A House Divided

Author: Brendan O’Shaughnessy ’93

What finally drove me in 2009 from a newspaper job I loved was not a singular blow by a management team slowly destroying the paper. No, that would come later, as I walked out the door. What incensed me was the steady strip mining of the best assets of the company over the years by the Gannett corporate leaders who chose short-term profits and personal bonuses over sustainable value.

Like other papers, our readership and revenues had been declining for years. If the constant cuts of employees whose experience, passion and talent used to make newspapers worth reading were the only way to align the money coming in with expenses, that would be understandable. But that’s not what happened.

The final blow elegantly revealed the truth. Gannett corporate asked the company’s 30,000 or so remaining workers to accept a 10 percent pay cut for the good of the team. Actually, they threatened a 15 percent pay cut if we didn’t vote to approve our own pay cut. It narrowly passed because the reporters were committed to saving the paper and its fourth-estate mission of being a watchdog of the powerful.

Except the company was making money, just less than before. The purpose of the pay cut was so the company could hit the profit targets set by the board. That way, the top executives could share a personal bonus pool that would come from the savings the cuts produced. After checking the numbers, a guild leader finally asked our publisher if the cuts were funding the bonuses. She publicly acknowledged it, saying that is how business works.

Gannett CEO Craig Dubow earned $9.4 million in 2010, double his earnings from the previous year, including a $1.75 million cash bonus for, essentially, cutting our pay. The next year, Dubow left his position because of back problems with a retirement package of $37.1 million.

So let’s look at how Dubow earned the golden parachute. In his six-year tenure, Gannett’s stock plummeted from $75 to $10 a share. The number of journalistic boots on the ground at the company’s 82 newspapers dropped from 52,000 to 32,000 in that period.

But since Dubow returned the company to profitability — solely through cuts that diminished the product and choked off any chance of recovery even as he never figured out a way to boost revenue — he earned his bonuses. The newsroom joke was that management simply rearranged the deck chairs on the Titanic, but their bonuses were closer to stripping the copper out of the light fixtures while burning the building down to collect insurance.

Something has changed in business management over the last three decades that has driven a tectonic gap in wealth between the rich and the middle and lower classes. Statistics can easily prove this assertion. Recent research indicates that pay for 90 percent of American workers has stagnated while executive compensation at the nation’s largest firms has roughly quadrupled since the 1970s. CEO compensation at the top 350 firms went from 30 times the typical worker pay to 400 times in two decades.

A widely used measure of inequality, the Gini coefficient, ranks countries from 0 to 1 on a scale that goes from perfect distribution of wealth to one person owning everything. The CIA World Factbook finds the United States in not-so-great Gini company, edging out Uruguay and Jamaica but trailing the Philippines and Cameroon. In three decades, the United States has surpassed the inequality of some banana republics.

Some economic analysts see the change as a basic ethical failure. Business leaders in the past — and some inspiring ones today — chose to build long-term value, plowing profits back into the company as investments even if they had to forgo personal enrichment. Today, the dot.com get-rich-quick ethos seems an accepted norm — come up with an idea, show its potential and sell out before it ever turns a profit or is discovered as a loser. Or sell financial products to your customers that will benefit your company at their expense. Or focus on the quarterly goals that determine bonuses despite the long-term damage to the company. Or, like Gannett’s leaders, strip the sinking ship and bail out for safer shores.

But is my emotional reaction nothing more than bitterness? Or is there hard evidence of a moral failure among government and business leaders? What shadowy methods are transferring wealth from us to them? And what can be done to reverse the trend, helping not only the average American but the long-term health of the companies being strip mined as well?

Maybe I’m too personally involved to objectively judge Gannett. The Washington Post recently took a look at a different industry: milk. In the 1970s, Kenneth Douglas was the chief executive of a leading dairy company and earned the equivalent of $1 million today. He had upgraded from a three-bedroom home in the Chicago suburbs to a four-bedroom half a mile away. He joined a country club, and the company gave him a Cadillac. Today, the CEO of what is now Dean Foods, Gregg Engles, makes 10 times as much in compensation, owns a $6 million home near Dallas and flies to his 64 acres near Vail in the company’s $10 million jet. Meanwhile, the hourly wages for the union workers at Dean Foods have declined by 9 percent in real terms.

Equality and opportunity

Economists don’t agree about the causes of the income divergence or what should be done about it. Some even argue it’s a good thing. Many will tell you that these two wage paths are not necessarily connected; it’s not a zero-sum game where some gain wealth only at the expense of the others. Most people support the idea that an executive’s pay rises extravagantly if the company’s profits do, too, but the financial crisis in 2008 forced a re-evaluation. Did leaders show a willingness to take less when their companies struggled, or did they use their power to grab a larger share of a shrinking pie?

These trends and questions have sparked new waves of populism on both the right and the left, from the Tea Party to the Occupy Wall Street demonstrations. Both sides are frustrated with what they see as a rigged game that allows those in power to continue to accumulate more wealth at the expense of everybody else. The real difference in these opposite-pole groups is who they blame: the government or big business, depending on prevailing political inclinations. These two sides can’t even agree on what caused the 2008 crisis, the greatest economic disaster since the Great Depression. Many conservatives blame the government for mandating home loans for poor people. Many liberals blame Wall Street for taking excessive risks.

But what these two extremes of populism share is more fundamental: a feeling of lost control, a sense of injustice with personal consequences and anger at the powerful pulling the strings. The two ends of the political spectrum loop around and form a circle when it comes to feeling powerless and frustrated. Senators Ted Cruz and Elizabeth Warren are tapping the same well of frustration from different vantage points.

While it’s clear that globalization and technology helped trigger the Great Divergence, a growing group of economists argues that systematic choices in economics and politics over the last three decades have allowed those with power to rig the system.

That well has been called the Great Divergence, where economic rewards since the 1980s have divided sharply between a few becoming incredibly wealthy and everyone else struggling to stay afloat.

Few people argue that economic outcomes, which depend on ability, ambition and hard work, should be uniformly equal. That would surely kill the incentive to succeed, the heart of capitalist motivation. But Americans tend to agree that equal opportunity is one of our country’s most fundamental values. A recent Pew Research Center survey found that about 9 out of 10 Americans believe society should do everything it can to ensure equality of opportunity.

Unfortunately, a growing body of leading economists and research evidence has argued that equal opportunity is becoming a myth from our Horatio Alger past. One study found that 42 percent of American men raised in the bottom fifth of incomes could not claw out of that quintile as adults, compared to just 30 percent in notoriously class-constricted Britain. Research by the Economic Mobility Project of the Pew Charitable Trusts found that 62 percent of Americans raised in the top fifth of incomes will stay in the top two-fifths. Seven of 10 Americans born in the bottom fifth will stay in the bottom two-fifths.

This same study found that Americans were more likely to make it into the top fifth of earners if they were born into the top fifth and did not get a college degree than if they were born into the bottom fifth and did. “In other words,” writes Jonathan Chait in the New Republic, “if you regard a college degree as a rough proxy for intelligence or hard work, then you are economically better off to be born rich, dumb, and lazy than poor, smart, and industrious.” Economists call this “stickiness at the ends,” and while there is more fluidity in the middle, this phenomenon challenges our faith in equal opportunity.

Joseph Stiglitz, a Nobel laureate and economics professor at Columbia University, says our country has clung to the fantasy of the American dream — opportunity and mobility — to explain away the growing income gap. But his 2012 book, The Price of Inequality, concludes that this is no longer possible. “It’s not that social mobility is impossible, but that the upwardly mobile American is becoming a statistical oddity,” he wrote in a summary article for The New York Times. “Americans are coming to realize that their cherished narrative of social and economic mobility is a myth.”

Former White House economist Alan Krueger, now a Princeton professor, plotted income inequality in 10 developed nations against the ability of the next generation to climb the economic ladder and found that concentrated wealth has a clearly detrimental effect. He dubbed this the “Great Gatsby Curve,” noting that income inequality in the United States is greater than any time since F. Scott Fitzgerald’s Roaring ’20s. Recognition of the curve’s reality makes people less optimistic about their future, fueling declines in labor force participation and productivity — ultimately endangering the general economy. “Children of wealthy parents already have much more access to opportunities to succeed than children of poor families,” Krueger said, “and this is likely to be increasingly the case in the future unless we take steps to ensure that all children have access to quality education, health care, a safe environment and other opportunities that are necessary to have a fair shot at economic success.”

Harvard political scientist Robert Putnam echoes this theme. His new book, Our Kids: The American Dream in Crisis, focuses on children in order to shift the focus from the politically explosive topic of equal income to the more accepted ideal of equal opportunity. Some Americans may blame the poor for their poverty, but it’s hard to fault their children. Putnam combines real, emotional stories with research proving that the gaps between poor kids and rich kids are growing wider by the year for everything from academics to family structure to religious life. He looks at his hometown, Port Clinton, Ohio, once an embodiment of the American dream but now a place where kids at his old high school park BMW convertibles next to junkers where homeless classmates live. “The American dream has morphed into a split-screen American nightmare,” he wrote.

Recently, a relative of mine complained that President Obama wants to redistribute wealth. His argument boiled down to the idea that America only promises equal opportunity, not equal outcomes. My response was to ask if America really fulfills its promise of opportunity. I have serious doubts when those of us who grew up in well-off families with parents bent on giving us every advantage and access to the best education claim that everyone can get ahead through hard work. That would be like starting a marathon at mile 20 and claiming you deserved to win the race because you ran the last six miles at a faster pace than those who started at the beginning.

Moral failure

The debate over what has caused these changes over the last 30 years continues to rage. Conservatives point to changes in technology and a globalized marketplace, both of which have steadily eliminated blue-collar jobs and increased the market premium paid for highly educated and skilled leaders. Liberals, on the other hand, acknowledge these forces but place much of the blame on choices in tax law, government policies and business ethics that have redistributed wealth from the masses to a select few in power.

A less polarized approach has focused on the importance of shareholder value. The idea that a company’s primary purpose is to maximize share price has become a mantra widely accepted today. Corporations can be formed for any lawful purpose, and the earliest were generally formed for a public good such as a transit system. They were believed to owe a return to the society that gave them legal protections and an environment to thrive in — a model that sought to balance the interests of workers, shareholders and community. In the 1980s, global competition and low investment returns led to hostile takeovers, spurring defensive corporate leaders to ignore the stigma associated with hurting the community (layoffs, wage cuts, plant closings) and place the focus on profits and share prices.

This change led to a fixation on the short term even at the expense of the long term, and it kicked off the sharp rise in stock-option incentives and executive salaries as a way to tie compensation to stock performance. One study found that the ratio of chief executive compensation to corporate profits increased eightfold between 1980 and 2000, refuting the idea that executive pay has increased in step with wealth creation. On the other end of the wage scale, U.S. workers’ productivity and average hourly compensation had increased in near lockstep after World War II, but that link has broken. Between the mid-’70s and 2011, worker productivity increased 80 percent; hourly compensation rose only 10 percent.

A recent study by J.W. Mason, an economist at the City University of New York, found that U.S. corporations have flipped what they do with their money in the last 30 years. Before the 1980s, corporations invested about half of every dollar earned and paid shareholders about a quarter. Now, they invest 22 cents of each incremental dollar of income and pay out the rest to shareholders. Less investment leads to fewer new jobs and decreased pressure on wages. Mason also found that companies now borrow money in order to pay out more dividends rather than invest, calling into question the monetary policy of cheap credit as a means to boost the economy and employment. “Finance is no longer an instrument for getting money into productive businesses,” he concluded, “but instead for getting money out of them.”

Conservatives say disparity is less important than overall growth because a rising tide lifts all boats. Economist Larry Kudlow, a former Reagan adviser and trickle-down pundit, contends that tax cuts would help businesses grow, ultimately increasing wages and even tax revenues by stimulating the economy. Senator Paul Ryan said we should focus on upward mobility rather than redistribution: “If these [inequality] studies are used as justification for erecting new and more barriers, all that will do is reduce our prosperity in this country.”

But the most recent statistics show that most boats are already sinking. If one looks at average income, everyone gains because it includes the explosion at the top. But that’s sleight of hand: Census data shows more Americans lost ground than gained any over the last 14 years. Median household income was 9 percent lower in 2013 ($51,939) than it was in 1999 ($56,895, adjusted for inflation).

Hedrick Smith, a journalist who spoke at Notre Dame last year about his book Who Stole the American Dream?, made abstract numbers more concrete by contrasting two companies making electrical hair clippers. In 1997, cost-cutting Sunbeam CEO “Chainsaw Al” Dunlap closed a profitable production plant in Tennessee because more money could be made in cheap-labor Mexico. At competitor Wahl Clipper, CEO Jack Wahl “disputed Dunlap’s claim that you couldn’t turn a solid profit making hair clippers in America.” The family company hadn’t laid off a single employee in 25 years.

Pope Francis’ recent apostolic exhortation shows that concern about economic justice is not confined to liberal-leaning economists and journalists. In Evangelii Gaudium, released in 2013, Francis criticized “trickle-down theories” that have not worked and show “a crude and naïve trust in the goodness of those wielding economic power.” He shares his concern about economic imbalance that is “growing exponentially” and stresses that his philosophy stems from a traditional Catholic concern for humanism over materialism: “The culture of prosperity deadens us; we are thrilled if the market offers us something new to purchase. In the meantime all those lives stunted for lack of opportunity seem a mere spectacle; they fail to move us.”

Charles Wilber, a Notre Dame economics professor emeritus, says the pope’s message echoes the pastoral letter “Economic Justice for All” put out by the U.S. bishops in 1986. Wilber says some Catholics consider ethics simply a matter of personal behavior, but the pastoral letter he helped write stressed a duty to create an economy that serves everyone, especially the poor.

“One of the problems with inequality is that it puts heavy stress on the [Christian] sense of community,” Wilber says. “Some can wall themselves off in gated neighborhoods while others rot.”

Gaming the system

While it’s clear that globalization and technology helped trigger the Great Divergence, a growing group of economists argues that systematic choices in economics and politics over the last three decades have allowed those with power to rig the system. The methods are so common that economists have a name for it: rent-seeking. Stiglitz, who argues that rent-seeking is a drag on the economy created by the powerful for their own profit, defined it as “getting income not as a reward to creating wealth but by grabbing a larger share of the wealth” already there. The historic example was a feudal lord stretching a chain across a river on his property and charging a fee for boats to pass, while the modern equivalent could be lobbying for new laws that benefit your interests at others’ expense.

Laws and sanctions worldwide often can’t keep up with the financial chicanery that rewards the haves, often at the expense of the have-nots. During the Internet bubble of the late 1990s, for instance, Wall Street banks would offer special low prices of stock shares to the executives of a company that the bank was taking public in an initial offering. In return, the executives would steer future business to the bank. Wall Street firms paid $1.4 billion to settle a number of fraud cases in 2002 and agreed to end a practice critics called legal bribery.

In 2012, news broke that some banks for years had been falsely inflating or deflating borrowing rates, individually or in collusion, so their traders could make huge profits on derivative bets. Besides shaking faith in fair markets, the manipulation is estimated to have cost U.S. cities and states billions. International regulators have fined a group of large banks more than $6 billion so far for regularly fixing the benchmark borrowing rate called Libor, or the London Inter-Bank Offered Rate, which affects home, auto, student and business loans.

And Michael Lewis’ book Flash Boys created a sensation last year when it exposed how high-speed traders skim billions from investors (including workers’ retirement funds) by exploiting a few microseconds of information access. America’s financial sector has doubled its share of corporate profits over the last 20 years, redistributing billions from debtors and small investors to those who control the system.

On the political side, the super wealthy flex their power by pushing through tax laws that help them hoard more wealth, leaving a larger burden for everyone else.

A loophole called carried interest prompted investment guru Warren Buffett to propose his now eponymous rule: that his secretary (paying a 25 percent tax rate) should never pay a higher rate than the boss. As a performance fee and incentive, hedge fund and private equity managers are generally paid about 20 percent of the profit they make for investors. But the IRS treats this “carried interest” as an investment rather than a salary. The difference is enormous: the top individual tax rate is 39.6 percent, while the capital gains rate is 15 percent.

All U.S. workers pay a payroll tax (a combination of Social Security and Medicare), but lower-wage workers pay a higher percentage of their income. The constant rate of 7.65 percent is applied only to the first $118,500 of income, so a worker earning $50,000 would pay the full rate, while an executive earning $10 million would pay an effective rate of .09 percent. Mitt Romney was correct that 47 percent of Americans pay no income tax, but the government now collects roughly the same amount of payroll and income taxes.

Changes in the estate tax over the last dozen years have exempted all but about 0.2 percent of estates and have effectively written a check to the nation’s richest families for $163 billion.

After the black box practices of Wall Street nearly cratered the world financial system in 2008, the $700 billion federal bailout of Wall Street was so gargantuan it united in opposition the Tea Party and Occupy Wall Street. Critics on both sides said the crisis and bailout finally turned the tide of public opinion by exposing a simple truth: Wall Street wanted to privatize gains and socialize losses. After extracting huge profits from risky behavior, Wall Street dumped the cost on taxpayers when the bubble burst. Executives further enraged the public by paying themselves “incentive” bonuses with our tax money.


So what should be done about the situation? How can the populism stoked by the economic crisis be translated into change that will curb the redistribution of wealth from the bottom to the top?

Consider one phenomenon I saw time and again when I reported on Indiana state government. I watched utility company lobbyists, for instance, convince regulators to let the company they represented increase costs a few pennies at a time, which would increase that company’s profits by millions. Each customer hardly had enough incentive to file a lawsuit or hire a lobbyist to fight the small increase. So when one person or group has a lot to gain and a great number of people will lose only a little, there will be extreme organization and campaign donations on one side and little motivation to fight on the other. Cunning people have a huge incentive to rig the system and stay one step ahead of government attempts to rein in rent-seeking.

In 2013, $3.2 billion was spent on lobbying in the United States. Billions more were invested in political campaigns. Senator John McCain once called the system “nothing less than an elaborate influence-peddling scheme in which both parties conspire to stay in office by selling the country to the highest bidder.”

So the place to start reform: demand laws putting tighter controls on lobbying and campaign finance.

Then there are the tax cuts that through the years have benefited the wealthy. Over 16 years, IRS records show that total taxes for the top 400 earners in this country dropped by more than a third. Corporate tax revenue is now a much smaller part of the total collection.

Nick Hanauer, a billionaire investor and entrepreneur, advocated in Politico magazine for a $15-an-hour minimum wage as a way to boost the middle class and businesses, which need customers with money. He wrote: “I have a message for my fellow filthy rich, for all of us who live in our gated bubble worlds: Wake up, people. It won’t last. If we don’t do something to fix the glaring inequalities in this economy, the pitchforks are going to come for us.”

Does this sound like class warfare? Warren Buffett’s response: “Actually, there’s been class warfare going on for the last 20 years, and my class has won. We’re the ones that have gotten our tax rates reduced dramatically.”

Can the average person limit the influence of money in lobbying and campaigning, reform the tax code and enhance economic mobility? Can the American dream of fairness and opportunity be restored?

If people believe that the solutions are outside of their control and therefore not their responsibility, then it seems doubtful. But reform starts with individual attitudes. Accept the status quo or call for change? Only after public reaction reaches a tipping point will there be a political response. After Ohio’s Cuyahoga River caught on fire, 20 million Americans marched on Earth Day in 1970 to demand a cleaner environment — and government responded. The 2008 crisis should not go to waste — it exposed the sham that the dream has become, that we have let it become. It’s up to us to restore it.

Brendan O’Shaughnessy works in communications for Notre Dame. A former teacher and Indianapolis Star journalist, he is the co-author of three Notre Dame books for children.