Mayday for America’s middle class

In his fresh effort to put the economy back at center stage in Washington, President Obama has issued a new challenge to congressional Republicans on the crucial issue of why the American middle class is hurting and which side can best lift average Americans out of the rut. And the president has history on his side of the argument.

Both sides agree that the middle class is financially squeezed. But they disagree on the causes and the cures, which means they are headed for a nasty showdown in the fall over government programs and the budget.

Obama is pushing the economics of growth. He blames the middle-class crunch on a “winner-take-all economy where a few are doing better and better and everyone else just treads water.” To change course, he argues, America must “make the investments necessary to promote long-term growth and shared prosperity — rebuilding our manufacturing base, educating our workforce, upgrading our transportation system, upgrading our information networks.”

By contrast, Speaker John A. Boehner and his House Republicans are preaching the economics of austerity: Cut budgets, cut government, cut benefit programs, cut everyone. In the Boehner-tea party vision, the key to growth is trickle-down economics: cutting taxes for the wealthy, deregulating banks and business, and freeing up the private sector to generate a growing economy.

It’s a vision with popular appeal, but history exposes the flaws in that reasoning. Since the late 1970s, under Democrats as well as Republican presidents, Washington has embraced the kind of pro-business, trickle-down economics House Republicans continue to call for. And things have worked out terribly for much of middle-class America, the 70% with family incomes from $30,000 to just over $100,000.

We have become two Americas — literally, the 99% and the 1%. We have what a Citigroup investment brochure called the most eye-popping concentration of wealth in a great power since 16th century Spain. The numbers are staggering. From 1979 to 2011, 84% of the nation’s increase in income has gone to the wealthiest 1%, according to Alan Krueger, a Princeton economist who now chairs the White House Council of Economic Advisers.

We are still in the grip of that long-term trend. As the president observed at Knox College in Illinois recently: “The average CEO has gotten a raise of nearly 40% since 2009. The average American earns less than he or she did in 1999.”

This split between corporate profits and middle-class living standards — call it America’s “wedge economics” — had its roots in the late 1970s, with Democrats in control of Congress and the White House.

For the previous 30 years, from 1945 through the 1970s, middle-class Americans shared in the nation’s growing prosperity. Based on Labor Department reports, economists tell us the productivity of the U.S. workforce rose 97% from 1945 to 1973, and the income of the average family rose 95%. In short, average workers reaped the benefits of rising U.S. efficiency along with their bosses.

But since 1973, the picture has changed: Productivity has risen 80%, economists report, but the average family’s income has risen only 10%, and that bump has come primarily because more women have entered the workforce, not because wages have gone up. According to the Census Bureau, the typical male worker made the same hourly pay and benefits in 2011 as in 1978, adjusted for inflation. Three decades of going nowhere.

This has serious consequences for all of us. When the super-rich get so much of the growing economic pie and the middle class gets so little, the wide income gap hurts U.S. economic growth. The evidence is unambiguous, reports Harvard economist Philippe Aghion. Multiple studies, he says, document that “greater inequality [of income] reduces the rate of growth.”

“It’s not just morally wrong, its bad economics,” Obama added recently, “because when middle-class families have less to spend, guess what? Businesses have fewer consumers.”

In short, our growth problem today is not on the investment side. America’s great corporations are not short of capital. For two or three years, they have been sitting on nearly $2 trillion in cash returns, and instead of expanding production, they have been buying back company stock, rewarding shareholders while often imposing a wage freeze on workers.

Our growth problem is weak demand, and so the path toward more robust growth for America today is to increase demand. That means that corporate America needs to share more of its record profits with average employees, who are the true job creators. With good jobs and rising pay, middle-class Americans generate massive consumer demand. And their spending is the engine that drives economic growth by pushing businesses to expand production, build new plants, buy new equipment, hire more workers.

The track record of the last seven decades — the first half with strong growth and middle-class prosperity, and the second half with weaker growth and wealth concentrated at the top — offers history’s answer to the political debate in Washington.

If America is going to get beyond paralyzing gridlock and dangerous brinkmanship in the budget battles this fall, what’s needed is a shift in the economic mind-set that has dominated Washington for three decades. To paraphrase what Albert Einstein reportedly said at the dawn of the Atomic Age in 1945: You cannot solve a problem with the same thinking that created it.

It’s time for new thinking and a course correction.

Hedrick Smith, former Washington bureau chief for the New York Times, is the author of “Who Stole the American Dream?”