“You’ve been sucking on the sugar tit of history,” the professor announced to our political science class. He was right. (More)

The Greatest and Latest Part I: “The Sugar Tit of History”

This week Morning Feature compares two American generations. Today we begin with the so-called ‘Greatest Generation,’ who came of age in the Great Depression and World War II. Tomorrow we’ll look at Millennials, who came of age in the Great Recession and the wars in Iraq and Afghanistan. Saturday we’ll conclude with hope for our children and grandchildren.

The Great Compression

In their 1991 paper for the National Bureau of Economic Research, Harvard economists Claudia Goldin and Robert Margo examined public U.S. Census data from 1940-1990. They found a dramatic narrowing of income inequality after World War II and extending until the early 1970s. Never before or since have U.S. incomes been so balanced, and Goldin and Margo dubbed that period “the Great Compression.”

The conventional explanation for the postwar narrowing of inequality was the Kuznets curve, a hypothesis offered by economist Stanley Kuznets in the 1950s. He claimed that income inequality was a function of economic growth: it widened as a modern economy developed, but narrowed as the benefits of industrialization spread to other sectors. Kuznets believed the wage structure of the 1950s – with the narrowest-ever gap between ordinary workers and the wealthiest Americans – was a permanent feature of a mature, industrial economy.

That seemed possible when Kuznets proposed his hypothesis, but by the late 1980s income inequality had risen to pre-World War II levels. Goldin and Margo looked for other forces behind the Great Compression, and they identified three primary drivers.

“At the very top of the income ladder, pay increases reflected mostly greed or other socially wasteful activities”

The first was the National War Labor Board, which governed wages and salaries from 1943-1946. The NWLB’s task was to maximize worker productivity and minimize profiteering, and they ruled on pay increases or decreases in almost every sector of the economy. They also recommended tax changes that a wartime Congress was willing to embrace, as Bloomberg Businessweek’s Mark Gimein explains:

During World War II tax rates rose to confiscatory levels because it was believed that very high incomes reflected profiteering, not real work. With the government taking so much money, managers lost their incentive to bargain for extravagant wages.

That attitude continued after World War II, as Thomas Piketty, Emmanuel Saez, and Stefanie Stantcheva argued in their 2011 NBER paper:

Up until the 1970s, policymakers and public opinion probably considered – rightly or wrongly – that at the very top of the income ladder, pay increases reflected mostly greed or other socially wasteful activities rather than productive work effort. This is why they were able to set marginal tax rates as high as 80% in the US and the UK.

Goldin and Margo agreed that the NWLB’s brief tenure created expectations that continued long after the war. Factory workers expected their labor to support a middle-class lifestyle, and policymakers generally viewed extravagant executive salaries as evidence of greed rather than value.

The G.I. Bill

But Goldin and Margo found two other factors that combined to narrow income inequality. The first was the huge postwar demand for workers without college degrees to build houses, cars, appliances, and other consumer products for which production stopped during the war. At the same time, millions of returning servicemen were able to enroll in college under the G.I. Bill. The comparative shortage of workers without degrees helped boost manufacturing wages, while the glut of new graduates reduced the college wage premium.

But that flood of college graduates expanded industries, from electronics to finance, that boosted the demand for college graduates. Those same industries also developed new technologies that replaced some workers. Union membership and bargaining clout began to slide and, Piketty, Saez, and Stantcheva argue, the wealthy launched a long-term public relations campaign:

With higher income concentration, top earners have more economic resources to influence social beliefs (through think tanks and media) and policies (through lobbying), thereby creating some reverse causality between income inequality, perceptions, and policies.

Simply, we stopped hearing about “profiteers” and started hearing about “risk takers” and “job creators.” The Reagan-era drop in the top marginal tax rate reset the bargaining balance between executives and boards, and the extravagance of the Gilded Age returned.

Rather than a long-term equilibrium as Kuznets predicted, Goldin and Margo found the Great Compression was a short-term anomaly driven by wartime policy, lingering attitudes about incomes, and the postwar college boom.

While it lasted, an entire generation and their children could “suck at the sugar tit of history,” in that professor’s pungent but apt phrase. And we could convince ourselves we deserved it. Our parents were “the Greatest Generation,” or so Tom Brokaw flattered them in his book. They survived the Great Depression and made the world safe for democracy, or so our hagiographic media declared. They were reaping their just rewards, and as their children we were sharing those rewards.

Yet as we’ll see tomorrow, Millennials weathered the most severe economic crisis since the Great Depression, and over a decade of war in Iraq and Afghanistan … and they face a very different future.

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Happy Thursday!