Do you have 3 months living expenses you could tap if you couldn’t depend on income from a job? 55% of American adults and 63% of US children live in households that can’t according to a 2019 study. Much of the debate around income equality, government spending and wealth has been framed around income but as I have pointed out in previous posts the wealth gap is actually much larger than the income gap.
To put this in perspective if you make over $200,000 as a household in the US you are in the top 10% of households. This is 3.1x the income of the median household at around $64,000. Yet when you look at net worth in 2020, the amount that gets you into the top 10% by net worth is $1.2 million but the median net worth in the US by household is approximately $122,000 which means that the top 10% in terms of net worth has 10 times more than the median household.
I use 10% for a very particular reason, the wealthiest 10% of households own approximately 84% of the stock market. Even though 52% of households had some sort of investment in the stock market, overall it’s the wealthy who see most of the gains.
So let’s go back to that 3 months of savings and how it can help paint a picture of the divide in terms of asset ownership in the US and how it has gotten worse in the past 50 years. A recent study by the Economic Innovation Group or EIG, tried to parse through the dividend, interest and rent data from the Bureau of Economic Analysis (BEA). The reported income and federal data collected by the BEA separates labor income from transfers (food stamps, social security, Medicare, unemployment etc.) and passive income defined as that from dividends, interest and rents. It also defines asset poverty as as a household which does not have that 3 months of savings on hand to deal with some sort of joblessness or illness.
It was somewhat surprising to find that 20% or a fifth of all income earned collectively in the US is from passive sources. There will always be a contingent of society that survives off of this income, mainly retirees, but when you compare it to the whole income of the US it still can be quite surprising.
Interesting enough however, although the study points out that income from passive sources is increasing, transfers have more than doubled. Although the study did not focus on this area I would be willing to bet that most of that came from the run up in Medicare costs in the past 50 years as the cost of care increases and more and more people rely on Medicare for their insurance in old age.
The study also showed that this passive income is increasingly being concentrated in a few areas of the country. The study breaks the data down to the county level so they are able to look at particular counties within a metro area and not just the metro area as a whole. The picture that the study paints is that passive income is increasingly being concentrated in hubs where high paying jobs are, mainly in those centers of tech, finance, mining and industrial business. The study noted that even among those with some assets, most Americans had almost all their net worth tied up in a car, a house and a retirement account. This could explain why even though the median net worth is about $122k much of that is not likely in cash.
The study also points out some stark differences in passive income in places that have very close geographic proximity. The county with the second lowest passive income per capita was the Bronx at $4,800 annually which sits next to the county with the highest per capita passive income at $64,200 per year.
All in Not Lost
We could look at this as another depressing study which concludes that the rich are getting richer and the poor are getting poorer but that would be too simple of a label to put on this study. It helps to add some nuance to the findings which may offer hope and even some guidance in terms of personal choices and policy going forward.
60 years ago the US was coming out of WW II and into the Cold War. Falling behind in the space race to the Soviets shocked the establishment into action on encouraging more of the population to get a college education to gain technical skills which could help the US remain competitive. As the Cold War waned, it was the opening of the world economy in the 80’s and 90’s which spurred politicians to further subsidize higher education through loans. This pushed the proportion of adults with a college education from around 7% in 1940 to over 33% today.
The government and universities sold a college education as a ticket to prosperity, yet as many millennials now know, college as a whole couldn’t upend the law of supply and demand. Once a third of adults have a college degree, it has much less value in the job market, so the technical skills or field of study started to matter.
The point of relaying the story of college is that there was once a higher education gap in the US but through a concerted collective effort we were able to overcome this hurdle over time and remain competitive on the world scale. What may be needed now is a push for a financial education collective effort.
Just like that small proportion of college grads that ran things in the 1940’s a small proportion of people in the US now own most of the stock market but just because it is this way doesn’t mean it has to remain this way.
One of the more interesting charts shared in the report was a plot of income per capita from assets versus wages and salaries per capita.
To me this chart shows that as the income per capita increases the income per assets increase proportionally. The natural conclusion most would likely draw from this is that as income increases, savings and investing increase. Yet it isn’t necessarily a one to one relationship that leads to this outcome. Some places with lower incomes yet a higher proportion of income from assets may indicate a large amount of retirees that live there (Palm Beach). Or they could indicate a large proportion of super wealthy and asset heavy people compared to the rest of the population (Fairfield and Westchester).
Yet this relationship doesn’t have to hold indefinitely. Yes it’s easier to save and invest the more money you earn but that doesn’t mean that others can’t save and invest, it just means they aren’t and understanding why should be the topics of future research.
Engaging Those Left Behind
Just like when the government and business got together to promote higher education, the same can be done for financial education to get the half of the population that isn’t investing to start, even if it’s only a little.
Most academics start by recommending a the heavy and expensive government intervention approach, attempting to transfer more wealth from the haves to the have nots. But this doesn’t often work and the rich usually get out of these schemes through loopholes. It also doesn’t solve the problem of the lack of saving on the part of those who earn less. We know it can be done. The private pension system which existed within many companies in the latter half of the 20th century, had the company take on the risk. The workers paid, likely with lower wages or with having to stay at the job for a longer time than they would have liked otherwise, but the proceeds were invested by professionals and workers were taken care of. The system that dominates now is that of the 401(k) where it’s up to workers to save and make their own investment decisions, yet many haven’t been given the basic tools to understand how to do so.
A cheaper and more practical solution may be the one proposed by hedge fund manager Bill Ackman, which would provide every child with $6,750 in a trust linked to the stock market at birth and not be able to touch this until retirement. This would cost the government approximately $26 billion a year at the current birth rate, a small fraction of the recent stimulus bills, and likely make every American that receives it a millionaire at retirement.
The final leg is financial education on saving and investing. Here is where I am most hopeful. 56% of millennials and Gen Z have sought out financial advice on social media apps like Tik Tok and Instagram and actually taken it. There is a wealth of basic financial advice out there that has bypassed the staid traditional route of high street finance. The only concern I have here is that we are in a bit of a bubble period where stocks are at lofty valuations and asset bubbles such as NFT’s are popping up everywhere. Whether young people continue to utilize these sources for financial advice or even have interest in the markets when bubbles pop and markets fall is an open question.
Until then, we can all make it a priority to start to set a goal of not being mired in asset poverty.
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