The Evolution of the Social Contract in the 21st Century

The social contract that governs the exchanges between individuals and institutions has changed substantially in advanced economies in the 21st century, according to a new report by the McKinsey Global Institute.

The Social Contract in the 21st Century” takes an in-depth look at the changing economic outcomes for individuals between 2000 and 2018 in 22 advanced countries—16 from Europe plus Japan, South Korea, Australia, New Zealand, Canada and the U.S. In aggregate, these countries constitute 57% of global gross domestic product.

Published in February, the report predates the efforts of governments around the world to protect their citizens from the coronavirus epidemic.  The variety of responses to the epidemic—which include travel bans and quarantines—might be rewriting the social contract by the hour.

The report’s overriding finding is that the social contract has changed considerably in the 21st century, with individuals having to assume greater responsibility for their economic outcomes.

“In many ways, changes for individuals have been for the better, including new opportunities and overall economic growth,” the report said. “Yet, the relatively positive perspective on the state of the economy, based on GDP and job growth indicators, needs to be complemented with a fuller assessment of the economic outcomes for individuals as workers, consumers, and savers.”

Work opportunities and employment rates have risen significantly, but outcomes vary considerably across socioeconomic groups and geographies. While many have benefited from this evolution, those in the bottom 60% of the income distribution are facing significant economic challenges, leading to an uncertain future and a general loss of trust in institutions.

The report analyzes the evolution of the social contract by looking at the changing outcomes for individuals as workers, as consumers and as savers. Let me summarize the findings in each of these three categories.

Employment has risen amid growing labor market polarization and wage stagnation

Employment has increased to record levels in the 22 countries studied. The employment rate for working-age populations (15-64 years) rose from 68% in 2000 to 71% in 2018, with the number of working-age people increasing by 45 million.

The rising employment rate has been primarily driven by the rise in part-time employment. Part-time employment, including the so-called gig economy, increased by 4.1% between 2000 and 2018, while full-time employment fell by 1.4%.

However, even though the employment rate has been at record levels in the U.S., the working-age employment rate fell from 74% in 2000 to 71% in 2018  due to the rising share of discouraged workers.

Increased digitization has been a major factor in the polarization of employment and wage distributions over the past two decades. Across the 22 countries, job opportunities have expanded for both high- and low-skill occupations while contracting for middle-skill jobs.

Wage stagnation has been a serious challenge for many workers. Between 2000 and 2018, average yearly wage growth was just 0.7% in all the 22 countries. In the U.S., the median wage for grew by 7.3% for high-skill workers, by 1.1% for mid-skill workers, and by 5.3% for low-skill workers.

In addition, recent studies have found a growing economic polarization across a country’s geographic regions. Urban areas are seeing faster employment and wage growth, while smaller towns and rural areas are falling behind. In the U.S., net job growth through 2030 will be concentrated in urban areas, while much of the rest of the country might see little employment growth or could even lose jobs.

Discretionary goods and services are cheaper, but the cost of housing and other basics has risen

Costs have fallen for most discretionary goods and services, such as clothing, communications, recreation and furnishings, which account for roughly 25% of consumer spending in advanced economies. In addition, the internet, smartphones and other technologies have given rise to new discretionary consumption, some of which is available to consumers as free services  such as email.

However, the costs of housing, health care and education have risen faster than general prices, absorbing much of the income gains for many mid- and low-wage workers.

Health care has significantly improved over the past two decades: Life expectancy at 65 increased from 18 to 20 years, mortality from cancer decreased by an average of 15%, and diabetes mortality declined by 20%. “Technology promises to drive further improvements, with innovations such as predictive diagnosis algorithms, health monitor implants, and synthetic biology,” the report said.

Education costs went up in all countries except Japan, especially in the U.S. and the U.K.

Access to education has also improved. In particular, tertiary attainment rates—including trade schools, colleges and universities—increased from 28% to 42% of the 25- to 64-year-old population.

Individual and institutional savings have declined at a time of increasing longevity and aging populations

Since people are living longer, the expected number of years spent in retirement has increased from 16 in 1980 to 20 in 2018. But guaranteed pension levels have declined by an average of 11% since 2000 as governments and private-sector institutions have shifted more responsibility to individuals for their own retirement savings.

The net pension replacement rate, which measures how effectively a pension system provides a retirement income to replace pre-retirement earnings, has decreased by 11% for the average person across the 22 countries in the study.

To help achieve better and more inclusive outcomes in the decades ahead, the report said concerted action is needed on two fronts: “First to make sure that the gains of the 21st century so far are sustained and scaled…Second, to make sure that the outcomes for individuals in the next 20 or more years of the 21st century are better and more inclusive than in the first 20 and increase broad prosperity.”

Irving Wladawsky-Berger worked at IBM from 1970 to 2007, and has been a strategic adviser to Citigroup, HBO and Mastercard and a visiting professor at Imperial College. He’s been affiliated with MIT since 2005, and is a regular contributor to CIO Journal.

F: The Wall Street Journal 

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