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A Productive Debate

Is the link between pay and productivity broken?

But in a draft paper released last October,
economists Jared Bernstein and
Lawrence Mishel of the Economic Policy
Institute also plotted compensation on
Lazear’s chart using a consumption deflator
(see “Mind the Gap?” at the end of this article). The
result is that compensation begins to fall
behind productivity in the 1970s, and the
gap widens to the present day. In justifying
use of the Consumer Price Index
deflator, which has grown faster than the
output deflator, Bernstein and Mishel
argue that “consumers are not buying
machine tools and drill presses; they are
buying gas at the pump, housing services,
haircuts, and so on, all of which are
weighted more heavily in the CPI than in
the [output] deflator.”

Wage growth may be expected to lag
productivity growth when an economy
emerges from recession. Lazear is confident
that wages will eventually begin to
catch up, as they have before. “2006 has
seen significant increases in nominal
wages above the levels of past years,” he
said in July. But Bernstein and Mishel are
far more skeptical.

Meanwhile, some observers worry
that total compensation growth is slowing
down. Last August, The New York
Times
noted that the inflation-adjusted
value of worker benefits has fallen since
the summer of 2005.

Unequal Wage Growth

Robert Gordon, a professor of economics
at Northwestern University and a prominent
productivity expert, insists that “data
issues” explain away the 3.4 percent
annual growth gap between productivity and average real
hourly wages for the four years ending in
Q1 2005. Those issues (which include different
deflators) are discussed in Gordon
and Ian Dew-Becker’s 2005 paper,
“Where Did the Productivity Growth Go?
Inflation Dynamics and the Distribution
of Income.”

The authors point out that labor’s
share of national income has remained
more or less constant over the past 50
years. “Somewhat surprisingly,” they
write, “in light of comments about labor
‘losing out’ from the productivity growth
upsurge, labor’s share in the total economy
actually increased at an annual rate of
0.25 percent over the period 1997–2005.”

But Gordon and Dew-Becker see a
disturbing trend in the distribution of
labor’s share. According to their analysis,
only the top 10 percent of nonfarm workers
saw their wage growth match the average
rate of productivity growth since
1997. Within the top 10 percent, another
disproportionate amount of wage growth
accrued to the top 1 percent. Overall, they
reckon, half of labor’s income gains since
1997 went to the top 10 percent of the
income distribution.

“The post-1995 productivity growth
revival did not automatically signal good
news for the majority of American workers
and households,” conclude Gordon
and Dew-Becker. “Indeed, to the extent
that the productivity growth ‘explosion’ of
2001–2004 was achieved by cost-cutting,
layoffs, and abnormally slow employment
growth…the historical link between productivity
growth and higher living standards
falls apart. Not only have the bottom
90 percent of American workers
failed to keep up with productivity
growth, many have been harmed by it.”

Significant or not, the gap between
pay and productivity is a subject that
won’t go away, particularly now that control
of Congress is passing to the labor-friendly
Democratic Party. There is much
talk of raising the federal minimum wage
from its current $5.15 per hour, perhaps
to $7.25. Jared Bernstein says that lawmakers
could reintroduce the Employee
Free Choice Act, which would make it
easier for unions to organize. Expect
politicians to explore other, perhaps more
dramatic, ways to bring pay and productivity
together.

Edward Teach is articles editor of CFO.

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