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The Pulse of Capitalism

Issue Number 03-3, October 2003

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International Comparisons
Business Activity Indicators
Financial Indicators - United States
Selected International Transactions - United States

Income Disparity: Another Piece of the Puzzle

We are now familiar with top picks in the National Football League draft becoming instant millionaires before they play a single season of professional football. This development is symptomatic of a distinct widening of income disparity in the 1990s as depicted in the following table:

Share of Aggregate Income Received by Each Fifth and Top 5 Percent of Households
1990 2001 Change 1990-2001
Lowest fifth 3.9 3.5 -0.4
Second fifth 9.6 8.7 -0.9
Third fifth 15.9 14.6 -1.3
Fourth fifth 24.0 23.0 -1.0
Highest fifth 46.6 50.1 3.5
Top 5 percent 18.1 22.4 4.3
Source: U.S. Census Bureau, Table H-2

As this table shows rather dramatically, all of the change in shares of aggregate income in the nineties came at the expense of the first four fifths of income recipients and accrued to the top one fifth. Within the top fifth a greater share accrued to the top five percent than to the next highest five percent.

To obtain a dollar value for the shares shown above we will refer to the data for total personal income, which in 2001 equaled $8,685.3 billion. Ten percent, therefore, is $868.5 billion and one percent is $86.9 billion. As the table shows, 3.5 percent more of aggregate income was received by the highest firth in 2001 than in 1990. This, then, is equivalent to a transfer of $304.2 billion from the first four-fifths of income recipients to the top one fifth. 200l also had the dubious distinction of being the first year in which more than 50 percent of aggregate income was received by the highest fifth of households.

Sources of Personal Income

Personal income is broken down into the same categories as national income. The following table shows data for these categories for the years 1990 and 2001.

$ Billions
$ Billions
Percent Change
Total Personal Income 4,903.2 8,685.3 77.1
Wage and salary disbursements 2,754.6 4,950.6 79.7
Other labor income 390.0 570.4 46.3
Proprietors' income - Farm 31.1 19.0 -38.9
- Non-farm 349.9 708.8 102.6
Rental income 49.1 137.9 180.9
Personal dividend income 165.4 409.2 147.4
Personal interest income 772.4 1,091.3 41.3
Transfer payments 594.4 1,170.4 96.9
Less personal contrib's. for soc. ins. 203.7 372.3 82.8
Source: Economic Indicators

As the table shows, some income sources advanced considerably more than others during the period covered.

    Wage and salary disbursements. These categories constituted 57 percent of total personal income in 2001 and included most of the labor force. Within this category, a breakdown of wage and salary accruals per full-time equivalent employee by industry is available ad follows:

    Average - all industries 39,784
    Agriculture, forestry, fishing 24,219
    Mining 60,871
    Construction 39,385
    Manufacturing 45,580
    Transportation and public utilities 48,009
    Wholesale trade 49,701
    Retail trade 23,009
    Finance, insurance, real estate 63,738
    Services 37,647
    Government 41,700
    Source: Survey of Current Business, Table 66C

    The average person may well question the accuracy of this data. Surely the average full-time employee in 2001 did not earn $39,784. One way to test this is by comparing average weekly earnings, which are also available, with average full time equivalent earnings in the table. Weekly earnings in manufacturing were $603.58 in 2001, which equates to $31,386 per year. This contrasts with the $45,580 shown in the table. Likewise, weekly earnings in retail trade of $282.35 equate to $14,682 whereas the table shows $23,009. These discrepancies no doubt reflect the fact that industry averages in the table include every one from the CEO down to the lowest paid member of the industry. Averaging them is highly misleading.

    The average person will also be struck by the variations across industry groups. The highest paid industry is Finance, insurance, and real estate at $63,738. But within this group, the highest paid are Security and commodity brokers at $161,879 while the lowest paid are Real estate at $41,364. Likewise, in Mining, the highest paid are Oil and gas extraction at $68,142 while the lowest are Non metallic metals except fuels at $44,282.

    In Services, the largest category by number of employees, there are similar wide disparities. The highest paid are Legal services at $71,019 while the lowest paid are Social services at $22,071 and Private households at $14,975 (the lowest paid group in the table).

    Thus, we see that there is a wide disparity from one industry to another, but also wide disparity within industry groupings.

    Proprietors' income. Net farm income rose from $44.6 bn in 1990 to only $45.7 bn in 2001, which explains the dismal comparative return to farm proprietors. Other proprietors income, however, grew faster than wage earners'.

    Rental, dividend, and interest income. These three categories represent earnings on capital, and together constituted 18.9 percent of total personal income in 2001. Rentals and dividends grew much faster than wages and salaries in the nineties, but interest income lagged due to the historic decline in rates.

    Transfer payments also grew faster than wages and salaries due to a larger percentage of the population entering this category. Deductions for social insurance rose less, about the same as overall labor income.

Other evidence

Thus far we have shown that aggregate income is greatly concentrated with the top fifth of recipients receiving as much as the other four fifths combined. We have also found that personal income varies widely across broad industry groups and within individual industry groups. We have found that some sources of income such as non farm proprietors, rental, dividend, and transfer grew faster than others from 1990 to 2001 as well. Some additional evidence will now be examined.

The January 2003 Federal Reserve Bulletin published results of the 2001 Survey of Consumer Finances. Following are quotes from this survey.

Inflation-adjusted incomes of families rose broadly (from 1990-2001) although growth was fastest among the group of families whose income was higher than the median."

"Incomes grew at different rates in different parts of the income distribution between 1998 and 2001, with faster growth at both the top and the bottom of the ranges than in the middle. During this period, the median income of families in the lowest 20 percent of the income distribution grew 14.4 percent; for the middle group (40th to 60th percentiles), it rose 9.6 percent, and for those in the highest group (90th to 100th percentiles), it rose 193 percent. A similar pattern holds for the 1992-2001 period.

"Savings bonds are owned disproportionately by families with incomes in the highest 40 percent of the distribution, and by families in the top half of the distribution of net worth.

"Other types of bonds were held by only 3.0 percent of families over the three-year period. As measured in the survey, the ownership rate had been declining steadily before then - it was 5.7 percent in 1989. Ownership is notably more likely among families in the highest income and wealth groups.

"The direct ownership of publicly traded stock is more widespread than the direct ownership of bonds, but it is also concentrated among high income and high-wealth families.

"The pattern of ownership of mutual funds is very similar to that of stocks. In a continuation of earlier trends, the fraction of families owning mutual funds rose 1.2 percentage points over the 1998-2001 period to 17.7 percent. Over this period, the percent of families with stock funds and taxable funds of government-backed bonds rose while the ownership of tax-exempt bond funds, other bond funds, and combination funds fell. The rise in ownership of mutual funds of any type was spread across all income groups, but it was particularly steep in the highest decile."

[These comments underscore the hollowness of the Bush program to cut taxes on dividend income. This income is concentrated in the richest 10 percent of U.S. households, and the tax cut will accentuate the existing disparity. It will not stimulate investment because there is already a surplus of funds available for investment. The net result will be higher and higher Federal deficits and more cuts in social programs. Yet even this absurd proposal has been sold to the American public!]

"Another piece of the puzzle"

The puzzle we refer to is the nature of the current downturn in the U.S. and world economies. We have, simultaneously, excess consumption, excess capacity, and an excess of money. This has led to an absence of inflation in commodities and most manufacturing along with ongoing inflation in asset prices and certain parts of the services sector (health, education, finance, legal, etc.) The challenge is to explain these divergent trends.

One obvious change in the economy is a downturn in investment, but why has this happened at this particular time? There seems to be a twofold answer to this question. First, the long postwar boom in electronics has passed its peak. It began with television and then led to computers and communication, which transformed much of industry and services. The internet was the culminating stage of this phenomenon, but growth now is more like that of older industries, not the explosive growth of the nineties. All of this change absorbed a great deal of capital for decades, resulting in wild excesses that led to the collapse beginning in 2000. Today there is little prospect that these high tech enterprises will offer the perceived investment opportunities they did in the past. And there are no other areas in view that can replace them. In a sense we might say that the pace of technological innovation has slowed, despite all the change that is going on around us.

The second part of the answer to the investment problem has to do with finance. We have seen that there was a pronounced shift of income from the lower four-fifths of families to the top one-fifth. This has notable implications for saving/investment as shown in the following FRB table (Jan. 2003)

Before-tax family income and percentage of families who saved
Median Mean Percentage of families who saved
Thousands of 2001 dollars
All families 39.9 68.0 59.2
Percentile of income
--- Less than 20 10.3 10.0 30.0
--- 20 - 39.9 24.4 24.1 53.4
--- 40 - 59.9 39.9 40.3 61.3
--- 60 - 79.9 64.8 65.2 72.0
--- 80 - 89.9 98.7 98.0 74.9
--- 90 - 100 169.6 302.7 84.3

The message of the table is that saving is even more concentrated in the upper income brackets than income. More people within a bracket save as you move up the income scale and, with more income, the larger amount they save.

As we discussed in the last Pulse, all income must be recycled into either consumption or saving/investment. As affluence increases, a larger share of income tends to be directed to saving over consumption. Thus, we have a situation where opportunity for profitable investment of saving is shrinking while savings seeking such opportunities are growing. This, in a nutshell, is why we now have short-term Treasury rates of 1.10%, negative after inflation, and dividend yields on the S&P 500 of 1.85% (April 5).

These twin developments have profound implications for public policy and the future of the economy. The proposals now being considered to revive economic growth are aimed at maintaining consumption through growth of government and household debt. They do nothing to address the problem of inadequate investment demand combined with an excess of income seeking investment. These conditions led to the historic inflation of stock and bond prices of the past decade and are today still inflating real estate prices. We need to recycle the excess income now flowing to the top income recipients into sound public investment and into some of the low income groups who are now stressed. But only time and more adversity will force us to face those issues.

International Comparisons
Canada Germany Japan United Kingdom United States
GDP (% chg. one year ago)
0.9 -0.1 -1.9 1.6 0.5
3.9 0.5 2.8 2.2 2.9
    FH 2003
1.6 -0.2 3.0 1.8 2.5
Industrial Production (1997=100)
111.0 112.8 92.7 101.2 111.2
112.9 111.6 91.5 97.6 110.5
    FH 2003
112.8 111.8 93.5 96.9 110.0
Retail Sales (volume chg. at annual rate)
5.7 -4.1 -4.4 5.7 6.5
1.4 -3.2 -3.0 6.4 4.9
    FH 2003
2.3 -0.5 -1.8 6.0 5.2
Consumer prices (1995=100)
169.1 144.8 120.1 203.6 177.1
172.9 146.7 119.0 207.0 179.9
    FH 2003
177.4 148.1 118.7 211.8 183.3
Unemployment Rates
8.0 9.5 5.5 3.2 5.8
7.5 10.1 5.3 3.1 6.0
    FH 2003
7.8 10.6 5.3 3.1 6.4
Interest Rates (3 months)
3.98 4.26 * --- 4.97 3.40
2.61 3.32 * --- 3.99 1.60
    FH 2003
3.06 2.51 * --- 3.56 1.10
Stock Indices (ending)
7,688.41 5,160.10 10,542.62 5,217.40 10,021.50
6,614.54 2,892.60 8,578.95 3,940.40 8,341.63
    FH 2003
6,983.14 3,220.58 9,083.11 4,031.20 8,985.44
Current Acc't Bal's ($bn) latest 12 months
18.9 10.2 91.2 -25.1 -393.7
11.0 50.4 115.0 -13.1 -480.9
    FH 2003
14.7 54.4 112.6 -28.6 -528.7
Foreign Exchange Rates
1.55 0.90 * 121.57 1.44 126.08
1.57 0.95 * 125.22 1.50 127.19
    FH 2003
1.45 1.10 * 118.74 1.61 121.82
Currency units per U.S. $
UK pound in U.S. $s
U.S. dollar: index of dollar against major trading partners, January 1997=100
* Euro area (US$/Euro)
Sources: Economist, Economic Indicators,
F.R. Bulletin, Survey of Current Business

The GDP data from the Economist compares the second quarter 2003 with the same quarter a year earlier. All of the countries except Japan declined on this basis. Industrial production rose in Germany and Japan while falling in Canada, the U.K. and the U.S. Retail sales volume increased in the U.S. and Canada but fell in the U.K. Germany and Japan again had negative growth.

Consumer prices (Economic Indicators) rose more strongly in the first half than in 2002 in Canada, the U.K., and the U.S.; in Germany the increase was less, and Japan's prices again declined. Unemployment rates rose in Canada, Germany, and the U.S. with little or no change in Japan and the U.K.

Interest rates rose in Canada but fell elsewhere. The U.S. rate remains the lowest aside from Japan which pursues a "zero interest rate" policy; it is interesting to note that this policy has not led to any revival of growth in that country.

The data we have reviewed are weak to mixed at best, but the stock markets have chosen to regard some stronger data as an indication that economies are again rising. All five indices have, consequently, risen. This may prove justified, or it may indicate nothing more than investor frustration at the low returns available on other investments. With rising prices, the S&P 500 earnings price ratio in June was back to where it was in 1998-2000, which was the lowest in a decade.

The current account surpluses of Canada and Germany grew in the first half while Japan's fell slightly. The British deficit widened considerably, and the U.S. deficit rose to another record of over half a $trillion (a.r.) in the first half, more than double what it was just five years ago.

The U.S. foreign exchange rate index fell from 127.19 in 2002 to 119.11 in July 2003. The Euro rose from $.95 to $1.13, a 19 percent increase. Apparently the demand for dollars is falling.

Business Activity Indicators - United States
2001 2002 FH 2003
Industrial Production (1992=100) 111.2 110.5 110.0 *
    Capacity Utilization Rate (% total industry)
77.3 75.6 74.7
Manufacturers' New Orders (billions of $s) 322.9 316.7 321.3 #
New Construction Expenditures (billions of $s) 852.6 860.9 876.1 *
Real Gross Priv. Dom. Invest. (chained[1996]$s) 1,574.6 1,589.6 1,602.2
Business Sales - Mfg. & Trade (billions of $s) 819.4 824.0 843.2 #
Business Inventories (ending) (billions of $s) 1,145.4 1,169.4 1,180.5
Retail Sales (billions of $s) 262.8 270.5 279.3 #
Retail Inventories (ending) (billions of $s) 405.6 436.3 448.8
Per Cap. Personal Consump. Expend.'s (chained [1996] $s) 22,390 22,877 23,153 *
Nonagricultural Employment (millions) 131.8 130.4 130.1 #
    Goods Prod. (millions)
23.9 22.6 22.2 #
    Services Prod. (millions)
108.0 107.8 108.0 #
* Annual Rate
# Monthly average
Source: Economic Indicators

Real GDP rose 2.4 percent in the second quarter of 2003 after rising 1.4 percent in the first. The largest contributor to these increases was personal consumption expenditures which rose 1.40 and 2.34 percent in the two quarters. Gross private domestic investment turned positive in the second quarter but was still negative for the half. Net exports were negative for the half, but government expenditures and investment was positive.

Industrial production remained weak through June, particularly in non durable manufacturing. The capacity utilization rate, which was 74.9 in December, was still 74.2 in June. Manufacturers' new orders picked up a little in June and July, but the first half level was still below that of 2001.

New construction expenditures continued their historic rise. By July 2003, they were more than $100 million higher than in 1999, with all of the strength concentrated in residential construction, resulting from historically low interest rates.

Gross private investment was essentially flat in the first half with both quarters lower than fourth quarter 2002; renewed inventory liquidation in the second quarter contributed to the malaise.

Business sales in the first half surpassed the previous high set in 2000; inventories also rose but did not equal the previous high. Retail sales never actually declined during the downturn and rose faster in the first half than in 2002. This growth is no doubt due to the tax cuts and rebates plus continued high borrowing; the question is whether these stimuli will prove only temporary. Retail inventories trended higher.

The fiscal and monetary stimuli noted above led to continued growth in personal consumption expenditures which reached a new high of $23,231 in the second quarter.

Job losses continued through August with a moderate upturn reported for September. The losses were most notable in manufacturing with only a little change in services. Apparently the loss of income from these job losses has been offset so far by wage increases, unemployment payments and tax cuts.

Financial Indicators - United States
2001 2002 FH 2003
National Income (billions of $s) 8,122.0 8,340.0 8,574.7 *
    Percent change
1.7 2.7 2.8
Per Cap. Disp. Personal Income (chained [1996]$s) 23,692 24,463 24,679
Avg. Real Gross Wkly Earnings (1982=100) 275.38 278.91 279.10
Gross Saving " 1,662.4 1,565.0 1,497.1 *
    Personal "
169.8 285.8 279.1
    Business "
1,229.5 1,303.7 1,352.1
    Government "
263.1 -24.5 -134.1
Commodity Price Index (1995=100) 65.4 74.7 76.0
Producer Price Index (1982=100) 140.7 138.9 142.6
Corp. Profits (with i.v.a.&c.c.a.) (billions of $s) 731.6 787.5 860.6 *
Interest Rates - 10 year Treas. 5.02 4.61 3.77
Money Supply - M3 (ending) " 8,004.5 8,522.7 8,761.6
    Percent change
12.7 6.5 0.9
Federal Gov't. Current Surplus or Deficit (NIPA) " 72.0 -199.9 -266.1 #
Commercial Bank Credit (ending) " 5,445.1 5,896.8 5,993.9
Consumer Credit (ending) " 1,666.8 1,726.4 1,742.4
Credit Market Debt (ending) " 29,397.8 31,725.2 32,281.0
    Household Sector "
7,686.4 8,454.4 8,603.3
    Nonfinancial Business "
6,935.8 7,144.2 7,214.4
    Total bankruptcy filings (thousands)
1,492 1,578 413
* Annual rate Sources: Economist, Economic Indicators, F.R. Bulletin, F.R. Flow of Funds, Administrative Office of the U.S. Courts

National income growth picked up in 2002 and continued in first half 2003. Compensation of employees and corporate profits were the principal gainers in 2003; interest income also increased despite low rates. Per capita personal income grew in both quarters as did weekly earnings, but less strongly than in 2002.

Gross saving continued to shrink as the federal government current deficit soared to $-383.4 billion (a.r.) in the second quarter. This is the other side of the tax cuts the government hopes will stimulate the economy. If that effort fails, the whole financial system will be threatened. This is high stakes for sure.

Commodity prices have been strengthening from low levels. Some items such as gold, oil, and aluminum have been quite strong. Producer prices rose above their 200l high in the first half with increases in most categories. Capital equipment prices, however, were little changed.

Corporate profits are measured in a variety of ways, some of which benefited greatly from tax changes that allow companies to tax an immediate 50 percent depreciation write-off. Profits of nonfinancial corporations appear to have resulted mainly from cost reductions rather than higher prices. The ten year Treasury yield reached its lowest level in June and had risen to 4.52 percent by September. Apparently some money is leaving bonds in favor of stocks.

M-3 money supply growth slowed in 2002 and continued at this lower rate in the first half of 2003. The federal deficit was $-383.4 billion (annualized) in the second quarter, higher than any year in the 1990s.

Bank credit grew steadily in the first half, mainly in securities and real estate with another decline in commercial and industrial loans. Consumer credit is growing faster than in 2002 which was the slowest in five years.

Federal debt jumped 24.3 percent (a.r.) in the second quarter, and state and local debt grew 12.0 percent. The household sector picked up 9.9 percent in the first quarter and 11.5 percent in the second, primarily due to home mortgages. Business debt growth was just 3.5 and 6.4 percent. Total household debt at the end of June was $8.9 trillion, a record 110 percent of disposable personal income, compared to 95 percent in 1998. Truly Alan has led us to Neverland, but who would ever have thought it could be so easy!

Bankruptcies continued to rise in the first half.

Selected International Transactions - United States
2001 2002 FH 2003
Trade Balance on Goods & Services ($bns) -357.8 -418.0 -245.0
    Goods "
-427.2 -482.9 -274.0
    Services "
69.4 64.8 29.0
Net U.S. Int'l Invest. Pos'n * -1,979.9 -2,387.2 n.a.
    U.S. owned assets abroad * "
6,187.4 6,189.2 n.a.
    Foreign owned assets in U.S. * "
8,167.3 8,576.4 n.a.
Selected foreign owned assets in U.S
    Direct investment * "
1,514.4 1,504.4 n.a.
    U.S. Treasury securities "
1,039.7 1,214.2 n.a.
    U.S. currency "
275.6 297.1 n.a.
    Other U.S. securities "
3,091.7 3,124.9 n.a.
* With direct investment valued at current cost.
Sources: Economic Indicators, Survey of Current Business

The U.S. trade imbalance worsened considerably in the first half of 2003, from $-418.0 bn in 2002 to $-490.0 (a.r.) in the first half of 2003.

Exports of goods fell in 2002 and a small increase in FH 2003 did not bring them back to the 2001 level. Imports of goods increased in 2002 and continued to increase in 2003. Exports and imports of services both rose throughout the period and remain positive at a reduced level.

With direct investment valued at current cost, the negative U.S. international investment position increased $407.4 billion or 20.6 percent in 2002. This represented an increase in foreign owned assets in the U.S. as U.S. owned assets abroad were little changed. U.S. financial flows abroad (at current cost) totaled $179.0 billion but were almost offset by valuation adjustments of $-177.2 billion. Foreign flows into the U.S. totaled $707.0 billion with negative valuation adjustments of $297.9 billion.

At current cost, foreign direct investment declined $9.9 billion as net financial inflows were offset by price depreciation and capital losses. Foreign holdings of U.S. Treasury securities increased $114.6 billion as foreigners shifted to net purchases after 3 years of net sales, despite historically low interest yields. Japan and China were the largest holders of Treasury securities. U.S. currency held abroad grew $21.5 billion, a little less than in 2001 and increased most strongly in Argentina and Russia. Net foreign purchases of U.S. bonds were the third highest on record, but net purchases of U.S. stocks were the lowest since 1998. Stock holdings were affected severely by a decline of 23 percent in U.S. stock prices. The United Kingdom was by far the largest foreign holder of U.S. stocks and bonds, with 48 percent of bonds and 25 percent of stocks.

Copyright © Andrew Caughey, 2003

The Pulse of Capitalism is published quarterly. Comments may be sent to Pulse Publication, P.O. Box 140, Gibsonia, PA 15044. Telephone: (724) 443-2396
Material may be reprinted with acknowledgement of the source. Economic statistics are revised routinely and may, therefore, differ from one report to another.

Published October 2003

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