January 11, 2015
Slowly Growing Wages in the Wake of the Great Recession
The stagnation of wages has been a central element of the years since the end of the Great Recession. There are four good economic explanations for this, but they are not especially encouraging.
First, while overall wages have been stagnant, incomes for higher wage workers have grown in many occupations, while wages for lower income workers have not. This is consistent with evidence from the past several decades, which suggests that labor markets are polarizing. Highly skilled workers are in increasing demand, while lower skilled workers are not. This is largely due to technology changes that favor highly skilled workers. If we average the effects, wages are stagnant—even if some workers are better off and others worse off.
Second, over the past several years we have seen low interest rates that have no real precedent in modern times. Many folks are unaware that interest rates are the price of capital investment. With more than seven years of very low rates, the price of capital investment has never been lower. This has created a huge incentive for businesses to buy labor-saving equipment and technology. One bit of evidence that this is occurring is the astonishing growth of investment within technology firms who supply labor-saving devices. This keeps demand for workers low and dampens wage growth.
Third, hiring has become more costly across many business types. Here the Affordable Care Act is a clear culprit, making it far more costly to expand a business or increase worker hours. There is even an incentive to let employment slip beneath 50 workers per firm to avoid some of the ACA's provisions. This doubtless depresses wages in the short run, though the long-run effect is less clear.
Finally, and perhaps most importantly, it turns out that wages and salaries suffer from something known as 'nominal stickiness.' This means that in times of declining revenues, businesses facing a choice of reducing wages or employees almost always will choose to reduce their number of employees. Labor contracts, minimum wages and tradition all lead to this result, even though it may be hurtful to all concerned. So, the deep drop in demand for goods and services that accompanied the Great Recession may still act to depress wage growth in firms. In other words, we remain in a period where wages are, on average, higher than they should be and so wage growth will remain flat.
All of this offers some insight into the decisions by the Federal Reserve in the coming months. With the unemployment rate dropping, there should be some upward pressure on wages, but with inflation low, it still may take some time to see wage growth. As a result, the Fed will be less worried about a small bout of inflation. This is because inflation acts silently to reduce wages. While the Fed will never publicly say it is allowing inflation to cut wages, the fact that they are delaying interest rate increases suggests that is exactly what is on their mind.
About the Author
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