Recently, media commentators have been increasingly voicing concerns over disappointing wage gains. Some left-leaning politicians have suggested that all the gains of the economy are being shuffled to the rich, leaving the typical worker out to dry. Bernie Sanders decried the lack of wage growth last year:
The average worker in America has seen zero — zero — wage growth over the past year, after adjusting for inflation.
Other politicians have echoed the sentiment. Congress-members Alexandria Ocasio-Cortez and Bobby Scott have further suggested that gains are being concentrated among the highest earners, emphasizing an economy that only serves the wealthy.
So What’s Going On With Wages?
Typically, wages begin to rise as we reach full employment (“full employment” means the minimum sustainable level of unemployment). Most economists seem to think we have arrived at full employment today:
Unemployment sits at 3.8%, which is close to historical lows. Some economists suggest other features of the labor market are hiding additional slack; I don’t personally find these explanations persuasive, but that’s an article for another day.
For wage growth, I will be using the Atlanta Federal Reserve Wage Growth Tracker, which derives from Current Population Survey data from the Bureau of Labor Statistics, as well as their own calculations.
Looking at this chart, we can see wage growth has in fact picked up in recent years. Workers are seeing legitimate wage gains.
However, it has yet to reach levels seen before the 2008 recession, and continues to lag significantly below levels seen up to the Dot-Com Bubble. Meanwhile, unemployment is at levels equal to or even below the rates seen in those periods.
So why isn’t wage growth picking up to these levels again? Why is wage growth stuck between 3–4% annually, instead of the 4–6% we’ve seen in the past couple decades?
Adjusting The Gap
To start off, I think a couple quick adjustments need to be made. The first is inflation — the chart above reflects nominal wage gains. The second adjustment is for demographics, which luckily the Atlanta Fed has a data series for. After manually adjusting the data to reflect these considerations, we have a new chart:
One thing to note is this chart is more noisy than the last. This is an unfortunate drawback of using CPI; gas and food prices are highly variable and causes large fluctuations in real wage growth. Many of the large spikes or cliffs in wages don’t reflect shifts in wage trends, gas prices just fell or rose.
Another point is that demographics have a surprisingly small impact in holding down wages.
However, this chart features wage growth that looks more optimistic. Inflation has been persistently low in recent times, and using nominal figures exaggerates the wage difference. Since 2015, workers have seen growth mostly comparable, or better, than the pre-recession period.
However, wage growth from the late 90’s through to the early 2000’s was still generally better than it is currently. What’s the reason for that?
Unfortunately, the answer is likely rather boring. Let’s look at a chart of labor productivity growth:
From 1997 to 2001, labor productivity growth averaged 3.06%. From 2015–2017 (data hasn’t been added from 2018 yet), productivity growth averaged just 0.83%.
Similarly, real wage growth averaged 2.34% in between 2015–2017, and 2.9% in 1997–2001. Given the large gap in labor productivity growth, I actually find it surprising the gap isn’t even larger. Given this data, there appears to be nothing fundamentally wrong with labor markets or worker wages.
The productivity answer is an intriguing one. On one hand, workers wages appear to be growing at approximately the level they should be. There doesn’t appear to be anything holding them down.
On the other hand…why is productivity growth so low?
Unfortunately, there aren’t any easy answers here. One theory is that the digital revolution has come to an end, and the productivity boosts it provided have subdued. This means we should simply temper our expectations back to a more realistic level.
Another theory is that we are facing “secular stagnation” — that a lack of aggregate demand and investment is hampering economic growth. Harvard economist Larry Summers have been instrumental in developing this theory.
Other recent papers have blamed persistently low interest rates for increasing market power, and subsequently declining productivity growth. It’s also widely accepted that shifting demographics have at least some impact as well. Sadly, there is no consensus as to what factors are driving the trend.
Declining Labor Share
There is another factor that has decreased wages is the declining share of income that labor has captured.
After sitting near a high in 2000, the share has hit a decline ever since. This indicates that capital (shareholders) are taking a larger portion than previously. There has been several theories on this, but Northwestern University economist Matthew Rognlie has proposed what is likely the most convincing, in my opinion.
The first reason is that depreciation rates have increased. Remember that GDP is a gross figure, it doesn’t account for depreciation. This isn’t an issue, so long as depreciation rates remain constant. If depreciation rates change, this can cause errors. Using net capital share accounts for part of the trend. However, the more important driver is the housing sector:
Outside of housing, no clear trends can be found. This possibly connects to the work of Harvard economist Edward Glaeser, who has found that restrictive land-use regulation has driven up housing prices far above their “market” rate in areas like California and Manhattan.
Cause For Concern?
So is all of this cause for concern? Here are the facts:
- Wage growth has been more sluggish than in previous booms, although it is still growing.
Obviously, we always want wage growth to be higher. Higher wages mean we can all live to a higher standard of living. However, breaking down the reasons for the sluggish wage growth looks like this:
- Inflation is a bit lower than in the past, making nominal wage gains look more sluggish than they are.
- Productivity growth is lower than it used to be, but we aren’t entirely sure why.
- Labor share of income has declined due to a rise in housing income
The first reason is not of concern. The second might be of concern for the economy as a whole (depending on the cause), but doesn’t present much concern for the well-functioning of the labor market. The third is a legitimate concern — land use regulation and zoning law reform can offer a solution. However, in all three cases, the labor market itself appears to be functioning correctly. The problems we’re seeing seem to be from other areas of the economy — or simply aren’t problems at all.
Have All Workers Benefited?
Up until now, we’ve only addressed wages at the median. This obviously shows that the “typical” worker has seen legitimate gains in the past several years. But what does a broader picture of wage gains look like?
Here, we find a grain of truth in the sentiment of the wealthy benefiting. Since 2015, the first quarterlile of wage earners has seen the most impressive wage growth (4.5% in February, compared to 3.5% overall). However, all quartiles saw at least 3% wage growth during this period.
It also needs to be noted that while they are taking home the biggest gains currently, they also consistently saw the most sluggish growth for much of the recovery (2011–2014). Perhaps their gains will simply regress to the mean.
A quick filtering through the data doesn’t show this trend to be driven by occupation skill-level or education. If wage gain disparities persist going forward, this could be an issue worthy of further examination.