“Workers are delivering more, and they’re getting a lot less,” argued former Vice President Joe Biden in a speech at the Brookings Institution this summer. “There’s no correlation now between productivity and wages.”
Sen. Elizabeth Warren, a Democratic presidential rival, agrees. Her campaign website states that “wages have largely stagnated,” even though “worker productivity has risen steadily.”
The claim that productivity no longer drives wages is common enough on both the political left as well as the right. Proponents of this view argue that workers aren’t getting what they deserve based on their contributions to employers’ bottom lines.
Income inequality — the gap between the incomes of the rich and everyone else — supposedly demonstrates that the economy’s rewards are flowing, undeservedly, to those at the top. Populists argue that capitalism is fundamentally broken.
If that is what’s happening, it refutes textbook economics, which argues that wages are determined by productivity — by the amount of revenue workers generate for their employers. If a company paid a worker less than her productivity suggests she should be making, then she would go down the street and get a job that would pay her what she’s worth. Employers compete for workers, ensuring that workers’ wages are in line with their productivity.
This theory leaves out a lot, of course. Pay and productivity can diverge for any number of reasons not included in the standard economic model. And changing jobs has its own costs, which in the real world gives employers some power over wages.
For critics of the current system, “some power” is a drastic understatement. In their telling, the decline of labor unions; erosion of the minimum wage; rise of non-compete and no-poaching agreements; inadequate enforcement of workplace standards and the like have dramatically reduced the bargaining power of workers. This has allowed businesses to drive down wages to the bare minimum job applicants and current workers will accept, pushing their pay below what their productivity suggests it should be.
Which view is correct? The latest piece of evidence on this question comes from Stanford University economist Edward P. Lazear, who analyzed data from economies and confirms a strong link between pay and productivity.
Like several previous studies, Lazear’s research finds that low-, middle- and high-wage workers all benefit from growth in average productivity. This suggests that improvements in overall economic efficiency help all workers, not just the rich.
But Lazear argues, correctly, that a relevant issue is not whether workers benefit from changes in average productivity. Instead, if you want to know whether workers are being paid for their productivity, you should look at whether changes in the productivity of workers affect the pay of that specific group.
It is infeasible to measure the productivity of individual workers. (How much revenue per hour of work do I generate for Bloomberg?) So Lazear examines productivity at the industry level, and compares industries that employ highly skilled workers with those that employ lesser-skilled ones.
Using data on the U.S. from 1989 through 2017, Lazear finds that productivity in industries dominated by higher-skilled workers increased by 34 % in that period. The wages of those workers grew by 26% . For industries requiring lesser skills, productivity increased by 20%, while wages grew by 24 %.
So contrary to what Biden, Warren and (many) others say, market forces, not power dynamics, are the principal driver of inequality.
This gets at the heart of the moral properties of the market economy. Capitalism produces unequal outcomes: The wages for some grow faster than for others. Those disparities are palatable if they are caused by differences in risk-taking, work effort and skills. They are tolerable if people are getting, in some sense, what they deserve.
Fortunately, the system doesn’t seem to be broken. It does need to be fine-tuned, however, with the goal of increasing the productivity of the lesser skilled. And we should be confident that if their productivity increases, so will their wages.