Why are wage gains so weak?

By Robert Samuelson

After correcting for inflation, wage gains remain sluggish. In April, average weekly earnings for nonsupervisory workers were up 3% from a year earlier, to $785.55. Meanwhile, prices as measured by the consumer price index were up 2%. Considering that the economy has been expanding for nearly a full decade — a record if it continues through June — this is perplexing, even allowing that wages are growing faster at the top than in the middle.

Theories abound to explain wage behavior. Average workers (it’s said) still recall the ferocity of the 2007-09 recession and are more reluctant to chase higher wages by leaving their present jobs. For similar reasons, employers resist large wage gains. They want to remain competitive in another recession. Both are willing to trade stronger job security for slightly lower pay.

Other theories blame sluggish wage growth on changes in the labor market. The decline of unions — a phenomenon that stretches back to the 1960s — has weakened workers’ bargaining power. Globalization has had the same effect, because in many industries production can be moved abroad where wages are lower. China is an obvious example.

Weak productivity gains amplify the effect. In the long run, strong productivity improvements are the source of higher wages and salaries. From 2010 to 2017, annual productivity increases averaged only 0.5%, according to the Bureau of Labor Statistics. This compared with a post-World War II average of 2%. Slower productivity advances mean smaller increases in labor compensation for most workers.

We now have a new theory from the McKinsey Global Institute, the research arm of the McKinsey consulting company. It’s long been known that the labor share of national income (GDP, for gross domestic product) has been shrinking. In 1947, the labor share was 65.4% of GDP; in 2016, it was 56.7% of GDP. These figures combined all forms of labor compensation: wages, salaries, fringe benefits.

Meanwhile, the capital share of income — income accruing to shareholders, business owners and other investors — rose roughly from 34.6% to 43.3%. Worryingly, three quarters of this shift has occurred since 2000. Again, these trends had been known. But McKinsey went a step further. It estimated how much the rising share of capital income explained the lackluster increases in median wage increases.

The answer is: about a quarter. That’s the impact of the shift from labor to capital income. The rest of the wage slowdown reflects poor productivity growth (general efficiency) and the tendency of high-income wages and salaries to grow faster than middle-income wages. If the distribution between labor and capital income had remained unchanged since 1998, the average American worker would have a whopping $4,000 in extra annual pay, according to McKinsey’s calculations.

Although this is an astonishing conclusion, it doesn’t automatically explain why it happened or how it might be exploited to raise household incomes. One apparent cause of the capital share’s increase is the growth of some well-known companies with phenomenal profits. For example: Facebook reported $22 billion in 2018 after-tax profits; Apple’s total was $60 billion. By a variety of other channels, hefty profits have pushed up capital’s share of national income. Similar trends are apparent in other countries — say, Germany and Spain.

It will be tempting to tax some of the surging profits. Whatever this might do, it probably won’t result in higher incomes for most middle-class Americans. The key to raising incomes, as always, is to improve productivity, but as McKinsey recognizes, this is easier said than done.

(c) 2019, The Washington Post Writers Group