Have changing household composition and retirement caused the decline in median household income?

From Mark Perry.

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One of the most frequently reported economic trends is the gradual decline in US real median household income from its 1999 peak of about $57,000 to below $52,000 in each of the last three years (see blue line in top chart above). We hear a number of reasons from politicians and pundits for the decline in median household income over the last decade, mostly reasons that involve a narrative about economic stagnation and growing inequality caused by the progressives’ usual suspects: gains in worker productivity, income and wealth going to corporations and “the rich” instead of being shared by average workers; failure to increase the minimum wage or pass “living wage” laws; the combined effects of globalization, free trade and outsourcing putting downward pressure on middle-class incomes in America, and other variations of economic pessimism. Former President Bill Clinton recently offered his three reasons for stagnant median household income that include not raising the minimum wage and excessive corporate greed.

But there are some other very obvious, but mostly overlooked, factors that could easily explain why median household income has declined over the last decade that have nothing to do with economic stagnation: demographic changes in the composition of US households. AEI’s Alex Pollock addressed this issue recently in his essay “If income is going up, can median household income go down? It’s possible.” Here’s how Alex frames the issue:

One of the most commonly cited numbers in discussions of inequality is the trend in median household income, often used as if it settled the issue. Using median household income poses a fundamental problem, however. It conflates two measurements — changes in the composition of households and changes in income — and thus can easily mislead us.

Has the composition of households in America been changing? Obviously, it has. The percent of married couple households has fallen from more than 60 percent in 1980 to less than 50 percent in 2010. One-person households have risen from 23 percent to 27 percent of households in this period. Shifting from two-earner households to one-earner households lowers the median household income, even if everybody’s income is the same as before [or rising].

Alex provides a series of hypothetical examples showing how simple household demographic changes can result in rising individual incomes while at the same time the median household income is falling. For example, if there is a shift from two-earner, married households to one-earner single households as a result of divorce, the overall median household income could fall even when income is increasing for all individuals in the new mix of households with a greater share of single households.

Alex’s key point is that when demographics and household composition are dynamically changing, individual income and median household income can naturally move in opposite directions. The most frequent mistake, according to Alex, is to look at median household income over time assuming that household demographics are static. And that is precisely the mistake made in almost all of the discussions about median household income, and that leads to a distorted and inaccurate conclusion about why median income is falling.

One example of a major dynamic change in household composition is the significant increase in the share of US households with no earners, from fewer than 20% of all US households in 1980 to 23.7% of households in 2013 (see blue line in bottom chart above, Census data here from Table H-12). Likewise, the share of single-earner households has also increased from 33.2% in the early 1990s to above 37% for the last five years (see red line). In contrast, there’s been a decrease in the share of US households with 2 or more earners from above 46% of all households in 1989 to fewer than 40% of US households in every year since 2010 (see brown line in bottom chart above).

In summary, over the last several decades, there’s been an increasing share of no-earner, single-parent and single-earner households and a decreasing share of married and two-or-more-earner households. That major demographic shift has likely depressed median household income significantly in the last decade, even though it’s possible, as Pollock shows, that the income of individual working Americans could be rising.

Another key demographic shift is the increasing number of retired Americans as a share of the adult population based on Social Security data. As the red line in the top chart above shows, US retirees represented a pretty stable 15% share of the US population from 1990 to 2008. Starting around 2008 when the early “baby-boomers” – those born in 1946 — reached early retirement age of 62, the share of retirees started increasing from less than 15% of the adult population in 2007 to more than 16.6% in 2013.

In the five year period between 2008 and 2013, the number of retired Americans increased by 5.6 million, which was the largest five-year increase in US history, and more than double the 2.5 million increase in the previous five-year period. Given that wave of recent retirements, there have been millions of older, experienced, highly-paid workers going from their peak earning levels to a much lower retirement income that would typically include Social Security payments, pensions, and distributions from retirement accounts. As those millions of retirees are replaced in the workforce by younger, less experienced, lower paid workers, median household income could be falling even though the average income of working Americans could be rising.

It’s probably no coincidence that the recent increase in retirees, both in absolute numbers and as a share of the adult population, along with the other demographic changes described above, has naturally coincided with a decline in median household income. It would be hard to imagine that an aging population with a significant increase in the number and share of retirees, wouldn’t depress median household income, for purely demographic reasons.

Bottom Line: Most explanations of the recent decline in US median household income are based on some variation of a narrative of economic stagnation, rising inequality and pessimism. But what is almost always overlooked are the very significant demographic changes that have taken place in the composition of US households over time that would significantly impact the income of the median US household. Taken together, a) the increase in the share of no-earner, single-earner, and single-parent households, b) the increase in the number and share of retirees, along with c) the decline in the share of two-earner and married households, would logically and necessarily depress the income level of the median US household.

In summary, the composition of US households is not static, fixed and permanent; rather it’s dynamic, evolving and ever-changing. Discussions on changes in median household income over time that ignore the changes in household composition over time will always be incomplete, distorted and misleading. Perhaps the decline in median household income this century is not a narrative of economic pessimism and stagnation after all, but a more upbeat story of a greater number of Americans living longer lives, and enjoying periods of time in retirement that were never possible until this century."