Today's Opinions, Tomorrow's Reality
Spending the Extra Money
By David G. Young
Washington DC, October 28, 2008 --
Spending habits from the 1930s show how wealthy Americans have become, and offer lessons for how they can reform their spendthrift ways.
It was 79 years ago today when the great stock market crash began. By the end of the day on October 28, 1929, the Dow Jones had fallen nearly 13 percent, and the following day it fell another 12 percent.1 As the market continued to tumble in the months that followed, companies went bankrupt, unemployment soared, and America entered the most infamous economic downturn in its history.
After recent similar drops in the stock market, and with grim economic statistics continuing to stoke fears of a repeat of the Great Depression, policymakers and economists are reassuring Americans that the coming downturn won't be so bad. Their reasoning? Because economists and policymakers have learned how to deal with such crises. Federal Reserve Chairman Ben Bernanke famously told economist Milton Friedman he agreed that the government caused the depression: "You're right, we did it. We're very sorry. But thanks to you, we won't do it again."2
Bernanke's words must be very reassuring for those with great faith in Washington's policy wonks. For the rest of us, however, I'll offer a much stronger reason why things won't get as bad as they did in the 1930s: Simply put, we're way, way richer than we were in 1929. Family income was over three times higher in 2006 than it was in the mid-1930s, after adjusting for inflation3,4,5,6. In order to drop down to income levels last seen in the 1930s, American incomes would have to drop by over 70 percent -- and that just isn't going to happen.
Of course, comparing incomes in 2006 with those in 1935 is fraught with problems. Doing so relies on the Consumer Price Index, which works well at measuring the purchasing value of the dollar over short intervals, but makes for strange comparisons over long periods of time. That's because economics is a social science -- people's lifestyles change greatly over the long run, distorting the relative value of products. That said, comparing income and spending patterns of the mid-1930s to the mid-2000s, as measured by the Bureau of Labor Statistics' Consumer Expenditure Surveys, is highly illuminating precisely because the stark differences in spending patterns prove just how out-of-whack American lifestyles have become.
One of the bigger differences is the number of people living together. Back in the mid-30s, there was an average of 3.6 people per household. Today, it's only 2.5. For more reasonable comparisons, therefore, we can contrast the typical 1930s household to the average four-person household today. This is where we find that post-tax incomes are so much higher today: $80,410 in 2006 compared with $22,338 in the mid-1930s. Remember, this is already adjusted for inflation -- average income in Depression-era dollars was only $1,518.
What do Americans do with all this extra money? They spend way more on housing for one thing -- over five times as much. Part of this is because housing costs tend to rise higher than other parts of the consumer price index -- more people with more money are bidding up the price for relatively scarce real estate. This partly explains the housing bubble that was nearing its peak in 2006. Other factors in this increase are that people live in way bigger homes than they used to, and buy homes at a younger age. During the 1940 census, 20 percent of Americans lived in dwellings with less than one room per person, whereas only 5.7 percent of Americans reported doing so in the 2000 census.7 A staggering 76 percent of four person households in 2006 were homeowners, compared with only 30 percent of households in the 1930s. Do Americans really need to spend so much to live in such plush surroundings?
Transportation is the other area where spending increases are so noticeable. Americans spend over six times more in 2006 dollars than they used to. Think this is because costs have risen higher than inflation? Think it's because gasoline prices have gone up so much? Think again. The vast majority of the $11,826 spent on transportation by families of four in 2006 went to vehicle purchases, maintenance, car insurance, and auto loan finance charges. It's not surprising this costs so much when a four-person household has an average of 2.5 vehicles. Back in the 1930s, this just wasn't the case. Families were luck to have even a single automobile, and often had to settle for a ride on the streetcar. Back then, people spent almost as much on public transportation as they did on their private cars.
The final big spending difference is with food. Families in 2006 spent little more on food in inflation-adjusted terms than they did back in the 1930s, despite today's much richer diets and a much greater tendency to eat out. This is because inflation in the price of food has lagged behind other areas for basic items from a 1930s diet (flour, milk, butter, bacon and eggs all cost a bit less in inflation-adjusted terms than they did in the 1930s.) 8,9 Americans today should be thankful that they eat so well with so little of their budgets going to food.
What can we learn from these differences? First of all, Americans have plenty of room to trim their budgets by moving into smaller homes, ditching their expensive cars, and maybe even taking the bus. Secondly, given that the American savings rate has gone down to zero despite a many-fold increase in income since the 1930s, hard times may be just the right prescription to force spending down to reasonable levels. Falling incomes may not force people to live like in the Great Depression, but a healthy fear of bad times could be just the trick to change Americans' spendthrift ways.
Related Web Columns:
Stagnation's New Decade, September 16, 2008
Tyranny of the Irresponsible, March 18, 2008
House of Cards
Victimized by an Idiotic Mob, October 2, 2007
Spending Away the Dollar, December 7, 2004
Money Out the Window, October 29, 2002
1. Associated Press, Wall Street marks grim anniversary of 1929 crash, October 27, 2008
2. U.S. Federal Reserve, Remarks by Governor Ben S. Bernanke, November 8, 2002
3. Comparison of average household income in 1934-1936 with the average income of a four person household in 2006, using 2006 dollars from the consumer price index.
5. Bureau of Labor Statistics, Consumer Price Index, All Urban Consumers - (CPI-U) 1913-2008, October 16, 2008
9. Safeway.com, Home Delivery, prices as Posted October 28, 2008