Wages Are Actually Growing Faster Than They Should!

I have an acquaintance who owns several franchises of a national fast food chain.  He refers to increasing wages for his workers as the 49-cent taco problem.  If he raises wages too much, his cashiers just can't sell enough 49-cent tacos in an hour to make a profit.  He can raise wages only as fast as he can raise taco prices – and the market rate of inflation determines the latter.  Likewise, he can't raise wages based on gains in productivity because cashiers already are selling the maximum number of tacos possible per hour. 

It's actually a pretty simple principle to grasp that wages should be an amount reflective of the value the wage contributes, or produces.  That is to say, if an hour's labor produces something that can be sold for $10, then the value of that labor should be $10 – after deducting any hard costs for raw materials, capital, etc.  As time goes on, the sale price of that good should increase due to inflation, and wages right along with it.

The headlines, television, newspapers, the internet – they are all on a wage crusade, claiming that real earnings haven't grown at all.  Most state it as a fact, while many question why real wages haven't grown, given that unemployment is so low and the job market so tight.

To be blunt – this is all wrong!  Real wages have grown – so much so, they've actually grown more than they should.

Income (wages) should grow over time at the rate of inflation plus the rate of productivity gains.  For example, if inflation is 2%, and a worker is 2% more productive, he deserves a 4% pay raise.  To pay him any less would be shortchanging him.  But to pay him any more would be to reward him for inflation that didn't occur, or productivity he didn't achieve.

So let's look at the real numbers and see what's actually been going on.

The Bureau of Labor Statistics (BLS) produces a quarterly report on wages, benefits, inflation, and productivity.  Looking at its December 2013 report (the last one before Obamacare began and drastically changed employer benefit costs), we can compare the average hourly non-farm, non-government wage and benefit level to December 2016 – a tidy three-year period.  When we factor in the rate of inflation and productivity growth over the same period, it turns out that workers have made massive gains in real income.

Over just that 36-month period, wages grew 15% and benefits 24%, resulting in a total employer-paid compensation increase of 18%.  During that same time, inflation was only 4% and gains in productivity just 7%.  Essentially, workers received increases in wages and benefits that are far greater than just keeping up with inflation or becoming more productive.  Roughly, workers are being paid today about 7% more than should be expected.

So if wages are growing faster than both inflation and productivity together, what's all the shouting about?  The answer is easy: class envy.  While this extraordinary growth in workers' real income has been occurring – actually the fastest in 50 years – the top earners' incomes have been growing, too, and at an even faster rate.  Rather than be thankful for the pay raises they have, workers are angry they didn't get even more...like the rich people they see on TV.

It's true.  The income gap between the lower and middle classes and the top bracket has widened – not by much, but it has increased a bit.  However, most of this widening is due to a statistical anomaly.  Let's compare two hypothetical individuals, one making $20,000 per year and one making $200,000.  The income gap between them is $180,000.  Now, assume they both get 7% pay raises – the rate of inflation plus their productivity gains.  With their new incomes, $21,400 and $214,000 respectively, the gap is now $192,600.  Yes, it has widened in dollars, but not in real terms.  Both workers are equally earning the same inflation-adjusted income, and both are being rewarded for their exact productivity gains.

It's no wonder workers want even more.  The media continually uses the dollar differences in income levels to demonstrate how "unfair" it is that the rich are getting richer while the poor are getting poorer.  But it simply isn't true.  In 2013, the lowest 20% of income-earners received 3.1 percent of all national income, and that percentage is the same today.   Yes, that's a small piece of the pie, but to increase it beyond inflation and productivity gains just doesn't make sense – particularly in the long term.

No, workers are getting more than their fair share of wage increases.  And the income gap, while marginally widening, is mostly a nonexistent statistical artifact.  What workers should be doing rather than complaining is bracing for the coming flattening of wage increases.  The current low unemployment rate will bump incomes a bit more, but then simple economics will ultimately flatten the rate of wage growth to align with inflation and productivity gains.

In the meantime, I'm going to have another 49-cent taco.

Kevin Cochrane teaches business and economics at Colorado Mesa University, and is also a permanent visiting professor of economics at the University of International Relations in Beijing.

I have an acquaintance who owns several franchises of a national fast food chain.  He refers to increasing wages for his workers as the 49-cent taco problem.  If he raises wages too much, his cashiers just can't sell enough 49-cent tacos in an hour to make a profit.  He can raise wages only as fast as he can raise taco prices – and the market rate of inflation determines the latter.  Likewise, he can't raise wages based on gains in productivity because cashiers already are selling the maximum number of tacos possible per hour. 

It's actually a pretty simple principle to grasp that wages should be an amount reflective of the value the wage contributes, or produces.  That is to say, if an hour's labor produces something that can be sold for $10, then the value of that labor should be $10 – after deducting any hard costs for raw materials, capital, etc.  As time goes on, the sale price of that good should increase due to inflation, and wages right along with it.

The headlines, television, newspapers, the internet – they are all on a wage crusade, claiming that real earnings haven't grown at all.  Most state it as a fact, while many question why real wages haven't grown, given that unemployment is so low and the job market so tight.

To be blunt – this is all wrong!  Real wages have grown – so much so, they've actually grown more than they should.

Income (wages) should grow over time at the rate of inflation plus the rate of productivity gains.  For example, if inflation is 2%, and a worker is 2% more productive, he deserves a 4% pay raise.  To pay him any less would be shortchanging him.  But to pay him any more would be to reward him for inflation that didn't occur, or productivity he didn't achieve.

So let's look at the real numbers and see what's actually been going on.

The Bureau of Labor Statistics (BLS) produces a quarterly report on wages, benefits, inflation, and productivity.  Looking at its December 2013 report (the last one before Obamacare began and drastically changed employer benefit costs), we can compare the average hourly non-farm, non-government wage and benefit level to December 2016 – a tidy three-year period.  When we factor in the rate of inflation and productivity growth over the same period, it turns out that workers have made massive gains in real income.

Over just that 36-month period, wages grew 15% and benefits 24%, resulting in a total employer-paid compensation increase of 18%.  During that same time, inflation was only 4% and gains in productivity just 7%.  Essentially, workers received increases in wages and benefits that are far greater than just keeping up with inflation or becoming more productive.  Roughly, workers are being paid today about 7% more than should be expected.

So if wages are growing faster than both inflation and productivity together, what's all the shouting about?  The answer is easy: class envy.  While this extraordinary growth in workers' real income has been occurring – actually the fastest in 50 years – the top earners' incomes have been growing, too, and at an even faster rate.  Rather than be thankful for the pay raises they have, workers are angry they didn't get even more...like the rich people they see on TV.

It's true.  The income gap between the lower and middle classes and the top bracket has widened – not by much, but it has increased a bit.  However, most of this widening is due to a statistical anomaly.  Let's compare two hypothetical individuals, one making $20,000 per year and one making $200,000.  The income gap between them is $180,000.  Now, assume they both get 7% pay raises – the rate of inflation plus their productivity gains.  With their new incomes, $21,400 and $214,000 respectively, the gap is now $192,600.  Yes, it has widened in dollars, but not in real terms.  Both workers are equally earning the same inflation-adjusted income, and both are being rewarded for their exact productivity gains.

It's no wonder workers want even more.  The media continually uses the dollar differences in income levels to demonstrate how "unfair" it is that the rich are getting richer while the poor are getting poorer.  But it simply isn't true.  In 2013, the lowest 20% of income-earners received 3.1 percent of all national income, and that percentage is the same today.   Yes, that's a small piece of the pie, but to increase it beyond inflation and productivity gains just doesn't make sense – particularly in the long term.

No, workers are getting more than their fair share of wage increases.  And the income gap, while marginally widening, is mostly a nonexistent statistical artifact.  What workers should be doing rather than complaining is bracing for the coming flattening of wage increases.  The current low unemployment rate will bump incomes a bit more, but then simple economics will ultimately flatten the rate of wage growth to align with inflation and productivity gains.

In the meantime, I'm going to have another 49-cent taco.

Kevin Cochrane teaches business and economics at Colorado Mesa University, and is also a permanent visiting professor of economics at the University of International Relations in Beijing.

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