Enemies of the Middle Class

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With less than one quarter of 2011 gone, we have seen the spread of three revolutions. The first is literal. It is happening in North Africa. The second is intellectual: the acceptance by large numbers of voters of a shutdown of the United States government, which is deemed to be out of control. The third is political: the willingness of state legislatures in the rust belt to remove the 70-year government subsidies to public employees’ unions.

The second revolution is getting very little publicity. A brief reference to it appeared at the end of a report on the Senate’s extension of Federal spending this week for two more weeks in order to avoid a shutdown of the Federal government, which really means a shutdown of a few minor services, such as getting a passport. A Reuters story closed with this: A Quinnipiac University poll found that 46 percent of voters believed a government shutdown would be a good thing, while 44 percent thought it would be bad. Most Democratic voters opposed a shutdown and most Republicans favor it, the poll found.

The full poll is here.

That brief reference deserves an extended analysis. If the poll is accurate, then about half the voters say they are willing to accept a spreading paralysis of government services. Somehow, I doubt that, if push ever comes to shove, half the voters would accept anything like a shutdown. They want their monthly checks. But I think it is safe to say that they would willingly accept a 25% or 30% pay cut for employees of the U.S. government as an emergency cost-cutting measure. This is a major reversal of public opinion. The Establishment has not seen this blip on the radar screen of public opinion.

Yet we also read that 60% of voters favor collective bargaining by trade unions representing government employees.

What we have here is a failure to communicate. The right brains of the voters are not fully in touch with their left brains. They want to be tough, but nice. They want to cut the deficit, but increase spending. They want to save money in taxes in order to let the government pay a living wage to government employees. This is cognitive dissonance.

Voters do not understand basic economics. This should come as no surprise. Neither do Keynesian economists, who really do believe that money spent by government – taxed, borrowed, and printed – strengthens the economy, while money saved by private citizens and corporations causes systemic unemployment and economic decline.


Elizabeth Warren is a Harvard Law School professor and a highly visible government bureaucrat. Here is Wikipedia’s description of her present career. She serves as Assistant to the President and Special Advisor to the Secretary of the Treasury on the Consumer Financial Protection Bureau. She is also the Leo Gottlieb Professor of Law at Harvard Law School, where she has taught contract law, bankruptcy, and commercial law. In the wake of the 2008-9 financial crisis, she became the chair of the Congressional Oversight Panel created to investigate the U.S. banking bailout (formally known as the Troubled Assets Relief Program).

We can safely conclude that she is a representative figure within America’s elite. In a recent interview, she was asked if she thought that the decision of Midwestern politicians – mainly, the battle in Wisconsin – to challenge the legal authority of unions representing state employees is valid. She did not answer directly – a wise decision for a political appointee. Instead, she defended trade unions in general as defenders of the middle class. The video is posted on-line. Here is a Yahoo summary of her position. Unions are one of the few institutions trying to strengthen America’s middle class by fighting for fair wages, she says. “We should be in a world in which we all are a little better off when this country produces more, not that the part left over for those who work for a living keeps shrinking, while those who manage investments get an ever bigger piece.”

She was even more emphatic in the actual interview.

She said that blaming unions in general for the problem of the middle class does not correspond with the facts. She is correct. What she failed to mention is this: union membership in the United States is under 7% of the labor force. In a recent article, I quoted from the Bureau of Labor Statistics. In 2010, 7.6 million public sector employees belonged to a union, compared with 7.1 million union workers in the private sector. The union membership rate for public sector workers (36.2 percent) was substantially higher than the rate for private sector workers (6.9 percent). Within the public sector, local government workers had the highest union membership rate, 42.3 percent. This group includes workers in heavily unionized occupations, such as teachers, police officers, and fire fighters.

Over the last four decades, unions have steadily disappeared from the private sector in the United States. They are a factor only in the government sector. So, Prof. Warren is correct: no one should blame unions in general for much of anything. They are a relic of the Eisenhower era. When you think “private sector union,” think “Hudson.”

She seemed to be implying that this decline of union power was bad for the middle class. But was it? The customers who purchased the goods and services offered to them sought lower prices. Wal-Mart did not come onto the scene by selling at higher prices. Indeed, its recent decline in domestic profitability seems to be the result of its attempt to sell some goods at somewhat higher prices.

Customers demand better deals. They benefit from better deals. Holding down retail prices was possible because the largest factor of production, labor, could be purchased at free market prices only after the government’s subsidies to labor unions were reduced by law by the so-called right to work laws. These were really “right to offer to work” laws. These laws spread rapidly after 1960. The southern states had them, so labor and employment moved south. When right-to-work laws met air conditioning, the Old South was finished. So was the more heavily unionized Old North. But that process did not start in 1973.


Individual workers compete against workers. “I’ll work for less,” says a worker. Individual employers compete against employers. “I’ll pay more,” says an employer. Out of this competition arises an array of wages.

The concept is simple, but it is not widely understood. That is because high school and college textbooks in economics and history, written mainly for tax-funded institutions, do not present an economic analysis of wage formation that begins with individual decision-making. They do not begin with the decisions of individuals. They begin with aggregates. This is the Keynesian model. Collectives determine the economy; individuals do not – not where it counts, anyway, which is at the margin.

The proponents of government-licensed coercion by trade unions, which includes all members of textbook-authorization committees, paint the free market as a place where collectives called employers compete against collectives called workers. Economic analysis does not support this theory of wage formation, but the proponents of legalized trade union coercion have always ignored economic analysis. They accept the position of the unions’ public relations departments.

Textbooks describe employers as trying to drive down wages. They never present employers as acting on behalf of customers. The employers are presented as exploiters of labor in general. But how do they exploit labor in general? By offering jobs to specific workers at specific wages. Some worker says, “I’ll work for less.” Some employer says, “You’ve got a deal.”

The textbooks do not mention the worker who is willing to work for less, but who is prevented from doing so by a union contract. They mention only the exploiting employer who somehow forces workers to accept low wages when there is no union. But he can do this only because there are takers of his offer. When one worker fills the job slot, another worker must look elsewhere. This is competition. It is basic to every area of life, beginning with marriage.

But the process also works the other way. When an employer offers too little, another employer can lure away workers by offering more. In the history textbooks, this is always presented as the result of the successful bargaining of a union. The textbook does not discuss what happens to the non-union members who are not permitted by law to make competitive bids.

Elizabeth Warren has no clue as to how the labor market works. She also has no clue about how the debt markets work. She blames the bankers for the extension of credit to consumers. Oh, woe! The poor, exploited consumers!


What these people never refer to is the Federal Reserve’s published statistics on the household debt burden. It is titled, “Household Debt Service and Financial Obligations Ratios.” This information is updated every quarter. What it shows is this: since 1980, there have been only marginal shifts in the percentage of monthly after-tax income allocated to debt repayment. Let the Federal Reserve describe the statistic.

The household debt service ratio (DSR) is an estimate of the ratio of debt payments to disposable personal income. Debt payments consist of the estimated required payments on outstanding mortgage and consumer debt.

Let us look at the numbers. In the first quarter of 1980, a recession year, the DSR for a home owner was 16.04%. For a renter, it was 24.74%. In the third quarter of 2010, the respective figures were 16.78% and 23.99%. So, for home owners, it was up by a fraction of a percentage point, and for renters, it was down a fraction of a percentage point. Big deal. Or, as the Mogambo Guru would put it, BD. (Actually, he would put it BFD.)

You can see why all of the professional hand-wringers regarding the “enormous” increase in Americans’ debt burden refuse to mention this Web page. Keep it in mind.

There is a threat from this debt: the threat of monetary stabilization by the Federal Reserve System. This would produce a recession. If the FED still refused to pump in new money, there would be a depression. If the FED refused to buy any new government debt, the FDIC would go bust, bank runs would begin, and then there would be monetary deflation. The level of today’s debt would be unsustainable. We would get Great Depression 2. But this is a problem created by the FED. The source of this threat is never mentioned by the hand-wringers. They blame the squeeze on the middle class on the banks: the extension of credit to the middle class.

Of course, whenever the banks get in trouble and stop lending to consumers, these same hand-wringers call for the FED to intervene and create new money. They call for Congress or the FED to do something to get banks lending again.

So, consumer debt is bad when privately profitable to bankers. Consumer debt is good when promoted by the government whenever bankers find credit extension unprofitable. This is the logic behind Fannie Mae and Freddie Mac. This is Keynesianism. It is the dominant position on campus.

My conclusion: these people are paid well by the government and by Establishment universities to wring their hands about the lack of government action. So, there is a constant supply of hand-wringing. The free market responds!

They never mention what should be obvious about the extension of credit, 1973–2011: the creditors extended credit because they expected the borrowers to be able to meet their monthly payments. This has proven to be an accurate forecast, with one exception: mortgage debt. Mortgage debt was extended by means of the policies of Fannie Mae and Freddie Mac, two agencies promoted by the Federal government and eventually nationalized by it in September 2008. In short, the Federal government was the culprit in the ruin of millions of middle-class families’ balance sheets. The hand-wringers nevertheless blame the banks, as if the banks were not extensions of the Federal Reserve System.

Prof. Warren never mentions any of this. Neither do her hand-wringing peers.

They regard anyone who blames the FED for all this as a crackpot. Anyone who wants the government to audit the FED is a nut case, someone intent on undermining the independence of the FED. Then they call for more regulation of commercial banking.

Cognitive dissonance is not an affliction only of the voters.


The answer to this question has been clear since the days of the little-known School of Salamanca in the sixteenth century. It was popularized by Adam Smith in 1776. This was made even more clear by Austrian School economists, beginning in the 1870s.

What makes economies grow is this: (1) private ownership, (2) future-orientation, (3) capital formation through thrift, (4) technological innovation, (5) a system of profits and losses, (6) low taxation, (7) free trade at every level, (8) the enforcement of contracts, (9) honest money, (10) the reduction of envy. This list can be boiled down into three phrases, all of which have been dominant in the history of the United States. 1. Live and let live. 2. Let’s make a deal. 3. Mind your own business.

The American middle class has seen its progress blunted ever since 1973. There are reasons for this. (1) present-orientation, (2) capital consumption through reduced thrift, (3) government-capped profits and government-subsidized losses, (4) rising taxation (Social Security), and (5) dishonest money (no gold exchange standard after 1971).

What has saved the middle class from ruination is this: (1) private ownership, (2) technological innovation, (3) free trade, (4) the enforcement of contracts, (5) the reduction of envy.

Entrepreneurship is still alive and well in the United States. It is very easy to start a company. The USA remains the richest free trade zone on earth. Generally, “live and let live” overcomes the politics of envy. “Mind your own business” is honored in the breach, although the extension of Homeland Security is undermining this relentlessly.

So, there is a war on. It’s an ideological war. The Keynesians want to reduce the extent of the second list of five. The libertarians want to increase this list and then reduce the government’s restrictions on the first five.


Your assessment of the economic future of the United States and the West should focus on the list of ten virtues of the free society. There are large segments of the elite that do not see them as virtues except when overseen by government-empowered, academically certified experts.

What is happening in the Middle East indicates that millions of people have had enough. The attitude of Americans toward a government shutdown indicates that they have also had enough . . . before any pain from a shutdown actually sets in, anyway. The fact that legislatures are ready to confront the public employee unions indicates that the last remaining stronghold of union power is about to end.

Where we are clearly losing is in monetary policy. Dishonest money is still undermining the middle class. Until that battle has ended in favor of the enforcement of contracts, the abolition of legal tender laws, and the abolition of central banking, the middle class will be on the defensive.

Conclusion: end the FED.

Gary North [send him mail] is the author of Mises on Money. Visit http://www.garynorth.com. He is also the author of a free 20-volume series, An Economic Commentary on the Bible.

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