Unexpectedly Intriguing!
June 16, 2007

A major shift is underway in shaping how income is distributed among the members of the U.S. workforce. In our previous analysis, we've shown that in the ten years from 1995 to 2005, the ranks of the lowest income earners have dwindled while the ranks of the middle and high income earners have increased.

Why?

In the time from 1995 to 2005, several major factors have influenced the distribution of income within the United States, each of which may have contributed to the shift for income-earners away from the low end of the income spectrum to the middle and high end. The likely suspects include:

We'll briefly explore each of these factors.

Low Unemployment

The period from 1995 to 2005 marks a period in which the rate of unemployment has trended downward for our snapshot years of 1995 and 2005. The chart below shows the monthly level of the U.S. civilian unemployment rate from January 1948 through May 2007, as well as its average level of 5.6% over this time. The standard deviation of the unemployment rate is 1.5%, which is represented by the red dashed lines on the chart.

U.S. Unemployment Rate, 01-1948 through 07-2007, 1994 and 2004 Emphasized

We've added information to the chart showing the rate of inflation at the beginning and end of both 1994 and 2004 [1], which covers the period captured by the Current Population Surveys from which we drew our income data. We find that the rate of unemployment decreased substantially over the course of both years, with 1994 seeing unemployment decrease from 6.6% at the beginning of the year to 5.5% in December and 2004 seeing unemployment decrease from 5.7% in January to 5.4% at the end of that year.

We find that the average rate of unemployment for each year to be 6.1% in 1994 and 5.5% in 2004.

While 2004's lower average rate of unemployment may help account in part for the latter year's higher overall number of income-earners, there's little within these figures that would account for the large shift we observed in the distribution of individual income in the U.S. If anything, we would anticipate higher number of income earners at all levels, rather than a decrease in the numbers of the lowest income earners and an increase in the number of higher income earners.

Low rates of unemployment do not explain the observed shift in income distribution.

Increased Immigration

We added increased immigration to our list of possible explanations for the shift in individual incomes after discovering that the number of income-earners within the Age 25-34 group for 2005 (or in other words, those born in the years from 1970 to 1979) exceeded the number of registered births in the U.S. for those years.

The only way that can happen is if significant numbers of immigrants are added to the U.S. income-earner pool, so we chose to look at the impact of the foreign-born upon the distribution of income in the U.S.

The problem though is that immigrants to the U.S. in this period earn substantially less that their native-born income-earning counterparts. So much so, that an increase in the number of immigrants would disproportionately increase the numbers of the lowest income earners, opposite to what we have seen.

As a result, we can rule out increased numbers of immigrants as a reason for the shift we've observed in the distribution of annual incomes earned from $0 to $95,000 (in 2004 U.S. dollars) in the U.S.

Increasing Level of Education

Education can play a big role in determining an individual's potential to earn high incomes. The chart we've included above is taken from the July 2002 U.S. Census report The Big Payoff: Educational Attainment and Synthetic Estimates of Work-Life Earnings, which demonstrates how increased levels of education correspond with higher incomes throughout an individual's income-earning years.

But are more Americans becoming more educated? According to economists Gary Becker and Kevin Murphy, the answer is yes. In the years from 1994 to 2004, the percentage of individuals in each year aged 20-25 with at least some college increased, as did the premium in income one could expect from having more education.

In terms of how income is distributed among the U.S. working population, an increase in the number of individuals with more education should produce the two-pronged effect of decreasing the number of low income earners while increasing the number of higher income earners over time.

This kind of shift in income distribution is, in fact, the pattern we observe in our data for U.S. income earners Aged 15-74 as a whole, as well as for the Age 15-24, 25-34, 35-44 and 45-54 groups over the period from 1995 to 2005, as the younger, relatively more educated group displaced the older, slightly less well educated group.

This effect appears to have the greatest effect at the low end of the income spectrum, but has little effect at the highest end, especially as those who would otherwise occupy the lowest income levels would appear to gain the most from their investment in additional education. We note with interest the breadth of age-ranges across which this effect occurs, which coincides with significant increases in the number of older, non-traditional students pursuing post-secondary education (who now make up roughly three-quarters of higher education students.)

Generational Changes in Workforce Composition

The number of individuals available to be income-earners in any year within a nation is largely determined by the number of people of working age who are born in that nation combined with the number of working age immigrants, and deducting any emigrants from that total. As the U.S. has not experienced any significant emigration in its population in the years from 1995 to 2005, we may discount this factor. Having already discounted the immigration portion of the puzzle in producing the effect we have observed, significant changes in the number of native-born income earners may have a very large effect upon the distribution of income.

We observed this effect in how the distribution of income changes as those born in a given decade grew 10 years older from 1995 to 2005. As each younger age group in 1995 became the next older age group in 2005, significant shifts in income distribution coincided as individuals leave school for full-time work, gain experience, retire from working, or otherwise enter, leave or change their position within the workforce.

What matters here is the size of the native-born age group. The table below provides the number of registered births in the U.S. for each decade, as well as the age group for those born within a given decade for 1994 and 2004:

Number of U.S. Registered Births by Decade
Birth Decade Age Group in 1994 Age Group in 2004 Registered Births Percentage Change from Previous Birth Decade
1920-1929 Age 65 to 74 Age 75 to 8428,582,000N/A
1930-1939 Age 55 to 64 Age 65 to 74 24,374,000-14.7%
1940-1949 Age 45 to 54 Age 55 to 64 31,666,000+29.9%
1950-1959 Age 35 to 44 Age 45 to 54 40,530,000+28.0%
1960-1969 Age 25 to 34 Age 35 to 44 38,808,409-4.2%
1970-1979 Age 15 to 24 Age 25 to 34 33,308,985-14.2%
1980-1989 Age 5 to 14Age 15 to 24 37,507,107+12.6%
1990-1999Age -5 to 4Age 5 to 1439,860,087+6.3%

In going from 1995 to 2005, we found that the size of each birth decade cohort has a significant effect upon the number of income earners at every income level. This effect is most easily seen in the percentage changes from 1995 to 2005 in the number of income earners coinciding with the baby boom generation.

The Effects of Generational Change

Here, we see both leading and trailing effects as income earners born in the midst of the post World War II baby boom displace the smaller numbers of income earners of previous years (1995's Age 35-44 becoming 2005's Age 45-54) and in turn are displaced by smaller numbers of income earners in following years (1995's Age 25-34 becoming 2005's Age 35-44, shown below.) Percentage Change in Number of Income Earning Individuals (Age 35-44) vs Annual Income Between 1995 and 2005

This chart spans a unique transition for the U.S. In 1995, the Age 35-44 group was entirely made up by members of the baby boom generation. More significantly, the distribution of the numbers of individuals within this group were heavily weighted toward the youngest members (the growing surge of the baby boomers.)

As this group was displaced by 2005's Age 35-44 group, the distribution of the number of individuals within this group became heavily weighted toward the oldest members (the tail end of the baby boom generation.)

A Confluence of Factors

More significantly, this chart shows the confluence of the two major factors affecting the distribution of income in the U.S. In looking at the percentage changes from 1995 to 2005 in the distribution of income for the income earners born in the 1950s, we see that these individuals have a symmetric distribution across our income spectrum.

However, in the chart above, we do not see such symmetric changes in the distribution of income. Instead, we find that the distribution is skewed so that there are fewer low income earners and more middle and high end income earners than might be expected.

We believe this is the effect of having the income earners born in the 1950s being displaced in this age range by the slightly more educated income earners born in the 1960s.

The Future

We'll conclude our series with a look at what these changes mean for the future next week!

Previously on Political Calculations

Notes

1. The data we've used in our analysis is drawn from the Current Population Surveys published in March 1995 and March 2005. Since these surveys capture data collected during the previous year, we're really looking at income earners in 1994 and 2004 respectively, although we have consistently referred to the year in which the survey was released throughout our analysis. This is also why we have adjusted all our figures for inflation to be in constant 2004 U.S. dollars, which allows for a direct comparison of the distribution of income in both years.

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