A few weeks ago Jonathan at My Money Blog posted a video presentation by Harvard Law School Professor Elizabeth Warren, The Coming Collapse of the Middle Class. It turned out to be a summary of her book The Two-Income Trap. The video presentation piqued my interest so I got the book and read it.
Professor Elizabeth Warren specializes in studying personal bankruptcies. She often appears before congressional hearings against credit card companies. She’s also in the documentary Maxed Out. She and several other law professors blog at Credit Slips which I read and sometimes comment on.
The subtitle of the book is “Why Middle-Class Mothers & Fathers Are Going Broke.” The basic premise of her book is that families go bankrupt at a higher rate today because housing, health insurance, and education have become much more expensive than they were a generation ago in the 1970s. Families commit two incomes to these expenses today. Therefore they are vulnerable to any disruption of their income, like job loss, illness, and divorce.
In the previous generation, the stay-at-home mom served as a valuable reserve. If dad lost his job or became ill, mom could enter the labor force and the family would survive without having to file bankruptcy. Today’s two-income families don’t have this reserve. They are worse off than the one-income families a generation ago. Hence the title of the book “The Two-Income Trap.”
Because Professor Warren studies personal bankruptcies all the time, she probably developed great sympathy toward the families involved. In this book, she and her co-author (her daughter) spent a lot of time dismissing the myth of over-consumption, saying that families today don’t spend more on unnecessary stuff than families did in the 1970s. After adjusting for inflation, the spending went down in many categories. It’s the big item expenses — housing, health insurance, cars, and education — that are throwing these families over. And the reasons people file bankruptcy are dominated by the big three causes — job loss, medical problems, and divorce or separation.
Although the authors didn’t necessarily say it out loud, I get the impression they are saying it’s not these families’ fault because it’s out of their control. I’m not convinced. Here’s my naive view of personal bankruptcy:
People have to file bankruptcy because their expenses exceed their income for an extended period of time which outlasts their available insurance, savings, and credit.
Think about it. If your expenses are always below your income (“live below your means”), you will never have to file bankruptcy. Or if you have high expenses (medical bills for example) or low income (job loss for example) temporarily, but you have insurance, savings, or credit that can tide you over until your income exceeds your expenses again, you won’t have to file bankruptcy.
How someone manages their expenses and incomes is their personal responsibility. While they don’t have control over whether they will lose their job or become ill, they do have control over whether they will have insurance or how much they will save for a rainy day. They also have control over a long list of family finance decisions which directly affect how much cushion a family creates for itself. In other words, you don’t have to live on the edge and leave no room for contingencies. If you live below your means, buy insurance and save for a rainy day, I don’t see how you can put yourself at risk of bankruptcy. Make no excuses. We are all responsible for our own destiny.
I don’t like it when people don’t take responsibility for their own actions. There’s too much of that going on in America. Whenever something goes wrong, it’s always somebody else’s fault. Over-consumption is a problem. It directly contributes to the bankruptcy problem. The book showed that since the 1970s savings went down and credit card debt went up. If people didn’t save, then by definition they over-consumed. That’s not a myth.
The book showed that housing, education and health care have become much more expensive from a generation ago. It attributed the increase in housing prices to two-income families entering into “bidding wars” for houses in good school districts. The book didn’t offer any proof for that theory other than casual observations that houses in good school districts are more expensive (remember the authors are not economists).
Considering that houses in average school districts also increased in value by a lot and commercial real estate which has little to do school districts also appreciated dramatically since the 1970s, I doubt the “bidding wars” are a significant factor. Housing, education, and health care are more expensive today because there is more demand and because there is high expectation.
We are buying more housing, more education and more health care. Family sizes became smaller but house sizes became bigger. Preschools are no longer a luxury. More people are going to college. Health care industry is coming up with more and more expensive drugs and treatments. Consumers never say no. In order to revert this trend, we have to consume less housing, education and health care. Buy smaller houses in lower cost areas. Go to state universities and community colleges. Cover the basic health and forego expensive drugs and treatments. “Health care rationing” is not a dirty phrase. We just can’t afford to give the health care industry a blank check.
We are in a different kind of economy today. In the post World War II era (1950s – 1970s), the United States dominated the world. American companies were prosperous. Jobs were well paid and more secure. Benefits were generous. Today we are competing with lower paid workers in a global economy. American companies are no longer in a position to offer secure and well paid jobs with generous benefits. The good ol’ days are gone. Either you upgrade your skills for higher paying jobs or you have to change your lifestyle expectations. There’s no other way around it.
Professor Warren made some public policy suggestions in the book. They may help a little at the edge but I think unless we reduce the aggregate demand for housing, education and health care, the prices won’t come down. She suggested that credit card interest rates should be capped. OK, it will help a little. With less credit available, there won’t be as many dollars chasing the limited supply of housing, health care or education.
She also suggested that families should be given vouchers so they can send their kids to any public school. I’m afraid that does not change the overall supply and demand for education or housing. As long as there are good schools and there are bad schools, no all kids will be able to go to good schools. The premium on houses in good districts may disappear but the houses in other areas will go up. In aggregate families will still pay the same if everyone feels they are entitled to a big house.
It’s difficult to give a star rating to this book. I can feel the authors’ bleeding heart, although I disagree with their economic analysis. We don’t need more books making excuses for people. Nevertheless, there is still a lot of good information in the book about the landscape of personal bankruptcies.
Finally, the “math question of the day” for all of you. The book says the bankruptcy filing rate for families with kids is 15 per 1,000 in a given year. So over a course of 20 years (from the time the first kid is born until the time the last kid reaches 18), what is the chance of this “family with kids” filing bankruptcy at least once?
Refinance Your Mortgage
Mortgage rates hit new lows. I saw rates as low as 3.25% for 30-year fixed, 2.625% for 15-year fixed, with no points and low closing cost. Let banks compete for your loan. Get up to 5 offers at LendingTree.com.