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Economic Mythmaking

By Robert J. Samuelson
Wednesday, September 3, 1997; Page A19

The stories we tell ourselves about economic and social change are often simplistic caricatures of what actually happened or what we genuinely know. We spin these fables to make some political point or buttress some seductive intellectual theory. I want to explore two current hot topics to illustrate this habit: the big jump in corporate profits (up almost 80 percent since 1991) and the sharp drop in welfare rolls (down 25 percent since early 1994). Though they seem unrelated, each has inspired twisted tales that overstate what we know and understate society's tendency – a good one – to learn from past experience.

Let's start with profits. Between 1991 and 1996, they rose from $411 billion to $736 billion, says the Commerce Department. Their share of the economy's output (gross domestic product) increased from 7 percent to 9.6 percent in 1996, the highest level since 1968. What's happened, say many commentators, is that companies squeezed wages to raise profits to these (implied) obscene levels. "Much of the rise [in profits] has come out of wages and benefits," reports the New York Times. Now there's supposedly a backlash as workers seek to recapture lost wages. The UPS strike and settlement are said to symbolize the shift.

It's a plausible theory and probably contains some truth. But mainly it distorts. Higher profits haven't generally come from lower wages and fringes. In 1996 labor compensation (wages, salaries and benefits) was 58 percent of GDP. This is only a tiny drop from the average of the 1980s (58.5 percent). The main source of higher profits seems to be lower interest payments. "Interest rates have come down, and business borrowing has decelerated," says economist Joel Prakken of Macroeconomic Advisers. Companies are paying less to bankers and bondholders and more to shareholders. Sure enough, net interest payments dropped from 7.6 to 5.6 percent of GDP between 1991 and 1996.

None of this contradicts the common impression that companies have tried to suppress wage increases and costs of all types. But the chief consequence has been to check inflation by preventing a wage-price spiral. It's possible that with unemployment so low, wages will now rise more rapidly. Either way, wage and benefit gains – after inflation – ultimately reflect gains in productivity (output per hour worked). We can't buy what we don't produce. And productivity statistics show only meager gains in the 1990s; predictably, compensation statistics don't grow rapidly either. (There are many people, including me, who think these statistics are flawed and undercount true gains. But that's another matter.)

Now switch to welfare: Since April 1994, the number of people on welfare has dropped from 14.4 million to 10.7 million. ("Welfare" refers to what was called Aid to Families With Dependent Children and is now Transitional Aid to Needy Families.) Citing these figures, President Clinton claimed that "we now know that welfare reform works" and boasted that the country has the "lowest percentage of our population on welfare since 1970." Rarely, it seems, has a reform – the welfare bill was signed only last summer – achieved such instant success.

But has it? These triumphant pronouncements (and news accounts) omit one pivotal fact: the recent welfare drop merely reversed a huge previous run-up. Between 1989 and 1994, the number of welfare recipients jumped 30 percent after years of remarkable stability. (Between 1977 and 1988, the total fluctuated between 10.3 million and 11.2 million.) Even now, the causes of this explosion are unclear. Certainly the 1990-91 recession played a part; yet the increase was three times greater than the slump could explain, concluded the Congressional Budget Office. "There's still a mystery," says Wendell Primus of the Center on Budget and Policy Priorities.

It continues. Experts didn't anticipate the present sharp drop any better than they anticipated the previous rise. Everyone agrees that the improved economy has contributed to the decline, as has the toughening of state welfare rules – more demanding work requirements, for instance. Ben Wattenberg of the American Enterprise Institute reports that the rate of out-of-wedlock births among teens has been dropping; this may have slowed new welfare cases. But the overall effects are greater than expected. We can speculate that the types of families that moved onto welfare in the early 1990s are now moving off.

Whatever happened, it doesn't yet prove that welfare reform has succeeded. Those left on the rolls probably have the bleakest prospects; they may have the poorest skills, the worst drug and health problems, the most pessimistic attitudes. Nor does the drop in recipients justify Clinton's implied claim that welfare dependency is the lowest since 1970. As Douglas Besharov of the American Enterprise Institute says, comparing welfare rolls with the entire population makes no sense, because welfare applies to families with children. And the proportion of children under 18 on welfare remains high: more than 10 percent, against 8.8 percent in 1970, figures Besharov.

What can we conclude from these cases? One lesson is that we so-called opinion leaders (politicians, pundits, advocates and ambitious academics) make too many snap judgments. Some are deliberate distortions or calculated simplifications designed to advance a career or agenda. Others reflect genuine disputes and uncertainties. I can find, for example, ample evidence to support my belief that living standards are rising. Consider: Average disposable personal income per person (after inflation) has risen 7 percent since 1991. The trouble is that such figures don't square easily with sluggish wages. Competing versions of "reality" collide.

But of course we are addicted to snap judgments. So let me end with one: Welfare reform and surging profits both reflect a tendency to hold people more accountable for their actions. Sagging profits in the 1970s and 1980s put more pressure on managers – through shareholder revolts and takeovers – to improve performance. Similarly, rising welfare rolls pushed states toward tougher rules; mothers would have to do more for themselves and expect less from government. The social climate has subtly shifted. As a snap judgment, this may be a useful insight – or just a bad guess.

© Copyright 1997 The Washington Post Company

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