The middle class has played a special role in economic thought for centuries and new focus is being place on the importance of middle class consumption. In an OECD Development Centre Working Paper, Homi Kharas examines whether or not Asia’s emerging middle class will be large enough to replace the U.S. as a driver of the global economy.
For forty years between 1965 and 2004, the G7 economies accounted for an average of 65 percent of global GDP measured at market exchange rates. Despite major events in the global economy—the collapse of the Bretton Woods fixed exchange rate arrangement in 1971, oil price spikes in 1973 and 1979, stagflation, the fall of the Berlin Wall and dismantling of the Soviet Union—the share of the G7 in the global economy always stayed within three percentage points of 65 percent. This remarkable stability also ushered in a period known as the Great Moderation to describe the reduced volatility of major macroeconomic outcomes in the developed world.
Underpinning the performance of the G7, and indeed driving the global economy, is a large middle class. The middle class is an ambiguous social classification, broadly reflecting the ability to lead a comfortable life. The middle class usually enjoy stable housing, healthcare and educational opportunities (including college) for their children, reasonable retirement and job security, and discretionary income that can be spent on vacation and leisure pursuits.
The middle class has played a special role in economic thought for centuries. It emerged out of the bourgeoisie in the late fourteenth century, a group that while derided by some for their economic materialism provided the impetus for an expansion of a capitalist market economy and trade between nation states. Ever since, the middle class has been thought of as the source of entrepreneurship and innovation—the small businesses that make a modern economy thrive. Middle class values also emphasize education, hard work and thrift. Thus, the middle class is the source of all the needed inputs for growth in a neoclassical economy—new ideas, physical capital accumulation and human capital accumulation.
More recently, the consumption role of the middle class has been emphasized. Juliet Schor (1999) has argued that it is a “new consumerism” that defines the middle-class: a constant, “upscaling of lifestyle norms; the pervasiveness of conspicuous, status goods and of competition for acquiring them; and the growing disconnect between consumer desires and incomes.” In a more academic vein, Murphy, Shleifer and Vishny (1989) emphasize the willingness of the middle class consumer to pay a little extra for quality as a force that encourages product differentiation and thereby feeds investment in production and marketing of new goods.
It is this latter role that has become more pronounced with the expansion of global trade and new trade theories have evolved to explain the stylised fact that most trade expansion has been occurring at the extensive margin – that is through the expansion of new goods rather than greater trade of existing products (Hummels and Klenow 2002). In the world of the 21st century, the middle class consumers of North America and Europe have been the source of demand, while low and middle income countries in Asia have been the source of supply.
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