US labor market: wage and salary growth vs. payroll growth
I’ll make this quick, since I’m going to get in trouble for writing on a national holiday. But the pace of annual jobs growth is too slow to generate strong wage and salary income. Much empirical research has been dedicated to the estimation of consumption functions, generally finding that labor income is the primary driver of consumption (here’s a primer at the Federal Reserve Board). However, by extension jobs growth is highly correlated with wage and salary growth, roughly 50% of personal income – this is the relationship I analyze here.
Roughly half of the BEA’s measure of personal income comes in the form of wage and salary, so called labor income and simply referred to as ‘wages’ from here on out. This is highly correlated with nonfarm payroll growth, both in nominal and real terms (92% and 79%, respectively, since 1996). The chart below illustrates the correlation between real wage growth and nonfarm payroll since 1982 (I use real wage so as to account for the effects of inflation).
The annual pace of real wage gains and jobs growth have declined over time (jobs growth is measured using the nonfarm payroll). Simply eyeballing the data, there’s a structural shift roughly around 1996, as listed in the table below.
Using these two time periods, 1982-1995 and 1996-05/2011, I estimate a simple model of real wage growth on nonfarm payroll growth. The chart for the 1996-2011 model is illustrated below; and for reference, the regression results across both time periods are copied at the end of this post.
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Note: I do not have time for a full blown econometric analysis. I did, however, perform statistical tests for serial correlation in the errors, unit roots in the transformed data (none), and general modeling tests.
I come to two general conclusions regarding the relationship between real wage growth and jobs growth over time:
(1) Real wage growth has become more persistent over time. In the first period, 1982-1995, just one lag was required to expunge the errors of autocorrelation. Spanning the second period, 1996-2011, three lags were required. The sum of the coefficients on the three lags is 0.87 in the later sample, or current wage growth is highly dependent on previous periods – sticky if you will.
(2) Nonfarm payroll growth has become less significant over time. Spanning the years 1982-1995, the coefficient on annual payroll growth was 0.27 – for each 1pps increase in the annual payroll growth, the trajectory of annual real wage growth increased by 0.27pps. The coefficient dropped to 0.17 in the sample spanning 1996-2011. This is probably a consequence of service sector jobs growing as a share of the labor market. I’d like your ideas in comments as well.
Clearly this is a very simple model but it does highlight that wages are likely stuck in the mud for some time. In May, annual real wages fell 0.6% over the year, having decelerated for 5 of the 7 months since November 2010. Real wages can pick up, but it takes time AND jobs growth faster than the 0.67% annual pace in May 2011.
Ultimately, what this analysis tells me is with wealth effects slowing markedly – the trajectory of the S&P decelerated and house prices continue to fall – it’s going to take a burst of payroll growth to get real wage and salary growth back on track enough to finance US domestic consumption. One caveat to all of this negativity is that oil prices are coming off – this will boost real wage and salary growth directly.
P.S. I guess this turned out somewhat less ‘quick’ than I had anticipated – not in trouble yet! Gotta go.
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this may be one of those “science has learned everything there is to know” arguments, but here it is:
maybe we are reaching the limits of “growth” (at least the kind of growth we are used to thinking about),
and maybe wages of the poorer nine tenths have reached the limit both to what their “productivity” justifies, and what they need for a decent life.
the very poor need a better deal, or better leadership, so they can have a decent life. the middle class needs to learn that money is not life.
the problem is that the rich live an indecent life which is both unsustainable and contributes to the dehumanization of the poor and the foolishness of the middle.
granted this is wild speculation on my part, and maybe even a complete failure to understand “economics”. but i can’t help thinking that economics as we have known it is not the answer to what we need to learn.
“Much empirical research has been dedicated to the estimation of consumption functions, generally finding that labor income is the primary driver of consumption (here’s a primer at the Federal Reserve Board).”
Note the bolded portion of the statement. My addition. Is this akin to inventing the wheel, or maybe more basic as in I’ve just discovered fire. What the devil else would drive consumption if not labor income. This is one of those “empirical research findings” from the economic sciences that drive me to drink. It’s f____kin” obvious to all but the most lame. Labor income is the basis for demand. No income, no demand. What else is new in the world?
i know how you feel. but there is the income of those as don’t work.
i was a little surprised to learn that “income subject to” the payroll tax is only about one third of GDP. I still don’t have a real sense of where the rest of the money goes. I think about an equal amount goes to the “over 100k” incomes of the people who DO “work.” then the rest is rents and interest and profits.
the part that really confuses me… maybe because the first book i read had it wrong… is “depreciation.” that looks to me like it ought to be income to the folks who built the machine, but i can’t see that it’s accounted for that way.
and there is this:
what rebecca may be saying is that if you want to “increase consumption” the surest way to do that is to increase “labor income” meaning higher wages or more jobs. just cutting taxes won’t do it.
i went back
rebecca talks about the “wealth effect” suggesting that you don’t increase consumption just by raising stock prices (and housing prices) making people think they are rich. and here we see… i think… that she worried about consumption vs “savings”… savings being one of those things we desperately have to increase by doing away with social security, but can have too much of when we don’t desperately want to get rid of social security
that said, i think there are a few sentences in the post that defy easy reading “real wage growth has become more persistent over time”
in any case, life is more complicated than we think.
Sorry I’m a bit late here – my feeling is that the labor market problems are baked in and getting worse by the day. This talk of whether or not the structural unemployment rate has risen is just silly. It’s been rising over the last decade, as illustrated by the employment-population ratio. And now it’s going to get worse, as the long-term unemployed brings down the average skill of the overall labor force – lower productivity is the only result.
Previously, lower skilled workers were able to find jobs in various forms, including the construction sector. That’s all but dried up – we need to resurrect some industries that cater to lower skilled workers. Where are they going to go now? Seriously, the government needs to literally create jobs – I mean jobs that anybody can do. Just put a shovel in any unemployed person’s hand that wants it. Because what we have now is an atropying labor market. It’s only going to get worse for the lower to middle class, a stock of the population, by the way, that is growing.
People always talk about those ‘welfare’ households, living off the taxpayers bill. But I strongly suspect that a very large portion of those living on welfare would rather work for fir income than get transfers from the government. Why not let this growing share of welfare recipients contribute to the overall economic course? This is all backwards.
I’m done ranting here. But a large share of the population ‘needs a better deal’, as you say.
“Labor income is the basis for demand. “
I agree – but as I’ve argued before, wealth effects have been quite strong in the US since the outset of the Fed’s QE2 and driving much of the consumption of late. While the S&P was rising, consumer saving was stagnant or falling – this will turn around. As QE2 dissipates, stocsk will struggle to keep up (earnings will slow markedly), and consumption will likely suffer as consumers are facing the awful truth of negligle (to negative) growth in real wages and salaries.
I agree with you entirely… even if i don’t understand the “economics.”
Now if we could just get someone to listen to us.
I really appreciate your post and you explain each and every point very well.Thanks for sharing this information.And Ill love to read your next post too.
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we need to repeal minimum wage law. it is otherwise impossible to bring in low skilled jobs here such as blackberry assembly.
income is a function of production. no production means no income and no consumption. you people keep going in circles.
labor costs are less than 20% of the cost of high tech manufactures; actually, we should raise the minimum wage in order to stimulate consumer demand, underpin the housing market, and increase government revenues…
European stocks dropped as investors awaited today’s American payrolls report and elections in France, Greece, Italy and Germany this weekend.
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