So how much have wages decelerated? According to one common benchmark — median usual weekly earnings — real wage growth averaged 0.57 percent from 1980 through the first quarter of 2016. That average has been lowered by particularly slow real wage growth since the end of the Great Recession: It has averaged just over half that despite the steady drop in joblessness to pre-recession levels. Across most of the other measures as well, real wage growth was notably soft during the recovery.
But does this slowdown suggest something unusual, or is it typical during recoveries? Based on the most recent research, economists suggest that the answer lies somewhere in between. One challenge, however, is the nature of aggregate statistics, which could have been distorted by the fact that the Great Recession was severe in so many respects beyond the labor market. Moreover, many aggregate measures can be skewed by composition effects, that is, by changes over time in terms of who's working, and the types of jobs they hold. This leads to another question for economists: Does slower wage growth indicate hidden residual labor market weakness — which the Fed could potentially help address through a more accommodative monetary policy? And are lower wages, and their implications for the well-being of workers, here to stay?
In the case of the recent recovery, economists have given special scrutiny to factors such as the changing makeup of the labor force as well as the effects of the baby boomer retirement wave. If researchers can accurately adjust for these factors, they may get a better picture of whether slow wage growth is a sign that workers have lost their bargaining power due to continuing, if unseen, labor market "slack," or underutilization.
Another question is whether the recent trend of slow wage growth is related to longer-term shifts that predate the recent recovery. For example, productivity has been slumping since around 2000, and economic theory suggests wages and productivity should be closely tied. Moreover, the share of national income that goes to labor, compared to capital, has been dropping since then as well. Economists have been paying closer attention to these particular changes to unearth longer-term forces, separate from the business cycle, that could explain what is happening to the U.S. labor market — and perhaps labor markets globally.
Wages and the Business Cycle
The question of how wages respond to the business cycle is an age-old debate in economics. Standard economic theory tells us that wage growth and unemployment should be closely linked: Aggregate wages rise when the unemployment rate falls and slow when the unemployment rate rises. Then, in the 1930s, John Maynard Keynes advanced the theory that wages were actually "sticky," or imperfectly responsive, and didn't fall during downturns as much as fundamentals would suggest. In the following decades, more debate ensued over such questions as how to best measure wages and compensation, and whether they were closely tied to the business cycle at all.
In an influential 1995 essay that reviewed the research on real wages and cyclicality since World War II, economists Katharine Abraham of the Bureau of Labor Statistics and John Haltiwanger of the University of Maryland noted the array of methodological challenges at stake. For example, the relationship between real wages and the business cycle can be affected by which measurement of inflation — consumption-based or production-based — that an economist uses to define the real wage. The relationship also varies depending on the composition of the workforce and the industry in question, as well as on the time period. Abraham and Haltiwanger found some cases in which wages moved closely with the business cycle, such as the early 1980s, when the real wages of workers in steel manufacturing were especially hard hit during the recession. There were other cases, especially before 1970, when a cyclical effect was less discernable.
But they did note one important phenomenon over the decades, one that economists such as Daly and Hobijn have expanded on more recently: The ranks of the employed tend to develop a larger concentration of high-skilled workers during recessions (as more of the lower-skilled are laid off), while the opposite happens during recoveries (as the lower paid, lower-skilled get jobs). In short, the demand for lower-skilled workers seems to be more sensitive to the business cycle than that of higher-skilled workers. This may explain why aggregate wages don't drop as much as expected during recessions but then can soften considerably as the economy improves.
Taking a longer view, however, the authors found that once measurement and composition issues are accounted for, real wages are neither systemically procyclical nor counter-cyclical over time. What the research did show, they concluded, was the importance of using consistent methodology when looking at real wage growth over time.
Who's In, Who's Out?
So was there anything unusual in the way wages responded to the Great Recession and its recovery? And was this a case of "counter-cyclical bias" on wages? Daly and Hobijn are among the economists who have tried to answer this. They have been exploiting econometric tools to explain, among other things, why aggregate wages are generally less variable than other indicators such as the unemployment rate, and why there is such a weak correlation between unemployment and wage growth.
In their recent paper, Daly and Hobijn provided one way to eliminate the composition effects that have long complicated these studies by devising a way to look at median wage growth for the same people year after year. Their innovation was the way they used "micro data" — information on individuals, rather than composite measures or a mean wage of a given job — to track wages of workers throughout the recession and recovery. That way, they could see whether these people stayed continuously employed, retired, lost their job, were forced to work part-time, or dropped out of the labor force and later re-entered. With that information, they could determine how the wages of any given individual in these groups fared relative to the macro trend as seen in aggregate wages.
What actually happened during the Great Recession? It turns out that workers who stayed on at their jobs were indeed among the higher skilled and better paid, whereas those who were let go were lower skilled and tended to have wages below the median. The growing concentration of higher-paid workers meant the aggregate wage stayed surprisingly high even as gross domestic product plunged and unemployment spiked. Then, as the economy picked up, the wages of the continuously employed rose as well, just as economic theory would predict. At the same time, however, the new hires coming back into the full-time workforce — whether they had been unemployed, forced to work part-time, or had dropped out of the labor force altogether — re-entered at substantially lower wages compared to their continuously employed peers. Daly and Hobijn found that about 80 percent of these "re-entries" started their new jobs below the median wage.
So even as the economy was improving and unemployment was falling, the effect of this pro-cyclical hiring was to pull the aggregate wage down, producing the usual counter-cyclical bias in wages. In relationship to the business cycle, then, the effect following the Great Recession was typical, but the degree was unusual — because so many "re-entries" were coming back into the workforce at the same time, at extremely discounted wages.
At the same time, a secular trend was unfolding that re-enforced the post-recession slowdown in wage growth: The mass retirement of baby boomers, a cohort of 76 million people. Older Americans who were exiting the labor force tended to be among the higher earners due to age and experience. So the slowdown in wage growth stemmed from both cyclical composition factors — the re-entry of lower-paid, formerly unemployed workers as hiring picked up — and secular ones — namely, the changes in the demographics of the U.S. labor force, as lower-paid younger workers became a larger share of the workforce. The severity of the downturn and number of layoffs, as well as the outsized effect of mass retirements due to their relatively large share of the population, had an especially pronounced effect on the aggregate wage.
Other researchers have found similar results that show a substantial wage penalty for those who re-entered the workforce after the Great Recession. A group at the New York Fed, led by Ayşegül Şahin and Giorgio Topa, used data from the 2013 New York Fed Survey of Consumer Expectations to see how workers who stayed continuously employed fared versus those who had a break in full employment. The researchers found a similar pattern: No matter what the last wage was of those workers who had left full-time work, they re-entered the workforce at significantly lower wages. For example, among workers who switched from one job to another without a break, the average starting wage was around $20 an hour, slightly more than a dollar above their prior hourly wage. For people who re-entered full-time employment after a stretch of part-time work, unemployment, or disengagement from the labor force altogether, they started their new job at significantly discounted pay, below $15 an hour, even though their average wage at the last job was close to that of their employed counterparts, at almost $18 an hour.
In a blog post summarizing these findings, the researchers used the analogy of a "job ladder," in which typical workers make their way up each rung over time, with each step leading to better jobs and higher pay. But if this trajectory is interrupted — as it was for so many workers during the Great Recession — with spells of either unemployment or involuntary part-time employment, aggregate wage growth is weighed down by the discounted pay of "re-entries." If wage growth is typically explained by job-to-job transitions in which workers move on to better matches, the authors wrote, "perhaps we should explore the importance of job-to-job transitions — rather than movements in the unemployment rate alone — when thinking about the recent dynamics of wage growth."
Hobijn also finds the "ladder" to be a good analogy. "In the Great Recession, people didn't just fall down the ladder — they fell much further than what used to be the case," he says. "And this happened to a much larger share of workers than in previous downturns."
A Shrinking Slice of the Pie
Another possible driver of slower wage growth is the long-term drop in productivity growth. Productivity growth surged in the late 1990s but then slid in the 2000s. After a brief spike during the recession, it has barely crept along in recent years. This slide has prompted debate over the drivers of lower productivity, in part because productivity can be difficult to measure outside of manufacturing, and in part because this appears to be a global trend. What is clear, however, is that U.S. productivity growth has declined in recent years.
A slowdown in productivity growth, according to theory, would lead to a corresponding decline in wage growth because paychecks reflect the fact that workers are producing less. And historically, the two measures have seen a close correlation. In recent years, however, the most commonly cited measures of wage growth have not kept pace with productivity growth to the extent they once did once they are adjusted for inflation based on output to be comparable with productivity statistics. (This trend also applies to compensation including benefits, which have become a larger part of most workers' total pay packages.)
When real wage growth lags productivity growth, the result is a phenomenon known as a decline in the labor share of income: the amount of national income that goes to wages and other forms of compensation versus the amount that goes to capital (such as rents, dividends, and capital gains). And indeed, that is what has been happening since about 2000. (See chart below.) As with productivity, there is a lively debate over the drivers of this drop in the labor share, but the decline is real. In the decades after World War II, the labor share steadily averaged around 62 percent; then, in 2000, it began dropping and is now around 56 percent. Most economists say this trend is due to a decline in wage growth rather than an increase in productivity.