Macroeconomic Volatility Versus Volatility of Incomes

A bit of a mouthful, but the very important point of this Congressional Budget Office report, which was summarized in Congressional testimony and reported in Mark Thoma’s Economist’s View, is that while the growth rate of the economy has become steadier, the volatility of individual incomes has increased considerably.

This income instability is another element in the debate over income disparity. Not only have average wages stagnated, and growth in prosperity limited to the very top cohorts, but even worse, the quality of earnings of the unwashed middle has deteriorated.

From the summary:

First, macroeconomic volatility—the ups and downs of overall economic growth and inflation—has declined and is now relatively low. In particular, year-to-year fluctuations in the economy have become smaller than in the past.

Second, despite the relatively modest volatility in the overall economy, workers and households still experience substantial variability in their earnings and income from year to year. CBO’s analysis shows, for example, that between 2001 and 2002, one in four workers saw his or her earnings increase by at least 25 percent, while one in five saw his or her earnings decline by at least 25 percent.

Some of that variability stems from voluntary actions, such as a decision to stay home and rear children, and some stems from involuntary events, such as the loss of a job. Earnings volatility is somewhat higher for people with less education.

Third, although earnings and income volatility is substantial, more research is required to determine how and when that variability has changed over the past few decades. The evidence that exists suggests that earnings have tended to fluctuate more, on a percentage basis, over the past 25 years than they did during the 1970s. The number of studies on the topic is limited, however, so it is too early to reach firm conclusions about the precise timing or magnitude of any increase. Given their importance, trends in income volatility seem to warrant significant research attention.

Finally, while the unemployment rate has been relatively low in recent years, the adverse consequences of losing one’s job appear to have increased. In particular, a higher fraction of unemployed workers remain unemployed for very long periods, and the average reduction in earnings once they are reemployed appears to have grown.

A section of the testimony is worth highlighting:

…the adverse consequences of losing a job because of slack work, a plant closing, or a position being abolished have increased, which may be one factor contributing to volatility in earnings and income at the household level. One study found that, on average, workers who lost a full-time job from 2001 to 2003 and found a new job by the time they were interviewed earned about 17 percent less than they would have earned had they not been displaced. That amount was roughly double the average loss in earnings incurred by workers who were displaced in the late 1990s. The increase in the size of the average loss in earnings was especially large for better educated workers. Finally, as the author of the study points out, his estimates understate the total economic losses incurred by workers in that the estimates do not take into account workers’ foregone earnings while they were unemployed and any losses in fringe benefits.

Another causes of increased volatility is that the proportion who remain out of work for long periods has increased (i.e., it is harder to find jobs). Not a pretty picture.

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