The Coin Flip

While teaching one of my graduate classes this summer, an interesting and incendiary topic came up. Students argued that Generation Z, the most recent up-and-comers, were at a massive disadvantage when it comes to earning power.

My colleague vehemently disagreed with them, and a near brawl ensued. Sure, there’s a lot of whining going on, but I thought the kids had a point. How on earth can they afford anything with the way costs have spiraled out of control in New York City?

I blanch when I look at Big Apple menu prices. They’re unambiguously ludicrous. And I immediately wonder how a family of four survives these days.

When I was a kid, it was different.

My father drove a truck for a living. He came home every night smelling like grease, but I never wanted for a thing. Back in the 80s, things were affordable.

Then, when I hit the workforce, I outearned him. I did it on 3 continents, in industries he knew nothing about. That wasn’t unusual for my generation. I went to college and worked, and then I did better than my old man. That was exactly as expected.

My son Micah is only 9. If I’m honest, I’m not sure he’ll outearn me. That’s no reflection on Micah’s intelligence or work ethic, which I’d argue are shaping up to be more formidable than mine. It’s about the system he has to deal with, which is completely different from the one I had to contend with.

A Harvard economist, Raj Chetty, put a number on my intuition, and it’s uglier than you’d think.

The Number

In 2017, Chetty and a team of economists published a paper in Science titled “The Fading American Dream.” They asked one question: What share of American kids grow up to earn more than their parents did at the same age, after inflation?

For Americans born in 1940, the answer was about 92%. If you were born that year, outearning your parents was nearly guaranteed.

For Americans born in 1984, the answer was about 50%.

The American Dream went from a near-certainty to a coin flip in two generations.

That 1984 kid is 42 now. He’s a grown man in his peak earning years, and half his cohort is doing worse than Mom and Dad.

The decline didn’t spike and recover. It fell for every birth year in between, like a stone rolling downhill. Every state in the union got hit. The worst damage happened in the industrial Midwest, in places like Michigan, Ohio, and Illinois. Those places built things and then got hollowed out.

Ross Perot’s “sucking sound of American jobs” is ringing in your ears, isn’t it?

Fair Share

Chetty didn’t stop at the headline number. He asked why it fell.

There are two possible stories. One: the economy stopped growing as fast, so there was less to go around. Two: the economy kept growing, but the growth went to fewer people.

So he ran the experiment both ways.

First, he gave the 1984 cohort the roaring growth rates of the postwar years but left today’s lopsided distribution in place. Mobility rose from 50% to around 62%. Better, but nowhere near the old deal.

Then he flipped it. He kept today’s slower growth but divided it the way America divided it in the 1940s and 50s. Mobility jumped to about 80%.

Faster growth alone bought 12 points. A fairer split bought 30.

Roughly ⅔ to ¾ of the American Dream’s collapse came not from a smaller pie, but from who got to cut it.

Who Held the Pie Knife

As you well know, new money leaves the Fed, lands at the banks, and flows into whatever asset is closest to the spigot. The people who own stocks, bonds, real estate, and private equity get richer before a single dollar reaches a paycheck. That’s the Cantillon Effect, and it’s been running hot since August 1971 (the Nixon Shock) and red hot since the 2008 Global Financial Crisis and Bernanke’s helicopter money.

The 1940 cohort grew up in a country where productivity gains showed up in wages. For about 3 decades after the war, pay and productivity rose together. Then, around the early 1970s, by most common measures, they split. Productivity kept climbing, but wages flatlined. The gap between those two lines is the money that went somewhere else.

It went to asset prices. Your house tripled in value, and the Greenspan Put saved your 401(k) countless times. And your kids, who owned nothing yet, watched the purchase price for everything they wanted run away from them.

That’s not a moral failing on their part. It’s math. A starter home that cost roughly 3 years of income in the 1970s costs 6 or 7 years of income today. A college degree that cost a summer job now costs a mortgage. The printing press sawed off the bottom rungs of life’s ladder.

The Uncomfortable Mirror

You probably outearned your parents. And you probably did it, at least in part, by owning assets that inflated. That’s ok. You played the hand you were dealt, and you played it well.

But it also means the same mechanism that made you richer than your father is the one making your kids poorer than you are. The Cantillon winners of one generation are, on average, the parents of the Cantillon losers in the next.

But not always, and not all.

Your To Do List

First, stop measuring the country’s success by stock market performance. A rising S&P tells you asset holders are winning. That’s all. It tells you nothing about whether a 30-year-old can afford to buy a house. Chetty’s number is the real scorecard, and it says half the country is losing.

Second, if you own the assets, you’re the bridge to your children’s success. Their mobility is now, more than at any time since the Gilded Age, a function of inheritance rather than effort. I don’t like that, either. But pretending otherwise won’t help them.

Get them into real assets early, and make sure you hand yours over to them when you’ve shuffled off your mortal coil. Giving your money away to some anonymous charity instead of your children doesn’t make you a hero. Your only job is to make sure your children win the game.

Third, keep your own capital near the spigot. Unless and until the monetary system is reformed (and pigs fly), the only viable strategy is to own what the printing press inflates and avoid what it erodes.

Wrap Up

I outearned my father with a couple of finance degrees earned during rampant bull markets and a bunch of airport lounges.

Micah’s generation is playing with a deck shuffled by people who never have to show their hands.

You saw wages stall while houses soared. You didn’t need a Harvard paper to tell you something broke around the time the dollar left gold.

Chetty just gave you the number.

It’s a coin flip. And the coin is weighted.

Your job is to increase the probability of your children’s success.

Have a great day ahead.