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Clinton Tests a Demand-Side Line: Wage Growth Creates GDP Growth

Her party sees wage stagnation as an issue of fairness.

Sizing Up Clinton and Trump's Economic Plans

Just last month, Hillary Clinton began including an idea in her speeches that suggests a shift in thinking for the Democratic Party: Wage growth may not just be good for the people who get a raise. It may be good for economic growth.

"It’s really simple," she said at a rally in June in Ohio. "Higher wages leads to more demand, which leads to more jobs, which leads to higher wages." She repeated similar language in North Carolina, saying "when your paycheck grows, America grows."

Since the end of the recession, the failure of gross domestic product and wages to grow by much has concerned both economists and central bankers. Clinton is saying that these are not separate problems.

Traditional models of economic growth are based on the work of Robert Solow, who won a Nobel for his work in 1987. Solow held that growth was a function of the supply of labor, availability of new technology that could help labor work more efficiently, and the supply of savings to invest in technology.

In its June appraisal of the U.S. economy, the IMF pointed out weak non-energy, non-residential investment, and wrote that "businesses appear less adept at reallocating...physical capital." That is: businesses have savings, but are not using them to invest in new plants or more efficient technology. Solow’s engine, in other words, is missing a gear.

As it has for the last generation, the Republican Party in this year’s platform proposes to fix this by making it easier for businesses to deduct investments, and by lowering the taxes on investor profits. This is what economists mean by "supply side" -- growth comes from encouraging businesses to supply more products.

Alan Krueger, former chairman of the Council of Economic Advisers and an informal adviser to the Clinton campaign, said businesses face a different problem: inadequate demand. Not enough people want to buy things.

"A lot of investment’s been on the sidelines because companies don’t see the consumer demand," he said. This year’s Economic Report of the President included a section on low aggregate demand, and suggested "demand-management strategies," something politicians used to call "fiscal stimulus."

When Clinton uses the word "demand" on the stump, she’s blowing a dog whistle. (Economists have them, too.) Increase demand, she’s saying, and you get growth. Larry Summers, the Harvard economist and former Treasury secretary who has helped popularize the idea of inadequate demand, believes that government spending on infrastructure will drum some up. That idea has been hammered as a plank into this year’s Democratic platform, as well.

The Clinton campaign has said the same, but is also committed to another idea: higher wages will create higher demand. "We are a 70 percent consumption economy," she said at a rally in June in North Carolina. Hear that whistle? She’s talking about what people spend on stuff, rather than what businesses spend on investments.

According to the Bureau of Economic Analysis, consumer spending grew .7 percent on average from 1980 to 2000 before adjusting for inflation, .4 percent through the end of the recession, and .3 percent since. "I’m asking corporations to realize that when more Americans prosper, they prosper too," said Clinton. Businesses will have a reason to invest, she’s saying, when people start buying.

"I think it’s a very marginal way of promoting economic growth," says Robert Gordon, economist at Northwestern University who specializes in the subject. Like Summers, he prefers a massive investment in infrastructure. But he does agree that a shift in business income away from profits and toward salaries would create growth. Workers are more likely to buy things from their paychecks than businesses are to invest out of their profits.

For Gordon, "the question is, how do you get this increase in wage income?" He believes the best way for a president to raise wages is to let the Federal Reserve do it, by keeping unemployment low.

Krueger agrees that the Fed has been able to improve wages, but says there’s more that politicians can do. A labor economist, Krueger has long been a proponent of a limited increase in the minimum wage. "I think the time could be right for a more virtuous growth model," he said, "which is driven by stronger wage growth...more consumption, more demand, creating more jobs."

Raising incomes is the subject of the first section of this year’s Democratic platform. The party supports a $15 minimum wage, the right to form a union, and federal help for companies to pay a "living wage." But the platform’s language is about justice, not growth. On the convention’s first night, Cory Booker, a senator from New Jersey, hinted at it. "Hillary knows when workers make a fair wage, it doesn’t just help their families," he said, "it builds a stronger, more durable economy that expands opportunity and makes all Americans wealthier." Clinton believes it. But the rest of her party isn’t there yet.

-- With assistance from Michelle Jamrisko.

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