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business, consumer price index, ECI, Employment Cost Index, Federal Reserve, inflation, Jerome Powell, labor productivity, management, multifactor productivity, productivity, wages, workers, {What's Left of) Our Economy
As known by RealityChek regulars, I’ve pushed back strongly (e.g., here) against claims that today’s historically lofty levels of U.S. inflation have been driven largely or even significantly by wage costs. My main point: However healthy, if the wage increases American workers have gained recently lag behind the overall increase in prices across the entire economy – which has been the case – then how can they deserve much blame?
Even so, one other consideration needs to be added to the mix. It was mentioned by Federal Reserve Chair Jerome Powell in his press conference following the central bank’s announcement of its monetary policy decisions during the December meeting of its Open Market Committee (the partly rotating group of Fed governors that determines short-term interest rates and, more recently, the pace of bond buying or selling).
As Powell stated, the Fed is watching “the risks that persistent real wage growth in excess of productivity [growth] could put upward pressure on inflation.” That’s because when businesses are in situations where wages are rising but their operations are becoming more efficient at a faster rate, they can maintain and even increase profits without passing higher costs on to their customers. When productivity is rising more slowly than inflation, this option isn’t available – or not nearly as readily.
Powell also said that “we don’t see that yet.” But in fact, if you compare one measure of employee pay that he’s been watching closely with the most current measure of productivity growth, that’s exactly what you’ll see – and been happening consistently for two decades.
The pay gauge in question is the Employment Cost Index (ECI) created by the Labor Department. What’s especially useful about it is that is takes into account not only wages and salaries, but the full range of benefits workers receive. This data series goes back to 2001, and if you (1) look at the total compensation figures for all private sector workers (as always, I leave out government workers because their pay is determined largely by politicians’ decisions, not market forces) in pre-inflation terms, then (2) place them side-by-side with the inflation results, and then (3), check these against the Labor Department’s labor productivity results, it’s clear that pay has been rising considerably faster than productivity.
For example, during largely high-inflation 2021, the employment cost index (which is measured quarterly) rose on an annual basis during all four quarters.Yet during the second, third, and fourth quarters of last year, labor productivity by the same yardstick improved more slowly than the ECI. In other words, worker pay was rising faster than productivity.
Nor are these results atypical. In fact, from the first quarter of 2001 through the fourth quarter of last year, the ECI is up 74.12 percent but labor productivity is up jus 47.62 percent.
Another way to look at the subject: Before the fourth quarter ECI and labor productivity results came out (on January 28 and February 3, respectively), I looked at the annual changes in both sets of data for the third quarters of each year going back to 2001. During those 21 third quarters, annual productivity growth lagged annual ECI growth in 15.
It’s important to note that these conclusions don’t automatically justify assuming that worker compensation increases are a major driver of today’s inflation after all, much less that productivity growth’s relatively slow advance is employees’ fault. After all, as just noted, labor productivity has been rising more sluggishly than the ECI for two decades. Inflation didn’t take off until last year. Moreover, the labor productivity number reflects far more than the amount of physical and/or mental effort workers put into their jobs. It’s also a function of how well business owners perform – e.g., in terms of giving their employees the equipment and training they need to do their jobs effectively, and of organizing their companies in ways that maximize performance.
In addition, labor productivity isn’t the only gauge of efficiency monitored by the Labor Department. Multifactor productivity (also known as total factor productivity) is tracked, too. This data series, as its name implies, tries to determine efficiency by examining all the inputs that go into corporate operations – including not just person hours worked, but capital, energy, materials, and all the services that are used to produce goods and, yes, other services.
I haven’t compared the trends in the ECI and multifactor productivity, though, for one big reason: Because it depends on collecting so much more information, the multifactor productivity results come out much more slowly than the labor productivity reports. And the 2021 figures don’t seem to be due out for several months.
Finally, as I’ve also noted (see, e.g., here), most economists believe that productivity is one of the most difficult features of the economic landscape to measure. So the wage and productivity comparisons should be viewed with some non-trivial amount of caution.
Yet if worker compensation is indeed rising faster than productivity, that’s a story that’s unlikely to end well for the U.S. economy. Maybe those multifactor productivity figures – whenever the heck they’re released – will provide some much needed further clarity.
RealityChek 