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Wage Decline: No Mystery Whatsoever


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Sep 8, 2005
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Southern California
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Real wage decline has been described as a mystery by many financial analysts. In fact, there's no mystery whatsoever. Current real wage decline is the result of some basic economic factors. The apparent "mystery" is caused by the miscalculation and misapplication of these factors in today's economy. The 1st first factor is the miscalculation of unemployment which distorts true labor force size. This distorts the true supply and demand factors. The 2nd factor is the overestimation of the "sticky wage" effect on today's employment picture.

The calculated unemployment has been kept lower than its true number by statistical chicanery. Under Bush a much greater number of unemployed workers have been re-classified as "not in the labor force." As such, they are not counted as unemployed and their exclusion greatly reduces the alleged unemployment rate. This number has grown twice as fast during Bush's 5 years as it did during Clinton's last 5 years.

More specifically, since Bush took office the number of working age workers "not in the labor force" has increased 7 million. This is in contrast to an increase of only 3.5 million during Clinton's last 5 years. Had the number of workers "not in the labor force" increased at the same rate as they had under Clinton, the true number of unemployed workers would be 10.5 million, instead of 7 million as the Bush administration claims. This increase would result in an unemployment rate of 7.3%, not 5.0% as is currently claimed. (The unemployment rate of 5.0% comes from dividing the alleged 7 million unemployed workers by the total number in the "participating" labor force of 141 million. If 3.5 million more workers are added to the unemployment number, the number of unemployed becomes 10.5 million. Dividing 10.5 million by 144.5 million {141+3.5} gives an unemployment rate of 7.3%)

Below is a chart of the "Not in the Labor Force" numbers.

The Bureau of Labor Statistics link for the "Not in the Labor Force" figures can be found at: BLS

The number of the working age population considered "not in the labor" has increased almost twice as fast as the population growth, as well as the growth of potential workers. The total population increase per year is approximately 1.1%. The same is true for the anticipated growth of the working age population. The same increase would also be expected in the growth of the "participating" labor force. Thus in 5 years the labor force should increase about 5.5%. And those not in the labor force should increase by the same amount.

This was exactly the case during Clinton's last 5 years. During that time, the population considered "not in the labor force" increased from 66.997 million to 70.488 million, or roughly 5.5%. In contrast, the increase in those "not in the labor force" under Bush increased from 70.488 million to 77.028 million, or about 10%. As such, the number of the working age population that allegedly dropped out of the work force under Bush was double that of Clinton's last 5 years. Does this really make any sense, if an economy is "strong, and getting stronger"? Should more people actually be dropping out of the work force?

Obviously a larger pool of workers drives wages down, as an increased "supply" of anything drives "prices" downward. In this case, the "price" is workers' wages. If the increase in workers seeking employment exceeds job growth it puts downward pressure on wages. This is exactly what's happened under Bush. Jobs have been created at a MUCH slower rate than the increase in the size of the labor force. The exclusion of 3.5 million truly unemployed workers from the reported unemployment number has made the calculated unemployment rate deceptively low. This deception has obscured the major source of wage stagnation -- the "supply" of workers is increasing faster than the "demand" for workers.

The effect of "sticky wages" has also been overstated. The general theory is that wages will not decline as fast as the true demand for workers declines. This is attributed to a number of factors, such as labor contracts, unwillingness of workers to accept wage cuts, and unwillingness of employers to risk losing current employees. However, there are a number of reasons why this has less application than previously.

There has been a much greater rate of job turnover than in the past. This causes many employees to be new hires. New hires have much less wage-bargaining power than long-term employees. Simply shifting the balance of employees from long-term hires to new hires reduces the "sticky wage" effect.

There has been a tremendous decline in the influence of labor unions, and their ability to negotiate wage increases for their members. A much smaller percentage of workers are unionized than in the past. In addition, many companies have successfully negotiated wage or benefit reductions with their current employees. This is something that was extremely rare in the past, but has become quite common today. Further bolstering businesses ability to reduce wages is the constant threat of bankruptcy of many businesses, and the complete loss of income if workers don't accept pay cuts.

The threat of job loss to foreign workers has also driven wages downward. Though employers may not directly threaten employees with the outsourcing of their jobs, the implied threat is always present. It has become apparent to most American workers that almost any job can be outsourced, and that workers had better not "price themselves out of the market," and make their company "less competitive." Many workers are completely aware of the ongoing effects of NAFTA and the anticipated effects of CAFTA. Workers are simply tolerating wage reductions at present, when they never would have done so in the past.

Thus, the increased supply of workers to jobs and the diminished effect of "sticky wages" has resulted in real wage decline. There is no mystery here. Wage decline has been caused by simple labor supply & demand effects, coupled with a reduced "sticky wage" effect.

The economy needs balance between the "means of production" & "means of consumption."
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