Market Power, Low Productivity, and Lagging Wages: The Real Drivers

By Lance Taylor, Arnhold Professor of International Cooperation and Development, New School for Social Research. Originally published at the Institute for New Economic Thinking website

Output, employment, and income flows in the American economy fell apart over recent decades. Peter Temin of MIT and Servaas Storm of the Technical University of Delft point out that a “dual economy” emerged, signaled by divergence between “stagnant” and “dynamic” sectors in the structure of production, growing employment in stagnant industries, and rapidly rising inequality in the functional and size distributions of income. These imbalances affected the middle class and, much more strongly, poorer households at the bottom of the size distribution of income. Households in the top one percent and higher were insulated because they get most of their income from steadily rising profits, distributed to a significant extent through the financial system as bonuses, equity options, share buybacks, and capital gains.

How did production and distribution across industries or “sectors” of the economy interact to produce these outcomes? The key lies with the evolution of labor “productivity,” a name for a widely discussed ratio,

Productivity = Real output ÷ Employment

Productivity growth (higher output per unit of labor) is often credited to “technological progress” due to reorganization of production, more efficient capital goods, or better use of capital. But productivity change takes place within the overall socioeconomic context. In practice it may arise from greater labor exploitation or sharper competitive practices on the part of business. Going in the opposite direction, slower productivity and real wage growth may provide a vehicle for accommodating surplus labor coming from employment imbalances between stagnant and dynamic sectors. The importance of this adjustment is suggested by empirical results.

There is another important consequence of productivity growth which is not emphasized by mainstream economists. It creates an output “surplus” which must be distributed somehow to higher profits or wages. When, as pointed out below, real wages grow less rapidly than productivity the share of profits in national income must rise. This process fuels the rapid growth of high household incomes that has occurred over the past several decades in the USA.

In our new paper, Özlem Ömer and I break down 16 “industries” or producing sectors to look in more detail at these structural changes. Compared to the others, seven sectors—construction, education and health, other services, entertainment, accommodation and food, business services, and transportation and warehousing—have low levels of productivity. For all seven, it is easy to come up with examples of low-pay, dead-end jobs that they create.

Their growth rates of productivity and real wages lagged the rest. Their share of total employment rose from 47% in 1990 to 61% in 2016 while their share of wages went from 57% to 56% of the total. The big increase in employment relative to payments to labor demonstrates visible wage retardation. The real output share of the stagnant sectors fell from 48% to 41%. Despite their high employment and output, they generated only 30% of total profits at the beginning of the period and 23% at the end. Except for construction and transport, the shares of their own profits in output declined.

We estimate that households in the bottom 60% of the income distribution working in the stagnant zone have wage incomes 30% below those of their counterparts in dynamic sectors (though of course some high paying jobs exist in all sectors). Real wage growth between 1990 and 2016 in all sectors was less than two-thirds as fast as productivity growth.

Debate rages about whether the payment lag is due to business “monopoly” power pushing prices up against wages or suppression of wages resulting from labor’s failing bargaining power. Decreasing profit shares suggest that monopoly is not rampant in stagnating sectors. Among the dynamic sectors real estate rental and leasing accounts for a stable 30% of total profits. Property owners no doubt wield market power, but it does not appear to have strengthened over time. Manufacturing and information together account for a quarter of profits and wholesale and retail trade for another one-eighth. These large profits flow mostly to high income households, leading to rising income inequality as noted above.

Productivity increases may have gone along with monopoly power in parts of the dynamic sectors. Productivity growth did notaccelerate, however, suggesting that increased monopoly did not play a role. In the stagnant zone, higher employment for workers forced out of dynamic sectors provides a better explanation than monopoly for slow or negative productivity growth and the wage lag.

Across the 16 sectors, overall productivity growth can be decomposed into a weighted average of own-rates of increase and “reallocation” effects due to labor movements. An employment increase in a low productivity sector reduces economy-wide productivity growth.

In the data, job growth in education and health and accommodation and food cuts visibly into overall productivity. Real estate and manufacturing make strong productivity contributions. Business services is a large sector at around 15% of output but its slow own-productivity growth means that it did not contribute very much economy-wide.

Similar results emerge from a decomposition of employment growth. Combining the effects of output and productivity changes shows that the bulk of job creation took place in the stagnant sectors. Job annihilation was strong in information, wholesale, retail, agriculture, and manufacturing. Robotization, the latest manifestation of the trend toward automation that has run for more than two centuries, no doubt contributed to slower job growth, mostly by blocking young entrants into the industrial labor force.

A final effect of high productivity growth in a sector is to reduce its costs in comparison to the rest of the economy. As emphasized long ago by Princeton’s William Baumol, the high productivity sector’s relative price or terms-of-trade with other sectors shifts downward. The seven lagging sectors all had rising terms of trade—the cost of automobiles rose relatively less to consumers than prices for education and health services.

An explanation for these observations comes from models proposed recently by Codrina Rada of the University of Utah and Storm. They suggest that in the U.S., at least, in the absence of unemployment insurance and social security worth the name, workers must find jobs—if not in the better paid dynamic sectors, then in a low end job in some peripheral activity. In contrast to standard economic models, endogenous adjustment of productivity in the stagnant sector allows “full” employment (supplemented by fiscal transfers) to be maintained. Productivity fallsand wages stagnate in proportion to the quantity of labor moving intoa stagnant sector, a form of adjustment that absorbs surplus labor. So long as productivity growth falls less than wage growth, as suggested by the data, unit labor costs decrease for stagnant sector businesses—they can continue to make money.

Tracing through the implications, higher productivity growth in the dynamic zone creates a bigger labor surplus. The resulting rise in low level employment creates a weak positive feedback into dynamic sector demand. The empirical results summarized above suggest that this effect is not strong enough to offset growing imbalances and duality.

In terms of “policy” as usually interpreted, there is a limited menu of interventions which can be used to reverse these trends. One could be based on fiscal or monetary expansion to push up demand for dynamic sector goods and services, pulling jobs from the stagnant sectors. The practical problem is that although among policy-makers faith in “expansionary austerity” may be weakening, it has certainly not disappeared.

Policies aimed at redistributing income toward the lower deciles of the size distribution in which households have negative saving rates would have a similar effect. An increase in fiscal transfers to low income households over recent decades no doubt supported effective demand. The recent American tax “reform” of course went in the opposite direction.

Incomes policies could be used to stimulate wage growth in stagnant sectors relative to increases in the dynamic part of the economy.

These and similar adjustments could be helpful but fail to address more fundamental structural problems. The low positive or negative productivity growth in the dysfunctional American health care system is devastating. Employment in manufacturing, historically the main locus of productivity growth, will probably remain weak. Income elasticities of demand for the whole range of manufactured final goods (or “stuff”) and even intermediates are not likely to rebound even as productivity growth continues.

Globalization and international trade have taken a toll in terms of jobs, not only in manufacturing. Offshoring the production of intermediate inputs such as computer code cuts costs and raises the productivity of remaining workers in the U.S. Creative destruction of onshore jobs still isdestruction. Its impact may be stronger if investment in new technologies shifts from the U.S. to abroad.

Falling or stable wages in stagnant sectors is exacerbated by non-poaching and non-competition clauses in contracts (which restrict job opportunities outside a company for a worker who leaves it). Divide-and-rule employment tactics in a “fissuring” labor market are another aspect of this process.

Strong forces support the trend toward duality. The key problem is the rising profit share which can be traced to slower wage than productivity growth. Distributive conflict lies at the root. It can be addressed from several angles—revamped corporate governance as in recent proposals from Senator Elizabeth Warren, restructured labor market regulation to give workers more bargaining power, even capital market innovations such as creation of a public wealth fund based on taxation of capital gains. Stagnation may well worsen unless these countervailing powers can be brought into effect.

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  1. DJG

    This post is enlightening, and it may be more enlightening to me because I have seen many symptoms of the economic stagnation described. In Chicago, the decline of manufacturing means a rise in restaurants, cafés, hotels, other services such as day care and nannydom, and general “being a sales clerk.” These are the notorious McJobs we talk about, and they are legion. And they don’t pay.

    [The disproportionate influence of these economically stagnant sectors now shows in the arts, in social organization (or lack thereof), in the quality of medical care, and in the general unkempt look of Chicago (except for prime tourist areas, which are served by the same economically stagnant sectors).]

    These sectors also align with the hypothesis that Lambert has been developing, which is that illegal immigration has to have something attracting it, which is rampant illegality among these industries. Having a docile workforce not able / not aware of ways of exercising its rights supports the goals of the U.S. upper-middle classes, liberal and conservative. After all, you can’t expect them to use the leaf-blower on their own lawns, can you?

    A physical manifestation of this stagnation is that I am suddenly seeing way too many Cadillacs (driven as cluelessly as Cadillacs always are): The carmaker for the resentful old farts among us.

    1. Jean

      And those Cadillacs are most likely financed and or are leases and are unlikely paid for with cash.

      Huge numbers of Denalis, or “Denials” plus other shiny new pickup trucks seen on a recent Southwest road trip. Trailers and All Terrain Vehicles, new and shiny seen everywhere.

      Meanwhile, the battered old Gran Prixs and Chevy compacts are driven about by exhausted lab and medical techs, judging from their uniforms they wear to and from work. Check out the Walmart employee parking lots for a view of this. Lots of in-car sleeping. Orchard Supply Hardware, a victim of the financial parasitization is about to close 98 stores and fire 4,300 mostly older experienced workers in the West.

    1. Comradefrana

      I always find it hilarious: describe a mechanism by which productivity increases in one sector lead to wage growth across the economy, call it a ‘disease’. Quintessentially economist.

  2. Hepativore

    Yves, somewhat related to this topic, would either you or one of the authors of this blog be willing to write an article on the myth of the so-called “STEM shortage”? What is particularly ridiculous about this decades-long claim from corporate representatives in the STEM fields is that wages have not risen at all or have often fallen for many workers in these areas which would not be the case if there was really such a high demand for STEM employees. In fact, the entire “STEM shortage” claim seems to be little more than a fabrication on the part of corporations in the STEM sector to convince congress to constantly raise the cap on the number of H-1B visas issued to bring in even more cheap labor. If anything, there is a huge STEM glut, and taking the life sciences as an example, only around 12% of degree-holders in this area are able to find any work in their field.

    There has been rampant abuse and exploitation of the H-1B program by corporations to bring in scores of temporary workers that they can use and abuse with impunity. Plus, if a guest-worker gets too uppity in the eyes of his employer, an employer can revoke his visa status at anytime and send him back home on the first flight back to his home country.

    Finally, as a former STEM worker myself stuck in a dead-end survival job for the foreseeable future, a lot of people do not seem to realize how many science and engineering jobs have been subcontracted out by American companies to overseas laboratories. The stuff that remains here is also subject to the whole “permatemp” game just like what IT is infamous for. When I was in the biotech sector, most companies would get rid of entire laboratories-worth of personnel and replace them with a new influx of scientists and technicians with the conclusion of each project or study. Most research companies have largely turned their researchers into glorified contractors with no job security, pitiful wages, and no benefits.

    1. nothing but the truth

      The IT (“STEM”) jobs scene has turned into a clusterduck.

      There is rampant age / ethnic discrimination going on.

      The corporate and media types just say whatever is fashionable to say – US education bad, Asia education good, US IT worker bad, Asian Techie very good and so on – basically, “We want more H1B to keep wage low”.

      But the really pathetic part is the way the techies who are on the other side of the table behave.

      It is one thing for the world to tell lies about IT people for their own profit motive. It is another thing for the IT people to start believing them.

    2. Iguanabowtie

      Darn, can’t find the link, but I read a great post on this lately. Short version: it’s monopsony wage-setting at work. Firms won’t raise wages as that would impact profits, but can’t grow without hiring, thus constantly complain of labor shortages. (Also why H1-B hires are so desirable despite political blowback; to the monopsonist, they’re the only ‘affordable’ hires available)

    3. jrs

      I think it’s MUCH larger than STEM, so making it about STEM misdiagnosis it I think. It is what has happened to white collar “professional” work generally. Like all areas of tech are certainly not high demand (it’s hard to generalize tech being what it is), but there are engineers who don’t get jobs quickly as well, but more than that there are accountants who struggle to find work (!), marketing people out of work etc.. The middle class has shrunk and the competition for the few remaining middle class jobs is absolutely fierce.

      Yet they keep telling us the economy is good because you can drive for Uber or work in an Amazon warehouse, even if you were trained for/had a career …

      1. RMO

        As someone who has spent quite a bit of time and money on education in failed attempts to start a career in accounting (even a low level bookkeeping job would have been just fine) and a trade (aviation maintenance engineer) I would say your analysis is correct.

        For what it’s worth I went to schools which are well regarded in my area. In the University courses I never received less than an “A” and had the highest overall marks at the trade school. Oh well, whaddaya gonna do. Besides laugh ruefully or weep I mean.

        1. Robert Bancroft

          Organize. Vote for and applaud the few trying to reverse the onslaught–(for example, Elizabeth Warren.) Educate friends and coworkers about how professional and blue collar unions gained power in the 20th century and then have been eviscerated in the last 40 years. Inform people about ALEC,” right to work laws”, privatization, and bogus “independent contractor” scams have all been used to drive down wages.

    4. Code Name D

      The so called “STEM shortage” is not entirely fake. All though its largely a product of the industries’ own attitudes towards labor. In my sector, there is an acute shortage of RF electronic engineers and software developers. Even WITH the H-1B program, finding applicates is nearly impossible. The same is true for my field, mid-level service technicians which cannot benefit from H-1B because the skill set’s do not qualify.

      Problem #1, the poor education system has become isolated from the industry. Vocational programs largely struggle for funding, and are thus forced to turn to investors to make up the shortfall from state and federal budget cuts. Investors want to see these programs “teach” the “cutting edge” of technology, which means abandoning programs that focuses more on more rounded technology’s and especially legacy systems.

      For example, it might surprise you that there is a pressing need for vacuum tube technologies. Yes, I said vacuum tubes. Tubes are still needed for high power and high frequency applications such as for radar systems. But most programs have largely abandoned this necessary legacy system because its not the latest thing. While less extreme, the same is also true for RF and analog systems, something that many technologies are still very much reliant upon.

      Problem #2, the so called “plug-in” worker. Many corporations have this strange notion that you should be able to hire someone off the street and they can hit the ground running with your unique and priority technologies. At the high end, even highly qualified people need to be trained on your technology and engineering culture. Workers are nothing more than parts you plug into a slot to make the system work, why bother with training. As a result, employers often set the bar too high for new hires. (Five years or more experience for our proprietary technology – yes, I have seen that as a hiring qualification.)

      Problem #3, which is related to #2. The retiring of the baby-boomers and age discrimination. One reason for the “plug-in” worker is it’s not uncommon for there to be no one left behind to train new hire’s any way. This actually happened to my shop when our one and only (and over worked) power supply technician retired. My boss does have a position open to replace him, but he/she has to be a plug-in worker, gifted with magical knowledge with our systems work.

      This is a problem we have been warning about for years. A new guy should have been brought on BEFORE the tech retired. But no, that’s not how things work these days.

      And age discrimination is huge. Any one 50 or over is face with a nearly impossible task. Their “skill sets are not current” or they might fear health issues. (Remember, healthcare is expensive.) Hell, just dental work alone for older employees makes hiring younger workers so much more attractive.

      Problem #4, human resources do not understand technology. Therefore, they lack the needed qualifications to make informed decisions about weather a candidate is or is not qualified for a position. They have something of a check-box mentality which focuses more on credentials rather than actual qualifications, work history, and especially training potential.

      Problem #5, The “privet contractor/consultant.” If you are talking about engineers and software developers, what you are NOT talking about is full time employment, not in the traditional sense of how we might think of as work. Today, an engineer is brought on to work on a specific project. And when that project is completed, the engineer is “free to take on other projects elsewhere.” This might be for a few years to only a few months. If you have this notion that you don’t need to retain your workers – then you can’t be surprised when you discover you many not have enough workers from time to time. This is extremely bad when it comes to software development where an engineer might be hired to work on a specific subroutine or algorithm.

      To make maters worse, employment agreements often comes with exclusivity clauses. Meaning you can’t go to work for a competitor for X number of years. So right from the get-go, you have contractually made a large portion of the work force ineligible for employment.

      This means that the projects themselves have to compete workers. For the top 10%, the watch word is “clients.” So the “hot” and “in demand” technicians and engineers only want to work on “sexy” projects that will help them land the next gig. So, if your project isn’t “cutting edge”, or even involves legacy systems, applicants tend to avoid you because they perceive it might harm the prospect for their next project.

      This also creates labor hot-zones and deserts. My company had to open up a branch office in New York simply because it became impossible to find RF engineers in Wichita Kansas. They won’t (well, most wont, there are a few here) even relocate to Wichita, even for the prospect of long term employment.

      Problem #6, the high cost of education. Education is expensive. So, the more “lucrative” the degree, the more the job has to pay in order for the student/worker to support the cost of that education. As wages refuse to rise, this means that you price out entire fields. This is the main reason why the H-1B program is argued to be so necessary. For most technical fields and many engineering fields, the education/labor curve has already been inverted for some time, making it impossible to find locally grown technicians. Your ONLY option is to hire from outside the US where their educations systems are largely subsided by the state.

      And this isn’t just about technicians and engineers. I have seen a growing trend of filling lower and mid-level management positions with H-1B applicants. Probably for very similar reasons to that I just listed. This is also true for teachers. The cost of becoming certified as a teacher has LONG out ran teacher pay, which is actually heading in the opposite direction. So, a growing number of public education teachers are being recruited through H-B1 programs.

      1. jsn

        The cult of share holder value has rewarded executives for monetizing the institutions of cultural reproduction within their businesses.

        It is a liquidationist ideology nearing its endgame. If it is protracted enough in ending, collapse will be the only end possible.

      2. Heraclitus

        I attended a graduation at our local technical college a few years ago. Out of hundreds of graduates, two finished with associates degrees in engineering. Eighty percent of the graduates were either dental hygienists, or nurses.

        A friend told me about a technical (or community) college in his state. Out of five thousand students, there were ten in the computer networking certificate program, which pretty much guarantees a high five figure job after a couple of years of experience. The program requires six courses, or two semesters, but only a minority of the ten will graduate on time. The analogous program at our technical college requires nine courses, or three semesters.

      3. Inode_buddha

        I would have loved to find a use for my analog electronics tech cert back in 1990… moved on to other equally crappy fields and its the same in most fields.

    5. Chris

      There is a STEM shortage, but it is not at all as described and further education won’t fix it.

      I’m an engineer. We desparately need more experienced engineers. We also desparately need people who aren’t afraid to handle dirty, physically challenging, demanding working conditions. Too many recent graduates don’t want to work outside in bad weather, or even walk upstairs.

      A majority want to be well paid to sit in a cube from 9 to 5. But, absent immigration or H1-B visas, the people who are willing to work the cube jobs for what employers want to pay is not large. Without some time in a cube farm, and the desire to get out of the cube farm, you don’t get the experience you need to be efficient in the field. Without field experience, and theven war stories that come from it, you don’t get to be a consultant. Without the kind of salary you get from being a conultant, you lose the desire to stay in engineering and tend to move into project management.

      So we have a lot of people who graduate with engineering degrees who can’t find the work they’re looking for. We have a lot of employers who want people with skills they won’t pay for, and don’t want to support people who want to have technical careers. And many of the people I’ve met who could take advantage of those opportunities don’t want to do the physical work that is required to support the technical effort.

      This is and training and culture problem. Not an education problem. More college can’t fix it.

      1. jrs

        Well are the engineering graduates even capable of doing the physical work? I mean is it a man’s job? How much physical strength are we talking about here? What about women engineers? My mom was one, but it was white collar work then, she wasn’t hopped up on ‘roids, just your average female, who got into it by being good at math.

        1. Chris

          There are definitely times when it is convenient to have physical strength and be large. But it’s more about desire and stubborness than physical prowess.

          There are many different ways I can work with someone to help them learn these skills. What I can’t deal with is someone who refuses to walk up multiple flights of stairs because there’s no elevator. Or who won’t go outside in thermal gear when work needs to be done and it’s freezing out. Or who doesn’t want to learn about safety so they can’t even get on site to participate in the work. I can give somebody a different wrench to turn if they lack the strength. But I can’t upgrade someone’s desire to do the work.

          I’ve worked with a lot of women. They haven’t all been treated well. When I’ve had management responsibilities, I have done my best to support them and push back against sexist behavior. But even a brilliant female engineer won’t advance if they’re not willing to go out and work hard.

        2. Chris

          On the employer side, let me share this anecdote…

          A female engineer I was friends with lost her job after the GFC in 2008. She had worked as a scientist/process engineer at a start up company in Pittsburgh. She had a PhD in engineering, business experience, a PMP, research lab experience, had a publication record, and several years experience at this company before they laid her off due to eliminating her entire department.

          She started interviewing for a new position and got several offers no where close to what she had been paid, let alone what she should have been paid. When one job did come back with an offer it was for 50% of what she should have been paid and with a 50% travel requirement. This position stated it required someone with an MS/PhD in engineering, an MBA or at least a PMP in addition to that, and work experience besides. They wanted to pay this person 60k$ a year, plus benefits. No stock options. No 401(k) match. Just over priced company insurance options and the like. That’s 60k$ salary for something that asked for a minimum requirement of 8 years of college education, plus several years of work experience!

          Who in their right mind would take that kind of a job? Not too many US citizens with the background needed for the position. When employers are complaining about a skills mismatch in STEM, you have to look deeper. Many of these businesses are just whining that they can’t get the perfect candidate for slave wages they want to pay compared to the requirements they want.

      2. nothing but the truth

        Almost all engineers work in IT now.

        What is the point of these mechanical and chemical engineers if they will work in IT or MBA?

        I did IT waay back. A couple of years ago a MA econ from LSE was patronizing me about coding some trivial stuff. So i gave him a talk on monetary policy.

        1. Chris

          I have no idea what you’re talking about. Any engineers who I’ve known that graduate with a degree in the primary 4 disciplines did not go into IT. It’s not a scientific sample but that does cover 500+ people I’ve known from undergrad, graduate school, and work. What they do often decide is to go into business. We need them to stay engineers, but all the money and prestige is in project management.

          Petroleum engineers, chemical engineers, mechanical engineers, electrical engineers, and civil engineers are in short supply. The average salaries for those positions reflect that. But the number of people who want to stay in those roles, or qualify for the jobs to begin with is small. I think that’s really where the perception of a shortage is coming from.

  3. nothing but the truth

    The key problem is the rising profit share which can be traced to slower wage than productivity growth.

    I would say the problem is that asset prices are “forced” to rise because everyone has an incentive for them to rise. As long as the bank lends money for the deal, the price will rise.

    But higher principal has to be paid back, and it can only be paid back by reducing the share of the wages.

    That this problem (and the real estate free lunch) started taking off after 1970 makes it clear this is caused by the fiat currency system.

    Fiat money is basically FIRE money, with real estate as collateral. For the money supply to keep increasing, the real estate prices (generally, assets) have to keep increasing. This is why is now well understood that the Fed will backstop any asset price declines.

  4. Susan the other

    Thanks for this post. Very enjoyable to read someone put such a rational analysis to this problem. And so clearly. This, and others like it, could be titled “Austerity, the Neoliberal Nemesis.” Everyone involved in the failing US economy is very worried. I sometimes wonder if they are too late to do anything because the political forces have sensed mortal danger and have all gone nuts. And this whole discussion reminds me of the mini-series Weissensee. It is a saga of East Germany in the last decade or so. Of a dysfunctional government with a lost cause. At the fall of the Berlin wall, East German politics went crazy and the main character, A stasi general and professor with liberal socialist ideas, turns to his son, also now a stasi cheese, and tells him that he always believed in their socialist cause simply because the West had an incurable contradiction at the heart of its economy: profit. Chilling.


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