Wage Growth Vs Productivity - Financhill

Wage Growth Vs Productivity

Ideally, people get paid more when they become more productive. A worker who manufactures more shoes, computer parts, or other items gets paid more than the worker who consistently falls below quotas.

Unfortunately, the reality of wage growth vs productivity shows that American wages haven’t increased even though productivity has grown significantly over the last 60 years.

How does this make any sense? In some ways, it doesn’t make sense. In others, wage growth vs productivity displays a common trend in American politics and economics.

Do Higher Wages Increase Productivity?

Some people believe that higher wages lead to increased productivity. Their reasoning says that people who get paid more feel motivated to accomplish more at work. Support for this hypothesis include:

  • Employees who get paid more can focus on work instead of worrying about their finances.
  • Employees who earn more can use their money to develop new skills that will make them more productive and help them qualify for jobs with more responsibility and higher wages.
  • Paying employees more attracts top candidates who contribute to the company’s overall productivity.
  • People tend to keep jobs that pay well, so they will become more productive as they stay with the same company for years or decades.
  • A lower churn rate means dedicating fewer resources to attracting job candidates who need to go through training programs.

Paying people more, in other words, could benefit a company’s bottom line and productivity.

Some businesses recognize the advantages of paying employees well. Others want to spend as little as possible on payroll, even if it means they don’t benefit from increased productivity.

What Happens to Wages With Rising Productivity?

You would think that rising productivity would create higher wages. That makes sense, right? If people get more work done and help employers generate more profits, then they should get paid more for their effort.

Unfortunately, buying power has not increased much in nearly 60 years. According to Pew Research, the average hourly wage in the U.S. in 1964 was $2.50. In 2018, the average hourly wage had increased to $22.65. That sounds great until you realize that inflation has kept pace with those numbers.

In 2018 dollars, the average hourly wage in 1964 was $20.27. In 2018, it was $22.65.

That’s about a 10% increase in buying power, so maybe that looks good to you. Your perspective may change when you look at how much productivity has increased during those years.

When the Economic Policy Institute (EPI) compares productivity and hourly compensation between 1979 and 2018, it finds that productivity increased 252.9% while hourly compensation grew by 115.6%.

Interestingly, increased productivity and compensation matched each other from the late 1940s until the mid-1970s. The divide becomes clear in 1974. Since 1974, hourly compensation has increased by 28.5%. Productivity during the same time grew by 159.1%. That’s nearly six times as much as increases in compensation!

Since the mid-1970s, the answer to “What happens to wages with rising productivity?” looks like “not much at all.”

Do Wages Reflect Productivity?

EPI’s makes it clear that today’s wages do not reflect productivity. Some economists have tried to show that EPI’s research misinterprets the data.

It’s possible to measure productivity in several ways, so the actual increase in productivity might not be as high as EPI reports.

No matter how you measure productivity, though, wages have not kept up. Perhaps the actual disparity is lower than EPI reports. Regardless, there is a disparity.

Why Has Wage Growth Not Kept Pace With Productivity?

You can approach this problem from several directions. It’s likely that numerous factors have prevented wage growth from keeping pace with productivity. Let’s take a look at some options to see how they influence wages, productivity, and profits.

Executive Pay Has Prevented Wage Growth

From 1978 to 2018, CEO compensation grew by 940%. The typical worker’s compensation, however, only increased by 12% during those years.

When the CEO gets paid an absurd amount of money, companies don’t have funds to compensate their employees properly.

Companies Have Spent a Lot of Money Improving Productivity

Increased worker productivity doesn’t necessarily mean that people do more. Companies have invested billions of dollars on tools that help improve productivity.

Since companies have to spend a lot on software and machinery, boosts in productivity aren’t connected to worker pay.

Companies Invest More in Stock Buybacks Than Employee Compensation

Many companies prefer stock buybacks over giving their employees raises. Many economists consider this practice risky for the American and worldwide economies.

Companies that focus on buying their stocks back from shareholders tend to invest less in research and development. Stock buybacks also deplete reserves that companies should use to weather economic recessions.

Increasing worker compensation could also improve the economy. Stockowners, however, want to get more from their investments.

Stock buybacks tend to boost the value of shares, so that’s what many corporations choose to do.

Wage Growth Vs Corporate Profits

Outside of the Great Recession that lasted from 2008 to 2009, corporate profits have grown steadily over the last two decades. In 2000, U.S. corporations reported $786.6 billion in profits. In 2018, corporations reported more than $2 trillion in profits.

Despite the enormous growth of corporate profits, wages barely moved during that time.

Warren Buffett, potentially the world’s best investor, has expressed concern about CEO compensation and corporate profits. From his perspective, companies are misusing funds by focusing on short-term stock prices instead of long-term, sustained growth.

The lack of wage growth also puts the economy in a perilous situation. When people don’t earn enough to spend on consumer goods and save for the future, they can’t build a solid foundation that will help them survive recessions and depressions. Instead, people and corporations will always have to rely on the government to bail them out.

A more equitable arrangement could help change the cycle of boom and bust that plagues the American and world economies.

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