Wage growth has long been a significant indicator of economic performance and, as such, the metric finds itself at the center of many policy debates surrounding trade, inequality, and healthcare. Until China’s recent explosive growth, the United States had for decades been the largest economy in the world. This position was maintained through 5 decades of sustained economic growth, ranging from 2-7% since 1973 (outside of recessions) before stalling out between 2-3% after 2008.
Many economists and policymakers alike thought that growth for the country would benefit the whole country coming out of the Great Recession, yet many people were actually left behind in the process. Between 2009 and 2013, real wages fell for the entire bottom 90 percent of the wage distribution despite national GDP growth.
With the average person’s purchasing power not increasing in almost 50 years, the United States’s Gini coefficient, a scale of income inequality ranging from a low of 0 to a high of 1, has become the highest of all developed economies at 0.39, sitting between Russia (0.33) and Turkey (0.4). With inequality on the rise and average wages seemingly stalling, there are several considerations to account for to determine the consequences for the American economy.
Are Wages REALLY Stagnating?
There has been some pushback on the extent of American wage stagnation for a number of reasons. One major criticism is that the American Federation of Labor and Congress of Industrial Organizations’s (AFL-CIO) calculation of inflation only considers the Consumer Price Index (CPI). The CPI is calculated by taking a “market basket” of goods and services and directly comparing how their prices are changing over time. While this method will show the direct percentage change in price, it fails to consider reasons for price change other than inflation. For example, the Personal Consumption Expenditures deflator (PCE), used by the Federal Reserve in monetary policy decisions, looks at all American households in its calculation and includes healthcare and other expenditures covered by insurance. On the other hand, the CPI surveys select urban households to determine what they spend out of pocket annually on the same goods and services.
The CPI also doesn’t take into account the more comprehensive employee benefits or improvements in goods and services that have occurred in the last 50 years. With the passage of the Employee Retirement Income Security Act of 1974 (ERISA), coincidentally a year after real wages began to stall, employers were mandated to disclose their health and retirement packages to employees. In essence, companies began competing for workers by outdoing one another in fringe benefits like pension or healthcare, which now make up 19% of the average worker’s compensation (a 9% increase compared to the 1970s). Technology increased at a rapid pace over the same period, leading to vast advancements in the products and services that an average household buys: TVs today are notably bigger, cheaper, and more colorful than 50 years ago. Due to the way the CPI is computed, advanced technology that costs more than its predecessors is often counted as inflationary, which dulls or even undoes any gains in real income over the same period of time.
All are valid criticisms and bring into question the AFL-CIO’s figure of 70% of earners’ wages being stagnant, but this is not nearly enough to disprove the phenomenon. Even harsh critics of that claim can prove at most 18% of real wage growth over the last 40 years using the GDP deflator. That comes out to less than half a percentage point of real wage growth every year, compounding to at most 22% growth over 40 years, and compared to the 737% GDP growth the U.S. experienced over the same period, real wage growth is all but invisible.
It’s also impossible to ignore the widening wealth gap between upper- and lower-income households in the United States, which hasn’t been mitigated by any fringe benefits. A common counterargument to wage stagnation is the fact that the percentage of low-income households decreased by 8% while the proportion of households earning more than $100,000 increased by 12% since 1975. Alongside the gap in the cost of living between different locations (it costs 181% more to buy a home in Los Angeles than Orlando) the changes to American society and its economy over the last 50 years have been geographically diverse, with some places seeing more upper- or lower-income households, and others more of both. Out of 229 metropolitan areas examined from 2000 to 2014, 160 gained more lower-income adults and 172 gained upper-income adults. The middle class, meanwhile, shrank in 203 areas, or 90% of the areas in the study. With all of this data, it’s clear that wage stagnation is a real phenomenon that impacts the majority of Americans in one way or another.
How Did We Get Here?
As is expected for such a politically significant issue, there are many strong explanations for how 50 years of growth have missed so much of the population.
Regulatory and Economic Changes
From the AFL-CIO’s point of view, there are five primary causes to wage stagnation, the strongest of which is the decades of financial deregulation up to this point.
Financial deregulation, which became the norm in the 1970s and 80s, was likely the catalyst for most of the other trends identified. The market makers in the financial sector gained immense financial and then political power as a result of deregulation, which they then utilized to lobby for additional deregulation and the tempering of the federal minimum wages. Not to mention the $6 trillion in foreign direct investment flowing out of the US that’s neither taxed nor spent domestically.
The consolidatory nature of how business is conducted today also has an oversized impact on Americans’ real wages. In many parts of the country, massive corporations like Amazon and Wal-Mart have what’s known as monopsony power. This happens when a company is the only buyer of a certain good in a region, most commonly the “good” of employment. According to researchers at Northwestern University, monopsony power alone could explain at least 30% of the United States’ wage stagnation given just how widespread and industry-agnostic it has become.
In rural states like Arkansas and West Virginia, for example, Wal-Mart is the predominant employer in retail. Since a substantial proportion of people will be employed by them regardless of how much they pay, they are disincentivized from raising wages until necessary, depressing wages for the region as a whole.
A more universal example is Uber. While it faces competition from other apps like Lyft, Uber is by far the most well-known ride-sharing company. By rapidly building its brand as a cheap alternative to taxis and having a fast process to become a driver, Uber was able to control the pricing for all the ride-sharing services that followed. What has been a boon for travelers has proven troubling for drivers, who often have to drive or deliver for multiple companies as more and more people are driven into the low-paying gig economy, which has added 6 million workers in the last decade.
Technological advancement has sped up to the point where it has become unavoidably cheaper for companies to employ more capital than labor. Rapid advancements in areas like advanced computing and robotics have made investment goods cheaper than ever before while introducing automation to most industries, leaving firms hard-pressed to find a reason to hire more workers or raise their workers’ wages. Companies are also more likely to invest money in improving or maintaining their intellectual property, which has been gaining value since the turn of the century. Companies seeking the highest return on their investment increasingly turn to buying investment goods, accounting for an estimated 50% of the decline in the labor share of a company’s earnings.
Technological change has been a major factor in eroding employees’ collective power in wage and benefit negotiations. The combination of remote work becoming preferred and the threat of having their jobs automated makes it more difficult and costly to arrange collective bargaining agreements, yet another reason for management to delay raising wages.
Throughout 2020, iconic brands such as JCPenney, Pier 1, and Stein Mart have been forced to declare bankruptcy as a result of having invested too much money into physical capital — storefronts in particular. The most successful companies during the pandemic have been those who got ahead of the curve on technological trends like e-commerce and in-store pickup. While some bankrupt corporations will live on, either with fewer stores or as another company’s portfolio brand, the pandemic has proven disastrous for small businesses. Employing around half of the private sector, small businesses are much less likely to have the capital necessary to survive such an extreme economic shock as a pandemic. Without that capital private companies will be forced to cut staff if not close altogether, further driving down earnings for low-income populations as the unemployment rate rises and large companies gain more monopsony power.
The Way Forward
Wage stagnation for decades is unacceptable for many, as there has officially been an entire generation of low-income workers whose average real wages haven’t increased since the 70s. However, there are reasons to be optimistic that this trend will soon hugely correct itself.
History gives us some examples of wage stagnation often following extreme technological change before leading to widespread growth in wages. The Industrial Revolution and the “wave of electrification” in the nineteenth century are two major instances of extreme economic growth heading off substantial wage growth. Early factory owners got rich quickly after opening, but as their profits encouraged more direct competition the economy incentivized wages to rise and meet productivity. This trend repeated itself during and after World War II, which saw an extreme event (the largest war in history) drastically change the composition of the workforce, paving the way for half of the population to finally be counted in the economy.
As the population has grown significantly over the last 50 years, the workforce has become more open to women than at any other point in history. According to the Population Reference Bureau, the proportion of all women in the labor force has increased from 43 percent to nearly 60 percent since 1970. Concurrently, the civilian labor force increased by almost 75 million from 1970 to 2010. Mainstream contraception combined with expanding educational opportunities for women in the last 50 years has allowed labor force participation between men and women to begin to converge, creating a labor market nearly twice as big as in 1970.
In light of so many new workers joining the labor force, usually in entry-level jobs, it is imperative that the general public’s knowledge level keeps pace with technological progress. Unemployment rates have fallen for every demographic group and across education levels since the Great Recession. Despite this, median household income has dropped over the last decade for households whose heads haven’t attained at least a bachelor’s degree. By ensuring that everybody who enters the workforce is prepared to utilize the tools necessary to get the job done, we would likely see an even greater increase in productivity that brings workers’ wages along with it. With birth rates declining across the industrialized world, we could see wages rebound in the same way they did after the First and Second Industrial Revolutions.
Current wage stagnation is unique in a lot of ways, and given the changing makeup of the civilian workforce over the last 50 years, it couldn’t have come at a worse time. But it doesn’t have to be permanent. After over a decade of investment into physical capital, the human toll of the COVID-19 pandemic should be the impetus for companies and the government alike to begin investing in human capital so that growth can truly be good for everyone.