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How wealth is transferred in our economy
How wealth transfers to the wealthier in our economy
To see how investment favors the wealthy in building wealth, and how the middle class shrinks, and how the lower economic class cannot hang on to the ability to make a living, let's compare families in each. The figures used in the tables below are meant to reflect the typical economic conditions that face typical families. None of the figures have an absolute reflection in our society, nor are they absolutely accurate. Actual family budgets, and the factors affecting them, vary widely. You can see the assumptions and statistics on which these calculations were based following the tables and conclusions.
Family budget expenses plus savings comparisons over a 10 year period
Note that for simplicity of calculation, the mortgage payment and related taxes have been subtracted from income since it remains the same for long periods and doesn't change with inflation.
Family A is above poverty level and has two wage earners at an annual combined $35,000.00 salary. They max out their pay adjustments after 6 years employment, and only get 3% annual raises. They have few prospects of moving up in job position, but it sometimes happens. They have three children, with the typical rapidly rising child related expenses. They haven't been able to save any money - it always goes for something essential. They are buying their home, and their house payment on their $120,000.00 house is $778.00, which is removed from their expenses since it doesn't change with inflation. Their savings are $0.00. Their total yearly expenses equal their combined salary. They have turned to credit card debt as a way of keeping their budget on track and handling unexpected things like car repair expenses, at a rate of 13%. The first year credit card debt is $500.00, and grows over five years to ~ $4000.00. They would like to send their children to college, but don't see a way to do it.
After just 7 years, Family A owes $6880.00 in credit card debt, has a $344.00 a month credit card bill, and puts the debt back on it as fast as they pay it off. So that's about $1100.00 a year Family A is sending to someone else. Things started out with a balanced budget, they tried to live responsibly, they used the credit card mostly to even out their budget and keep it caught up, and they have no idea how they got into this ridiculous financial position. Next year they add $4165.00 to their credit card debt, and will have to refinance their house to make ends meet, at which time the debt cycle will start all over again.
Family B is middle class, an average family, with similar characteristics to Family A, although they have more job promotion potential. They have a combined annual salary of $50,000.00. Their budget is tight, so they have little discretionary spending money. They use credit cards for unusual expenses and try to pay them off, but they usually don't. They are buying their home, and their house payment on their $150,000.00 house is $1,011.00, which is removed from their expenses since it doesn't change with inflation. They elect to save $250.00 per month. Their budget, including savings, starts at $50.00, and their total yearly expenses are $45,000.00. The first year credit card debt is $1000.00, and grows over 5 years to ~ 7000.00, which is typical for the average US family. They hope that their savings will get their children into college, but know their children will also have to work and depend on loans and scholarships.
After 10 years, Family B has accumulated the average $7000.00 in debt by not paying down their credit card balance (except when promoted) and just letting it accumulate and charging even more. They are no longer able to save, and must now either use their savings to pay off credit card debt and meet their budget, or refinance their house. They have $350.00 less each month to spend because it goes to the credit card payment. During this time, they have contributed $4100.00 in interest charges to the economy (other's pockets).
Family C has had some advantages, but they do keep their budget loaded. They are not wealthy. Their house is mostly paid for, but their payment is high, and they have huge car payments, so they have little discretionary money for spending. Their combined annual salary is $100,000.00. Their budget, including starting savings, is $90,000.00, and their discretionary spending is higher. They are buying their home, and their house payment on their $200,000.00 house is $1,167.00, which is removed from their expenses since it doesn't change with inflation. They elect to save $20,000.00 a year, and when their savings reaches $100,000.00 they put their new savings into stocks. Their total yearly expenses are $65,000.00. They plan to send their children to college.
Family C manages to accumulate $384 thousand in savings over ten years through savings and then after 5 years investing in stock at a 15% return. They could easily have saved even more by holding expenses down as their income went up.
The impact on families
Family A could make it OK without credit card debt, if they had a way to smooth out their budget and handle unexpected expenses. This debt forces it to refinance their house after just 5 years, which is a large economic loss in interest ($43,000.00 directly over 30 years, or had they been able to save it for retirement: $99,223.62).
Family B will make it OK with credit card debt, but it has a substantial impact due to loss of the ability to save and loss due to refinancing their mortgage.
Other families will suffer substantially more from credit card debt. For example divorcees and other single parent families, households with one working adult, and those whose combined wages are less than $17.00 an hour ($35,000.00 a year), would find it difficult to survive with credit card debt.
All of these debt calculations overlook the other very real things that happen to families, that have substantial impact. The car breaks down and costs $1000.00 to fix, plus $300.00 car rental - all of which go on the card. Cars over 3 years old commonly cost $300.00 a month in repairs. The roof starts to leak and has to be replaced: $30,000.00 on a mortgage refinance or, yikes, second mortgage. A medical procedure, covered by insurance, costs $5000.00 more than the insurance covers - more payments. Susie needs braces and contacts, $6000.00 not covered by insurance. The water heater goes kaput, and another $500.00 goes on the card. Times have been difficult for their company, so for three years there were no wage increases. The home that cost $300,000.00 in St. Louis cost them $600,000.00 to $1,000,000.00 when they moved to Chicago or most points California. Etc., etc., etc.
The impact on the economy
The average credit card debt is $7000.00, for which the interest at the average 12% credit card rate is $680.00 - 840.00 per year (840.00 if the balance is not paid down). At a 5% minimum payment, this means each month the family has $350.00 less to spend, and business receives $70.00* less spent on products.
Keeping the credit card balance at the same amount, the interest each month is $70.00.
So annually, this means that 150 million US families spend $126 billion less in the economy, and put that 126 billion into financial institutions as interest. The economy suffers, and the financial institutions and their investors grow wealthy, while business gets 126 billion less in annual revenue.
In year 10 on $384,000 in investments, the upper class in the economy gains $57,699 in wealth in stock market interest alone. Those 5%, 7.5 million US families, gain a least $435 billion in interest income.
The $126 billion taken from our business economy, which operates as a transaction fee on our purchases, could create 3.2 million jobs paying $35,000.00 each. These jobs would also pay $25 billion in taxes into our system.
Add to this three problems: 1) People lose good jobs and then are not able to get jobs at the same level of pay. 2) Companies have not created jobs at the rate required to maintain full employment. 3) companies are merging at a very high rate, which eliminates jobs, and keeps money tied up chasing money (staying in the stock market) rather than going through the economy to people who will spend it.
Basically credit card interest and stock market interest function in our economy as a wealth transfer mechanism. If you have money, then the system is highly weighted in your favor. The less money you have, the more the system is weighted against you. Wealth is transferred primarily to the upper 5%.
The current focus on getting the most credit card interest and penalties, and on increasing the price of stock, rather than making normal loans and using long term investment and dividends, creates a massive wealth transfer mechanism that severely disadvantages the poor, moves the middle class into the lower class, and creates large advantages for the wealthy.
Today the stock market has reset, and credit card companies are not lending. If we continue not regulating the credit card companies and the stock market, the same imbalance will happen all over again. We will reach a tipping point again where the middle and lower classes can't support our economy and everyone will lose their wealth again. We have to find ways to keep our economy balanced or we all lose.
One of the solutions to this problem is education. Both Family A and B appeared to be doing responsible things with their money. They are not irresponsible people, as some would accuse. What is not well understood by young families is the rising costs of raising a family, and the cost of compound interest over several years. Most people aren't accountants, and don't understand future budgets. (Even the Congress has difficulty grappling with budgets.) At some point in time budget expenses and credit card interest intersect and a tipping point is reached in the family's ability to continue as they are. The family pressure is always to buy more, while credit card payments seem like a minor annoyance until they collide with budget expenses.
The financial industry does not create wealth for our economy. It is a tool. It invests in successful enterprises, and they create wealth. But we have come to look at the financial industry as a creator of wealth. It actually only transfers wealth through interest on loans.
It is our privilege in this democratic and capitalist society to pursue wealth. But the over-emphasis on pursuing wealth creates the situation we have now: Everyone loses and we lose massive amounts of wealth in a dramatically falling (correcting) stock market. We also have an obligation to the general welfare of all people. In general we need to refocus on people making money through work activity, and focus less on the financial industry creating wealth.
We don't need to redistribute wealth - we've already been doing that, and in the wrong direction. It doesn't work no matter which way you do it; it only makes everyone equally poor. We need to make they economic system work for all of us by keeping the economy balanced.
New legislation in Congress to balance these forces needs to focus on these things:
Please express your opinion to your congressman, at Contacting the Congress.
To keep a fair comparison, and a simple chart, we'll keep the assumptions similar. For example, for some time people have commonly been losing high paying jobs and rehired at lower paying jobs. We'll ignore that kind of factor since it happens across the board, even though it has a long term shift of wealth.
The average 5 person US family earns around $60,000.00 a year, and has $36,000.00 in necessary expenses. They don't begin at this level of income, and depending on where they live expenses may vary as much as $5000.00. When you buy a house and two cars and have three children, you are usually at this level of expenses. This does not include credit card debt.
Informative sites: The Dollar Stretcher (http://www.stretcher.com/stories/960722c.cfm), and Census Bureau: Income - Median Family Income in the Past 12 Months by Family Size (http://www.census.gov/hhes/www/income/medincsizeandstate.html)
We will not ignore job promotions, which are less available to the lower economic class. So Family A will get one promotion for each wage earner, Family B will get two promotions for each wage earner, and Family C will get three promotions for each wage earner. Promotions will occur every three years.
Credit card debt will be treated according to the typical habits of economic classes. Lower class debt tends never to be paid off, and has a higher interest rate (13 to 18%). We'll use a conservative figure, 13%. Debt usually doesn't rise when income rises. Middle class debt tends to have a more normal interest rate (8 - 12%), which may rise during difficult times. We'll use the more conservative figure, 8%. This debt also tends not to rise during years when promotions take effect, and are probably paid off some, but not in their entirety. We'll assume that all cards require a 5% plus interest monthly payment. Wealthier people use credit cards, but tend to pay credit card debt off during the same month, so they accrue no interest charges. We'll assume they pay on time and don't get stuck with large penalties and huge interest.
During years when promotions occur, people tend to get up to a 7% increase in wages, which includes a 3% cost of living (inflation) increase. They typically tend not to pay off all of their credit card debt, but make some gains in their standard of living. The increase allows them to keep up with their growing family obligations.
These families will all keep their homes for 20 years, so we will ignore the increase in their net worth, although there are substantial differences, but these don't have much affect unless you sell, and only then if you don't repurchase a house.
Each family, when we begin watching their debt, has three children, with beginning ages 1, 3, 5. The additional annual expenses, ignoring housing, for one child are:
Inflation (cost of living) typically runs 3%, and we will consider that factor since it shows up differently in budget and wages. We will consider annual wage increases of 3%. Each family will get a 7% promotion every 3 years for each earner (includes the 3% inflation increase).
The cost of raising a child for different income ranges came from USDA figures.
Globe Life Insurance put together a complete resource on the cost of raising children here: The Cost of Raising Children in the US. This resource contains statistics and links to the best sources on the subject.
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