Workers Get Nothing When They Produce More? Wrong

(Bloomberg View) -- Earlier this year, Bloomberg View ran a series of articles about productivity growth. Productivity -- a measure of the economy’s efficiency -- has been slowing down lately, and there are many different ideas on how to jump-start it. My own suggestions largely revolved around improving on the bright spots of recent years -- skilled immigration and knowledge industry clusters, along with a judicious mix of infrastructure investment, higher urban density and targeted deregulation.

Workers Get Nothing When They Produce More? Wrong

But these suggestions often receive a huge amount of pushback from those who believe that productivity increases don’t benefit the average worker. This argument is powerful because it’s supported by a very clear, simple chart -- a comparison of labor productivity gains versus compensation:

Workers Get Nothing When They Produce More? Wrong

Since the end of World War II, productivity, in terms of economic output per hour, has grown by a factor of five, while compensation has only tripled. Since 1980 the divergence has been especially stark -- productivity has doubled, while compensation has only increased by about 50 percent. For the median, the divide is even more stark than for the average, since wage inequality has risen. Critics of the graph point out that the divergence shrinks when different inflation measures are used, but the uncomfortable fact remains that wages and productivity haven’t moved in lockstep, as many economics theories suggest they should.

It’s easy to look at this divergence -- which has been well-publicized by think tanks such as the Economic Policy Institute -- and think that economic growth is a fool’s errand. If productivity improvements don’t actually get translated into wages, what’s the point of making the economy more efficient? The productivity-compensation divergence graph is often used as a reason to focus exclusively on distribution and forget about growth.

But this would be a mistake. Jumping from the graph above to the conclusion that productivity doesn’t lift wages means falling victim to the most common fallacy of all -- assuming correlation equals causation. It’s perfectly possible that, all else equal, raising productivity does translate to higher wages, but that all else isn’t equal. There could have been countervailing forces holding compensation in check, even as productivity tried to push it up.

This story gets some empirical support from a new study by economists Anna Stansbury and Larry Summers, presented at a recent conference at the Peterson Institute for International Economics. Instead of simply looking at the long-term trend, Stansbury and Summers focus on more short-term changes. They find that there’s a correlation between productivity and wages -- when productivity rises, wages also tend to rise. Jared Bernstein, senior fellow at the Center on Budget and Policy Priorities, checked the results, and found basically the same thing.

This correlation isn’t perfect, as it would be in a simple econ model. But it shows that the link between productivity and wages is far from broken, and that workers haven’t lost all their bargaining power. In other words, it’s wrong to say that raising productivity won’t raise wages -- if history is any guide, it will. So the kind of efficiency improvements being recommended by various economists, as well as by my fellow Bloomberg View writers, shouldn’t be dismissed out of hand; if those solutions work, they’re likely to translate into greater prosperity for workers, even if the result isn’t guaranteed.

So why didn’t wages rise as much as they should have? The reason is there were forces pushing in the other direction. Most important was the increase in wage inequality, which limited gains in the median worker’s pay since the mid-1970s even as average pay continued to climb amid pay increases at the top. Also important was the increase in capital’s share of national income, which sent more money flowing to shareholders, bondholders and landlords, leaving less for workers of all stripes. As for why these things happened, economists continue to debate -- they could be due to technological change, to monopoly power, to trade, to reduced worker bargaining power, or to some combination thereof. Identifying and combating whatever forces are holding wages down should be an important goal of both economics research and public policy.

But importantly, Stansbury and Summers find no correlation between productivity growth and the change in inequality. This implies that there’s no inherent tradeoff here -- policies that raise growth don’t have to cause higher inequality.

So it’s wrong to dismiss ideas about how to raise productivity, efficiency and growth. It does make sense to examine the probable impact of policy proposals on both efficiency and equality -- for example, tax cuts or careless deregulation might give productivity a small fillip while hurting the median worker. But when it comes to ideas like skilled immigration, research spending, urban density, infrastructure, better education and other potential productivity boosters, there’s far more reason for hope than caution. Productivity isn’t the only thing that helps workers, but it’s good anyway. 

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Noah Smith is a Bloomberg View columnist. He was an assistant professor of finance at Stony Brook University, and he blogs at Noahpinion.

To contact the author of this story: Noah Smith at nsmith150@bloomberg.net.

For more columns from Bloomberg View, visit http://www.bloomberg.com/view.

©2017 Bloomberg L.P.