Publication - IMF Research Bulletin, March 2017
The U.S. middle class—those households with 50–150 percent of median disposable income—has been shrinking. Middle-income households declined by 11 percentage points (from 58 to 47 percent) of the total U.S. household population between 1970 and 2014. In other words, the U.S. income distribution has been polarizing, or hollowing out, as middle-income households became richer or poorer (see Figure 1).
From 1970 to 2000, this polarization was mainly good news because more households moved into upper income ranks (with disposable incomes higher than 150 percent of the median) than slipped down (with disposable incomes lower than 50 percent of the median). Since 2000, however, the story has reversed. More middle-income households have fallen into lower-income than higherincome brackets. Falling into a lower income bracket takes a toll on households, especially at a time when average real (after-inflation) incomes have been broadly stagnating. At the aggregate level, the hollowing out has damaged the economy in recent years by hampering consumption—the main engine of U.S. growth. Lower consumption in the world’s largest economy also hurts its trading partners, as well as many other countries through global production and financial chains.
Middle Class Trends
A strong economy needs strong consumption and investment to function well. Low-income households have limited ability to consume and save little. High-income households save a lot, but relative to their incomes, consume too Income share is a proxy for an income group’s relative weight in the economy. At the same time that the middle class is hollowing out, its share of total national income is shrinking. The income share of middle-income households fell from about 47 percent of total U.S. income in 1970 to about 35 percent in 2014. That decrease in the income of the middleincome households corresponds to the increase in the income share garnered by high-income households. Meanwhile, the income share for the lower-income households has been flat over the entire period—at around 5 percent of total national income. Low wage growth in recent years—partly a result of the drawn out recovery from the global financial crisis but also because people weren’t changing jobs—has also contributed to these trends (Danninger, 2016).
Inequality and Polarization
Although growing income inequality has been studied extensively by economists, income polarization (or hollowing out) has not received as much attention. Income polarization measures the move from the middle of the income distribution out into the tails.
Income inequality measures how far apart incomes at those tails are, that is, what is the income distance between the low and high-income groups. Income inequality is usually measured by the Gini coefficient, which gauges statistical dispersion in household income distribution. The polarization index, which is not as well-known as the Gini coefficient, was developed to measure income polarization. This index, measures the relative population weight of households whose incomes are close to the extremes (poles) of the income distribution. The polarization index varies between zero and one. It is zero when all households have the same income. It increases as incomes of more households get closer to the two extremes of the income distribution and reaches 1 when some households have no income and the others have the same (non-zero) income. Figure 2 shows that polarization has grown faster than inequality since 1970 based on a comparison of the Gini and polarization indices. Moreover, while the Gini coefficient has been broadly flat since 2000, the polarization index notably increased around the global financial crisis, suggesting that the hollowing out of the middle class in recent years may be socially and economically even more worrisome than inequality.
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