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Nov. 1 (Bloomberg) — American politics are at a watershed, and trying to understand this moment in conventional terms misses the point.

It is likely — though far from certain — that the transformation will advantage Democrats, but whichever party best aligns with the forces of change will have a huge edge in 2012 and beyond.

Before identifying the shift, we need to look at the dynamic that has dominated American politics since the 1930s: The debate over big government versus smaller government, where the Democrats stand for the former and the Republicans stand for the latter.

This prevailing architecture has delivered wins for the Democrats when the public wanted a more activist government (1932, 1948, 1960 and 2008) and wins for the Republicans when voters resented the size of government (1952, 1968 and 1980). Each party also has scored some victories when it was able to obscure the difference and stand in the muddled middle (1996, 2004).

David Brooks of the New York Times recently applied this classic model to the 2012 election, arguing that President Barack Obama’s new “fighter” posture puts him on the “big government” side of the divide, and at risk of defeat.

‘The Right Thing’

Yet Brooks’ analysis — like most conventional thinking about 2012 — fails to grasp the seismic political change under way. Yes, as Brooks emphasizes, there has been a collapse of confidence in the government’s ability to “do the right thing”; poll after poll has shown mistrust of Washington at historic levels.

Critically, however, this isn’t resulting in a traditional pendulum swing toward a laissez-faire mindset about the private sector. Instead, there has been a similarly deep erosion of the public’s belief that corporations and big businesses are any more likely than government to “do the right thing.”

This is a paradigm shift. Dwight Eisenhower, Richard Nixon and Ronald Reagan were propelled to the White House because the public feared that government was doing too much for the poor or welfare recipients, which created a backlash for the sort of small government policies that favor conservatives.

Today, however, the public has a sense that an unduly close relationship has developed between government and the corporate sector, as evidenced by “bailouts,” special interest provisions in legislation, and a tax code full of loopholes and special breaks.

Most fundamentally, what protest groups on the left and the right share with less activist middle-class Americans — the apolitical voters who often decide elections — is an abiding sense that the bond between work and reward has been broken. Huge financial rewards are given to executives who fail miserably and get fired. Debt relief programs help not only those who have fallen behind through no fault of their own, but also the profligate who lived beyond their means.

The list goes on: What’s inflaming voters isn’t so much inequality per se, though that’s certainly a symptom of the problem. It’s the fact that the rewards in our economic system seem increasingly divorced from American values of hard work, risk taking and innovation. Instead, these benefits are more and more likely to be awarded on the basis of connections and political power.

The anxiety and resentment about this perceived change color the public perception of the policy prescriptions both parties offer. That’s why voters are leery of the Keynesian policies of Democrats, tired of the trickle-down policies of Republicans, and enraged by the bailouts that both parties supported in the most recent crisis.

Unearned Rewards

In voters’ minds, all of these decisions evoke a general sense that rewards are going to people who haven’t earned them. Voters also see a breakdown when people who have done everything right — 20-year-olds who worked their way through college; 40- year-olds who took extra shifts and second jobs; 60-year-olds who have saved their whole working lives and can’t imagine how they will afford to retire — find themselves unemployed and facing an uncertain future.

Where the Occupy Wall Street protesters are striking a chord with less activist middle-class Americans isn’t in an assault on capitalism. What is resonating is the complaint that the American brand of capitalism — the moral and economic linkage between work and reward, risk and reward, innovation and reward — has been replaced by a bailout economy.

Voters see both parties in Washington being complicit in this approach. The president’s recent plan to provide mortgage- and student-loan relief to struggling borrowers — the right thing to do from an economic policy perspective — inflames voters who pay their bills each month and are getting no relief.

Worse still in voters’ minds are Republican policies that rescued banks and financial institutions, and spared the wealthiest from paying any more to get us out of this mess.

At this moment of change, the president has the political advantage, but no guarantee of success. That many voters believe (wrongly and unfairly, in my view) that the administration’s policies over the past three years have favored the “insiders” is a challenge for the incumbent. But the odds are low that the public’s reaction to this unhappiness would be to elect a president even more aligned with these forces, such as former Massachusetts Governor Mitt Romney.

Obama’s recent populist rhetoric is a necessary step to try to erase the unfair perception that his policies have favored the powerful. But that positioning won’t be enough: The president must align himself with the voters’ demands for real change in how, and for whom, business is done in Washington; and he certainly needs to “own” this turf before his Republican rivals claim it.

Course Corrections

The high political ground at this critical moment will go to the first party to make two changes of direction in policy and rhetoric.

First, voters are looking for political reform that lessens the influence of money in politics and government. This has become a front-burner issue. Anyone who tackles this issue will face charges of hypocrisy, because all campaigns raise large sums from the well-heeled. Yet it is time to cut through that static and amp up the fight for real changes in the way that campaigns are paid for and influence is had in Washington. (And no, the president and other Democrats shouldn’t unilaterally disarm before such changes are made across the board.)

Public cynicism about how Washington works discolors perceptions of real achievements, such as the Dodd-Frank financial reform bill, or health care reform. The widespread feeling that things get done only because the special interests allowed them to has devalued some hard-worn achievements. Fighting for reform is critical then, not only for its own sake, but also because it can open the door to public acceptance of other policy changes.

Second, and more important, every economic policy must be evaluated to determine whether it strengthens or weakens the bonds between work and reward, and whether those who are helped are asked for something in return.

Measures to restrict huge severance packages for executives who fail at their jobs should be considered, as should other curbs on rewards for failure instead of success. Future assistance to businesses should come with strings such as requirements that they buy American and hire workers in the U.S. Even programs that help individuals, such as home-mortgage and student-loan relief, should come with conditions. (Homeowners who eventually see upside could be required to return some of these gains; students might be asked to perform community service.)

Voters believe that their government, whatever its size, is aligned with special interests, and has created an economic system where hard work no longer can yield upward mobility, and vast gains can be had without merit. The party that best speaks to this stirring in the electorate will have a commanding position next year.

(Ron Klain, a former chief of staff to Vice President Joe Biden and a senior adviser to President Barack Obama on the Recovery Act, is a Bloomberg View columnist. He is a senior executive with a private investment firm. The opinions expressed are his own.)

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