photo credit: Cyril Cavalié

The Two-Income Trap: What’s It About?

In spring of 1999, Harvard Law professor Elizabeth Warren was investigating data from the Consumer Bankruptcy Project. She was immediately struck by what she thought had to be an error: between 1981 and 1999, the number of single women filing for bankruptcy had jumped from 69,000 to 500,000.

But it wasn’t an error - and thus began a journey to explore the causes of financial insolvency in the middle class, a journey which Warren continues even today.

Over the next few weeks, I’d like to present five posts that will review The Two-Income Trap: Why Middle-Class Mothers & Fathers Are Going Broke. Written in 2003 by Warren and her daughter Amelia Warren Tyagi, this book chronicles Warren’s investigation of the financial situation of the middle class.

I’ve said before on this blog that this book is informational, inspirational, and transformational. I really believe every person in the U.S. - or at least every personal finance blogger - should read it.

For too long we as personal finance bloggers have been content to throw stones at our fellow citizens for fiscal irresponsibility as the cause of today’s economic failures. The truth is, the story is more complex than that. Over the course of these reviews I hope I will convince you that myriad atmospheric conditions created the “perfect storm” for the middle class in the U.S.

Here are the primary topics covered in Warren & Tyagi’s book that we will address:

  • The myth of American overconsumption
  • The bidding war for good schools
  • The realities of surviving on a single income
  • Bankruptcy - not fun for the whole family
  • Dangerous credit deregulation

If you don’t already have the book, you may wish to read Warren and Tyagi’s Boston Review article, “What’s Hurting the Middle Class.” This will serve as an introduction to some of the issues we’ll be talking about over the course of this series.

Without further ado, part one:

The Myth of Overconsumption

Many maladies are explained away by the Over-Consumption Myth. Why are Americans in debt? Sociologist Robert Frank claims that America’s newfound “Luxury Fever” forces middle-class families “to finance their consumption increases largely by reduced savings and increased debt.” Why are schools failing and streets unsafe? Juliet Schor cites “competitive spending” as a major contributor to “the deterioration of public goods” such as “education, social services, public safety, recreation, and culture.” Why are Americans unhappy? Affluenza sums it up: “The dogged pursuit for more” accounts for Americans’ “overload, debt, anxiety, and waste.” Everywhere we turn, it seems that over-consumption is tearing at the very fabric of society…

But is it true?

Warren and her daughter acknowledge that “institutions and anecdotes” are no substitute for real data, so they turn to the Bureau of Labor Statistics’ Consumer Expenditure Survey, a set of longitudinal data on over 20,000 households. The authors sought to systematically compare the results of the 1972-1973 CES - adjusted for inflation - with those of the 2000 CES. If Americans really are overspending on luxury goods, the results should be evident here.

Warren and Tyagi compare prices in several different categories and come to some surprising conclusions. While the allocations of funds does differ between the generations, overconsumption is not any more rampant than it was in the previous generation.

Here are just some of the conclusions drawn from the CES data:

  • The average family of four in 2000 spends 21% less on clothing per year than their 1972 counterparts. The cost of clothing has decreased overall, and the need for more formal clothes - and the maintenance they require - has lessened as business casual has taken hold in the workplace.
  • The same family of four in 2000 spends more than the 1972 family on restaurant meals, but it spends less at the grocery store. In total, the 2000 family is actually spending 22% less than the 1972 family on food, including restaurant meals!
  • Appliances that are necessities to the 2000 family, such as a dishwasher or central air conditioning, were unlikely to be found in a 1970s home. Nevertheless, the 2000 family spends 44% less than the 1972 family on major household appliances.

At the end of the day, middle-class families today do spend about 23% more on home entertainment than the 1970s counterpart - but that difference is more than offset by the differences above! In light of this, it’s not hard to think of all the things we no longer spend money on that we used to - “the average family spends more on airline travel than it did a generation ago, but less it spends less on dry cleaning. More on telephone services, but less on tobacco. More on pets, but less on carpets… in other words, there seems to be about as much frivolous spending today as there was a generation ago.”

There is one major place where the family of today sinks its money, however: the home. It is evident that the cost of home ownership has increased dramatically since the 1970s. This alone accounts for many of the spending increases over a generation ago.

Overconsumption pundits would have you believe that this is because we are all moving into 4,000 square foot McMansions. While the authors acknowledge that the average size of a new home (i.e. new construction) has grown by nearly 40 percent, most middle class families aren’t living in these homes! In fact, nearly 60% of families today own a home that is more than 25 years old, and nearly a quarter own one that is more than 50 years old.

We’re also not paying for more rooms - the median family house size has increased by only a half a room between 1975 and 1999. Usually this room becomes a bathroom or an extra bedroom.

If the 21st century family is paying more for housing, it’s clearly not paying more for luxury.

So why is this American overconsumption myth so pernicious in the face of these statistics? Warren and Tyagi present a very simple, yet beautiful answer:

… it is a comfortable way to explain away some very bad news. If families are in trouble because they squander their money, then those of us who shop at Costco and cook our own pasta have nothing to worry about. Moreover [emphasis mine], if families are to blame for their own failures, then the rest of us bear no responsibility for helping those who are in trouble.

Amen. Just stop to think about it for a moment: with all your penny pinching, if you or your partner lost your job and couldn’t find another, or became gravely ill and couldn’t work, would you be able to make your mortgage payments? How close are we all to bankruptcy or foreclosure, really?

The next post in this series will explain the “demographic force” that drove home prices through the roof and moved many middle class families to live beyond their means. We’ll also see how Warren and Tyagi brilliantly forecasted the corresponding housing market fallout.

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