivity limits funding of social programs by borrowing against future hoped-for productivity increases. But many social policies actually work against productivity increases, usually by creating disincentives towards adaptation and productivity increases.

The simple truth is that most OECD countries cannot afford the existing safety nets but have avoided figuring out how to reallocate reduced spending across all the parties interested in receiving things from the state. It is an existential and intergenerational conversation in which no one comes out a clear winner other than the sustainability of the system itself.

The rising discontent of the non-elite over the past twenty years has been due to low productivity exacerbated by uncertainty and variability. The challenge is that most of our macro data hides uncertainty and variability. A statistician might look at inflation adjusted household income of $55,000 in 2017 and conclude there is not much of a problem, other than disappointed expectations, if it is the same as it was in 1997.

But those averages hide so many things. Households are smaller than they were twenty years ago so the fewer number of members have to be working harder in order to maintain the income of twenty years ago. The biggest issue, in my view, is that it ignores rising complexity, rising uncertainty, and rising variability.

The HBR article goes to these points.

Income inequality in the United States is growing, but the most common economic statistics hide a significant portion of Americans’ financial instability by drawing on annual aggregates of income and spending. Annual numbers can hide fluctuations that determine whether families have trouble paying bills or making important investments at a given moment. The lack of access to stable, predictable cash flows is the hard-to-see source of much of today’s economic insecurity.

We came to understand this after analyzing the U.S. Financial Diaries (USFD), an unprecedented study to collect detailed cash flow data for U.S. households. From 2012 to 2014 we set up research sites in 10 communities across the country. The USFD research team engaged 235 households that were willing to let us track their financial lives for a full year. We tried to record every single dollar the households earned, spent, saved, borrowed, and shared with others. We logged all transactions, whether they occurred digitally or in cash, above the table or below, in money or in kind. The households had at least one worker, and none were among the poorest or richest in their communities. Beyond that, the households were diverse: rural, urban, white, black, Hispanic, Asian, recent immigrants, and families that have been in the U.S. for generations.

Our first big finding was that the households’ incomes were highly unstable, even for those with full-time workers. We counted spikes and dips in earning, defined as months in which a household’s income was either 25% more or 25% less than the average. It turned out that households experienced an average of five months per year with either a spike or dip. In other words, incomes were far from average almost half of the time. Income volatility was more extreme for poorer families, but middle class families felt it too.

This income volatility is the result of broad shifts in the labor market. As employment in the service and retail sectors has grown, and dynamic staffing policies have spread, more workers depend on income from commissions, tips, and hourly work with fluctuating schedules. The unemployment rate has been low (under 5% nationally), but that doesn’t necessarily create stable incomes: Half of the volatility we saw was due to variation in the size of paychecks within the same job.

We found that monthly spending was just as volatile as income. On top of regular expenses, emergencies arose frequently: Cars needed repair, roofs needed fixing, tuition bills came due, and people got sick. In addition, the rising relative costs of health care, housing, education, and transportation stretched budgets and cut into the slack available to buffer shocks, especially with the well-documented stagnation of real wages for most workers. In 2015 low- and middle-income families devoted about one-third of their earnings to housing, and they have seen housing prices rise 25%–50% since the mid-1990s. The cost of a bachelor’s degree from a public college has risen by one-third from 2003 to 2014. Even with the Affordable Care Act, health care costs have continued to grow, and low-income families, unable to afford high monthly payments, have relied on plans with high deductibles, leaving them exposed to significant out-of-pocket expenses.

Yes we are richer and more productive than ever, even the lowest quintile once you take into account governmental transfer programs. And yes, while the middle class has thinned, it is mostly because people have moved up out of the middle class by becoming more productive.

This has come at the expense, though, of greater income uncertainty and variability than in the past AND greater expenditure uncertainty and variability than in the past. And when exogenous events occur, addressing them is far more complex than it used to be whether we are talking about health events, financial events, or operational events (car wreck, house fire, etc.) Each of these categories almost always entails a resolution that is much more complex (and therefore also uncertain and variable) than in the past.

The HBR article repeatedly implies that there are straightforward solutions:

The problems are too deep to solve with any one step, but there are clear ways to start helping struggling Americans rebuild a sense of control and security.

I am not so sure that there are clear ways to solve this problem but I am sure that financial variability and uncertainty are far more critical problems to be solved than income inequality.

Income inequality nicely fits a 19th century Marxist template. All you have to do is coercively take from the rich and give to the poor. As a slogan it is enticing. The repeated reality is that this always entails killing the goose that laid the golden egg. Everyone ends up poorer and worse off.

The issue is always about productivity. What the HBR research highlights is that it also about the nature of work itself, a topic towards which we have effectively turned a blind eye for too long. No, we can't bring back old well-paying jobs, but no, we can't simply retrain a laid-off coal miner to become a social media marketing maven.

How can we create more jobs, more productive jobs, and secure jobs with greater predictability and less variability? That is the real challenge. Not income redistribution or social programs such as ACA which are financially unsustainable.

Time to recognize the real problems of income and expenditure uncertainty and variability which are sapping the well-being of most Americans. Solving those real problems will be incredibly difficult, but far better that we solve real problems rather than unreal problems such as inequality, social justice, and social programs which can only survive until there is no more money to pay for them. And better to solve these problems now than to wait till they are full-blown emergencies (e.g. Greece).