El-Erian warns of 'lost generation' as income gap grows

The middle class has been shrinking in nearly every state in the nation, but in most places, more people have moved up the ladder than down, according to a new Stateline analysis.

The upward movement, however, comes with a huge caveat: Families that have risen above the middle class may still be doing worse than they were in 2000 because median income has declined in all but four states, after adjusting for inflation.

"People are shifting out of that middle category to a higher category, but whether they're better off or not is not as clear," said Harry Holzer, a Georgetown University professor and the chief economist at the U.S. Department of Labor during the Clinton administration.

The "middle class" includes people making between two-thirds and twice a state's median household income, based on a definition developed by the Pew Research Center. Median incomes vary widely, from $39,680 in Mississippi to $73,971 in Maryland.

(Pew Research Center's definition adjusts incomes for household size, which the Stateline analysis does not do. The Stateline analysis also does not adjust for differences in the cost of living across states. The Pew Charitable Trusts funds both Pew Research Center and Stateline, which provides daily reporting and analysis on state policy trends.)

To many economists, the shrinking middle class is worrisome regardless of whether more people are rising above that category or falling below it. Either way, the result is more income inequality, which may reduce intergenerational mobility — the ability of children from low-income families to do better than their parents.

These economists argue that rising inequality dampens the demand for goods and services — and harms the overall economy — as affluent households save more and spend less. It also prompts lower-income families to borrow more to sustain their own consumer spending.

Related: Middle class no longer dominates in the U.S.

In another indicator of growing inequality, the Stateline analysis found that in 44 states, income has grown fastest for households in the top 20% of earners.

But Scott Winship, an economist at the conservative Manhattan Institute, argues that no matter where American families stand on the income ladder, more of them enjoy middle-class living standards than ever before, thanks to technology and more choices for all kinds of goods and services.

"What people really care about is whether fewer people have middle-class living standards over time, and whether they are falling out of the middle class into the lower group," Winship said.

If any states are in trouble, Winship said, it's the eight where more people are falling out of the middle class than rising above it. But even in those states, he said, focusing exclusively on income ignores other measures of financial well-being, such as health insurance and investments.

"Today's middle class remains the richest in American history, and more or less the richest middle class in global history," he said.

Ohio at 'Epicenter'

Ohio, one of the 42 states where more people rose above the middle class than fell below it, illustrates the dark side of that seemingly sunny statistic.

Ohio has lost 350,000 manufacturing jobs since 2000. Now, health care is the state's largest employer, and those jobs pay less than the factory jobs that vanished. Adjusted for inflation, the state's median income has declined to $49,308 in 2014, from $57,748 in 2000. Since 2000, Ohio's middle class has shrunk more than any other state's.

Even those Ohio families that have risen above the middle class are feeling the pinch.

Consider an Ohio household that increased its income from $75,000 in 2000 to $100,000 in 2014. That 33% increase enabled the family to rise above the middle class, according to the Stateline definition. But because inflation was 41%, the household had less purchasing power despite the higher income.

The state's economy has made progress in recent years, according to Will Cooley, a history professor at Walsh University in Ohio who specializes in labor relations and social mobility. But the loss of manufacturing jobs has had a huge impact on middle-class incomes.

"We're at the epicenter of the decline," Cooley said.

Related: The middle class wants more government help

Many of the Ohio manufacturing jobs that disappeared were union jobs. The share of household income going to the middle class in Ohio has dropped at about the same rate as union membership since the 1970s, said David Madland, who published a book last year on the hollowing out of the American middle class.

"Unions are central to rebuilding the middle class," said Madland, a fellow at the liberal Center for American Progress. "The system is only working for people at the top."

Downward Movement

The disappearance of union jobs also may be a factor in some of the states where more people fell out of the middle class than rose above it.

Historically, poverty rates have been high in West Virginia, but the loss of mining jobs has exacerbated the problem. Competition from cheap natural gas, which employs fewer people, has "kicked the bottom out" of the state's coal market, said economist Roger Congleton of West Virginia University.

"When people are used to those unionized, pretty-well-paying coal mining jobs and they disappear, they don't know what to do," Congleton said.

Related: Are you middle class?

Jobs of any kind are relatively scarce in New Mexico, which has the country's highest unemployment rate (6.7%) and a poverty rate (21.3%) second only to Mississippi's. As other parts of the country have recovered from the recession, many New Mexicans have left the state for opportunities elsewhere, according to Adelamar Alcantara, a senior demographer at the University of New Mexico.

"When they start hearing that the economy is good, that's when people start leaving," Alcantara said.