Month: September 2023

Labor Productivity

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September 24, 2023

by Stephen Stofka

This week’s letter is about labor productivity. The autoworker’s union (UAW) expanded its strike to 38 parts and distribution plants in the hopes that a wider impact will incentivize further concessions from auto executives. Labor constitutes only 10-15% of the price of a car yet labor disputes may give the impression that rising car prices are entirely or mostly the fault of labor union demand.

For more than 100 years, auto plants of the Big Three automakers have been union shops. Foreign manufacturers like Toyota and Honda have built non-union plants in southern states where union organizers have less influence with policymakers. There are almost a million auto workers now in Mexico where wages have been lower. In 2022, GM Mexico paid its workers between $9.15 and $33.74 an hour, but relatively few auto workers in Mexico make more than $16 per hour.

Two weeks ago, the BLS released their productivity figures for the second quarter. Productivity rose faster than labor costs by a good margin – notching a 3.5% annualized gain versus a 2.2% increase in unit labor costs. The manufacturing sector that car manufacturers belong to had a lower productivity gain of 2.9%. In that productivity release the BLS provided a chart grouping productivity gains by decade. The 75-year average is a 2.1% annual growth rate.

An often repeated theme of union workers and workers in general is that wage gains have not kept up with productivity gains. The BLS charted both series since 1973 and the divergence keeps growing by decade. American workers are competing with lower wage workers in Mexico, China and southeast Asia.

The annual gain in Productivity is erratic, rising sharply at the onset of recessions when workers are let go and the total hours worked declines. Recessions reduce the percentage of hours worked far more than the percentage reduction in output. I charted the annual gain in Labor Productivity (FRED Series OPHNFB) to show the effect of these shocks. The pandemic caused a particularly sharp rise and fall, as shown in the red rectangle below.

A five-year chart smooths out the divergences, letting us see the patterns more clearly. The red line in the graph below is the 1.5% current growth rate.

Trends in productivity growth are a medium term process, longer than any Presidential term. Despite that, candidates promise big productivity gains if they are elected. Republican candidates promise that lower taxes will boost productivity because that claim appeals to Republican voters. When productivity growth declined following the Bush tax cuts in 2001, conservatives blamed the stifling effects of regulatory compliance and called for more tax cuts. Democratic politicians promise more subsidies to an industry that is not nimble enough to respond to changing economic circumstances.

There are many factors that contribute to productivity growth. Some economists claimed that lower interest rates after the financial crisis would raise productivity. It fell. Those believers assert that declining productivity growth would have been worse without lower interest rates. This claim also cannot be disproved. Hypothetical situations are the favorite shield of a believer.

Corporate profits are up sharply since the start of the pandemic. For the past year, GM has enjoyed strong profit growth but they have had far too many down quarters since the financial crisis. Ford has fared better but its profit margin of 2.4% is only slightly more than the high-volume, low margin grocery giant Kroger. Stellantis has struggled to make a profit since 2018. For decades, federal and state governments have subsidized these auto giants with tax breaks and loans because the industry as a whole employs 1.7 million workers and contributes more than 10% to GDP. It is an industry where politics and economics are tightly intertwined. The politics clouds the economic analysis and the economics contorts the political calculations.

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Photo by carlos aranda on Unsplash

Keywords: auto industry, GM, Ford, Stellantis, union, UAW, labor, workers, wages

The Power in Our Pockets

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September 17, 2023

by Stephen Stofka

This week’s letter is about wages and income and the real purchasing power in our pockets. The auto workers’ union (UAW) went on strike limited to three auto plants while they continued negotiations with the auto companies. Nurses at Kaiser Permanente have voted to go out on strike by September 30th if they cannot resolve outstanding differences with Kaiser’s management. Executive compensation at the auto companies is now more than 300 times the average worker’s pay, the UAW points out, claiming that workers have as much right to share in the profits as executives and shareholders.

Legislation passed after the financial crisis required that publicly held companies report their CEO-to-Worker pay ratios. A recent analysis of companies in the SP500 estimated a pay ratio of 272-1 in 2022. The auto industry is part of the consumer cyclical industry, whose median executive compensation in 2021 was $13.7 million, as reported by Equilar. In 1965, the pay ratio was approximately 20-1. In the 1980s, the Reagan administration adopted a relaxed regulatory stance to corporate mergers and companies have grown much larger in the past decades. The pay ratio, however, has grown out of all proportion to the growth in corporate size.

A combination of factors contribute to high relative CEO pay. Thomas Greckhamer (2015) identified six paths – configurations of various factors – that are present in countries with high CEO pay and those without high CEO pay. He found that the relative pay of CEOs is high in countries where equity markets are well developed and highly liquid. Ownership is widely dispersed so that the CEO enjoys more power relative to stock owners and can negotiate higher compensation packages. CEOs do not have high relative pay in high welfare states where there are strong worker rights. A cultural acceptance of inequality and hierarchical authority, termed “power distance” by Geert Hofstede in 1980, contribute to high relative CEO pay. Here is a quick explainer. As a comparative example, the power distance factor in the American culture is low, half that of Mexico.  

Companies today derive their revenue and profits globally. For that reason it is not accurate to divide corporate profits by the number of employees in the U.S. I am going to do it anyway just to show the profound change that has taken place since the 1970s, a benchmark decade often cited as the beginning of growing inequality in the pay ratio. In the chart below I have adjusted after-tax corporate profits (FRED Series CP) for inflation, then divided that by the number of employees reported by the BLS (FRED Series PAYEMS). The trend is more important than the actual figures. Even though the 2010s were relatively flat the level of profits per employee was about double the level of the 1990s. Let’s compare that to worker incomes.

Since 1992, median household income adjusted for inflation has risen 23%, a level that is far below the rise in profits per worker. The chart below shows the gain on a log scale. Real incomes have gained less than 1% per year.

A few weeks ago I proposed adjusting prices by a broad index of house prices instead of the CPI. Two-thirds of American households own their home and home values reflect the discounted flow of housing services that we get from a home during our lifetimes. Housing costs are already almost half of the CPI and trends in home prices capture the feel of inflation on household budgets more accurately than the many CPI measures economists currently use.

During the 1980s and 1990s, housing prices increased 4% annually. The chart below describes the median household income adjusted by the all-transactions home price index (FRED Series USSTHPI). Notice that household incomes during those two decades stayed on an even keel.

Had the Fed structured their monetary policy to keep home price growth at the same level as the 1980s and 1990s, real incomes would be near the level of the green line, 10% higher today. Instead, workers feel as though they are on the path of the red line, regardless of what official measures of real household income indicate. The red line reflects a sense of discomfort and tension in many American households that plays out in our politics. The trend began with housing and finance policies enacted by both parties in Congress across five Presidential administrations.  

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Photo by Charles Chen on Unsplash

Keywords: home prices, labor unions, wages, income, household income

Greckhamer, T. (2015). CEO compensation in relation to worker compensation across countries: The configurational impact of country-level institutions. Strategic Management Journal, 37(4), 793–815. https://doi.org/10.1002/smj.2370

Historic Employment Boom

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September 10, 2023

by Stephen Stofka

This week’s letter is about the mix of full-time and part-time workers and what it tells us about the economy. Although unemployment remains below 4%, it rose slightly, according to the most recent unemployment report. This was a good sign, however, because much of that increase was due to formerly discouraged people returning to the labor force and looking for a job. This economy is producing historic employment numbers. Let’s dig in.

I’ll be looking at ratios of workers to the working age population so I’ll discuss that briefly before heading into the data. The Bureau of Labor Statistics now defines the working age population as someone 16 years and older. According to that definition, a 90 year old person is working age. The U.S. is part of the OECD group of developed countries, which uses a more traditional definition of the working age population as 15 to 64.  I am going to use the OECD definition to make historic comparisons more accurate. Two-thirds of this working age population is employed full or part time.

The percent of working age people who are employed full time – the red line in the chart below – is about 64%, a historic high that has eclipsed the economic boom of the late 1990s.

Only 2% of working age people are working part time.

The ratio of full-time workers to part-time workers reveals the strength of the economy. When it is high, employers have the confidence to commit resources to full-time workers, including better benefit packages. Workers have more bargaining power. The chart below shows the peaks in that ratio since the 1960s. A rise in investment accompanied each period. Defense spending led the surge in the 1960s. Investment in technology was a major driver of emploment growth in the 1990s. Spending on infrastructure has been a key driver of growth since the pandemic.

In the post-pandemic recovery, employers have sharply increased wages to fill positions, as shown below by the Atlanta Fed’s wage growth tracker. The decrease in wage growth during the past year is more typical of recessions but without a recession. In the chart below, note that today’s wage growth is one percent higher than the peak during the strong labor market of the late 1990s.   

The greater the number of full-time workers, the more the federal government receives in FICA taxes, reducing the yearly deficit in the Social Security Trust Funds. Since the early 1980s, income tax rates have been indexed to inflation but social security taxes have not. Only the earnings subject to social security, the earnings cap, is indexed. According to the latest Trustees report, the drain on the trust fund last year was $22 billion, less than 1% of the $2.8 trillion fund, but a drain, nevertheless. The first of the historically large Boomer generation were eligible for retirement almost a decade ago. The last of that generation will be eligible for retirement in eight years. The era of annual surpluses in the trust funds is over. During the past decade, outlays increased at a 4.5% annual pace while tax collections increased at a 5.3% rate. This was a welcome change of pace from the previous decade 2003 through 2012 when social security tax collections grew at only 3.6% annually, while outlays grew at a 5.4% rate.

The financial crisis had a deep negative impact on the trust funds and the current estimate is that the trust funds will be depleted in 2034. After that date, retirees will not receive full benefits without some legislation to provide additional funding. In 1990, the trustees estimated a depletion date of 2043, almost nine years later than today’s estimate. These long-range forecasts necessitate many assumptions about economic growth and benefits and such forecasts cannot anticipate outlier events like the financial crisis. There is a lot of catching up to do. We need all the boom we can get.

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Photo by bruce mars on Unsplash

Keywords: social security, taxes, employment, wages

Note: In the past twenty years, the number of working Americans who are older than 65 has jumped from four million to 11 million, or 6.5% of the labor force.

The Protected

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September 3, 2023

by Stephen Stofka

This week’s letter examines the proliferation of lawyers in America and how they are reducing our economic productivity. In grade school civics class, we were taught that America is a nation of laws; that no one is above the law. Since the 1960s we have become a nation of competing rights, not laws. An army of lawyers stands ready to argue the cause of any business or advocacy group with access to sufficient funds. Those who can afford the legal bills can lengthen legal proceedings against them for a decade or more. Conflicts over land use hamper infrastructure projects and housing reform.

In 2018, Steven Brill, author of Tailspin and many other books, wrote an article in Time magazine titled “How Baby Boomers Broke America.” Brill is a Yale educated lawyer who founded Court TV several decades ago. Brill noted that the best and brightest among us, particularly those in the financial and legal professions, have become part of a protected class. They are shielded from the laws that govern the rest of us, the unprotected class. The professional class claims to have the public’s best interest at heart but it often acts to protect itself first at the expense of the public interest and social mobility.   

In 1951 there were 220,000 lawyers for 155 million people in America, according to the American Bar Association (ABA). That represented a ratio of one lawyer to 700 people. is  In the 1960s and 1970s, Congress passed much social and environmental legislation that left the actual rulemaking up to lawyers at federal and state agencies. During the 1970s, businesses hired many lawyers to thwart the impact of this new legislation. By 1984, the number of lawyers had tripled to 664,000 for a population of 237 million, a ratio of one lawyer to 357 Americans. In an annual address to the ABA that year, Chief Justice Warren Burger remarked on this worrisome trend, warning that society would be overrun by hordes of lawyers. By 2018, there were 1.1 million lawyers for 315 million people in America, the highest number of lawyers per capita in the world. Just five years later, there are now 1.3 million lawyers, a ratio of one lawyer for 255 people.

With the advent of Johnson’s Great Society and the Environmental Protection Act in the 1960s, the burden of regulation grew heavy. Large companies hired lawyers to discover and develop loopholes that created a legal safe harbor from the regulatory machine. Burdened by regulation, smaller companies became less efficient, making them less competitive. Wage gains which might have gone to workers now went to accountants, lawyers, government and insurance fees to protect business owners from the fines and liabilities of the new regulations. Larger companies, able to wield more legal power per dollar of revenue, absorbed their smaller competitors, giving larger companies greater pricing power.

In 2021, the American Bar Association listed 175 members of Congress with law degrees, a third of the 535 members of the House and Senate. By design, bargaining or incompetence Congress writes laws in imprecise language, leaving it up to the legal staff of executive agencies and the courts to determine what Congress meant. There is a public outcry against rule by unelected bureaucrats and judges but in an evenly divided electorate, those unelected officials protect the minority of 49 from the abuses of the majority 51. Computer algorithms enable a slim majority in a state to gerrymander voting districts to give one party representative power that enfeebles the 49% who belong to the other party. Those who control the democratic process control the power.

The growing adoption of computer technology in the late 1980s inspired the hope that automation would reduce the need for lawyers. Instead, compliance and regulatory work has increased each year. A 2017 CNBC article speculated that Artifical Intelligence (AI) might replace lawyers. Its doubtful that lawyers would allow that to happen. They write the rules that protect them from the rules, including the rule of competition. John Dingell, former Congressman from Michigan, once said “If I let you write the substance and you let me write the procedure, I’ll screw you every time.” Like an infestation of grasshoppers in a field of plants, too many lawyers diminish the productive vitality of our economy.

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Photo by Wesley Tingey on Unsplash

Keywords: finance, law, lawyers, regulations