The post a couple of weeks ago about the whole income inequality thing brought out some good insights and raised several new questions.
We love to play board games, and one of our favorites is Acquire, a great money game which seems to have acquired (no pun intended) quite a cult following through the years. (Good luck trying to get a good one on eBay for under $40.) Anyway, when John loses (which isn't all that often) he always consoles himself with, “Well, at least I have a lot more than when I started.”
That echoes one of the comments to the aforementioned post. Regardless of which side of the inequality divide you're on, we're all making about 3.5 times what our grandparents made back in 1913.
Which raises the question: Where is that extra 2.5 times going?
As I researched statistics and other studies on the issue, I discovered they either focused on percentage of income or on absolute dollars. The first type ignores real increases in income while the second ignores proportion of income. So, in order to get an idea of where the “raise” went, I cobbled together two household budgets, one in 1913 and the other 100 years later (both in 2012 dollars). Neither can be totally accurate, nor will they align with your exact budget, but they do provide a “broad strokes” idea of how our spending has changed.
In order to scale the numbers properly, we'll say Mr. Average earned $1,000 a month in 1913 and $3,500 a month in 2012 (both are surprisingly close to the real numbers). Then we'll ask the question: What did he do with his raise?
(Before you shoot down any number, please remember they're rough averages. Undoubtedly, your numbers will be different.)
You can see spending patterns changed over time. Food and clothing, as a percentage of our spending, dropped dramatically, while other spending categories took up the slack (and more).
Wouldn't it be great if Mr. Average would have been able to put the raise of $2,500 toward his savings and retirement? Or at least the $1,800 left over after the increased taxes, over which he doesn't have control?
The yellow shaded column above shows what he did. In a pie chart, it looks like this:
Spending the increase
The two glaring increases are housing and transportation.
If anything symbolizes the increase in our standard of living over the past 100 years, it is the automobile. Labeling it simply as “transportation” doesn't do it justice for the way the car has set America free to go where it wants to go, when it wants to go there. Of course, it comes at a cost, and it's not a surprise that the category of transportation has managed to eat up a chunk of Mr. Average's $2,500-a-month “raise.”
The automobile added some other costs too, like parking expenses for commuting, and licensing (essentially a property tax on vehicular assets). Cars also increased the cost of housing because now you house not only your family, but your car too. In 1913, Mr. Average had no need for a garage, let alone two. Nowadays, the rent difference between an apartment with no parking amenities and an enclosed double garage is probably $150 to $200 a month.
Speaking of housing, this expense took the largest bite out of Mr. Average's raise. Even cursory research shows that the average size house didn't change much between 1900 and 1960 — about 1,000 square feet, no garage, one bathroom and two or three bedrooms. This is a layout that served a prosperous nation well for more than a century.
Back in 1913, only 45 percent owned their homes. Buying a new home then took a lot of saving, because you pretty much had to buy it for cash. Cash buying limited what people could afford, and that in turn caused people to make do with what had become the standard: a home with less than 1,000 square feet.
The early '50s saw the introduction of a new concept when the first tract homes were built in Levittown, New York. Because of mass production techniques, bang for the buck hit a new high, and they couldn't keep up with demand. It was such a phenomenon that Mr. Levitt made the front cover of “Time” magazine. A Levittown house was the thing to have for young and growing families of the baby boom.
In 950 square feet, it boasted two bedrooms, one bathroom, no basement and no garage. And people loved it so much they lined up around the block to get one.
Good luck trying to sell a Levittown house today, when the median new home is over 2,000 square feet. This is not the high end, mind you, just the middle of the market.
What caused the average home size to double in 50 years, after not changing dramatically for hundreds of years?
In reality, it was debt. Consumer credit, mainly in the form of home mortgages, took off in the late 1960s.
Thanks to mortgage debt, home ownership rocketed from 45 percent to around 65 percent today. But it's no coincidence that home sizes also took off with the widespread availability of mortgage credit.
Mr. Average's income rose 250 percent, or 80 percent after increased taxes. You'd think that would be enough to save more and still enjoy an increased standard of living. Why isn't it, then? Mr. Average took half of his after-tax increase and spent it on a bigger house with an attached garage, and spent almost as much on his cars, cell, cable, and Internet.
Therefore, the first place for anyone struggling to make ends meet, or to save for their future, to look is the square footage they occupy. If you're going to save on your expenses, you start with the biggest one, which is usually housing. Saving 10 percent on your housing can equate to saving 25 to 30 percent on your food.
A thousand square feet was adequate housing for more than a hundred years. For most of the world, that might even be high end. Shouldn't it be sufficient for today, especially with smaller families?
My wife and I live in a 1,500 square foot home, modest by the standard of most. It has some serious design flaws, but it's still way more than we can get by with if we had to cut.
Downsizing living accommodations is not the cure for all financial ills, let's be clear about that. And it is not without controversy. But it is the place where Mr. Average has spent most of his raise. And, if he can't make ends meet, that has to be the first place to consider for cuts.
What do you think about living in 1,000 square feet?
William Cowie spent 30 years in senior management (CFO/CEO) before retiring. He has a bachelor's, a master's, and a partial doctorate in management and strategy. Author of the book “The Four Seasons of the Economy,” William also assists medium-sized businesses in the use of the Four Season Strategy to help them capitalize on economic cycles. He runs two blogs: Bite the Bullet Investing (investing) and Drop Dead Money (the economy) and writes for several other blogs in addition.