The Economy's Good News: The Upside of Downsizing

Policy Backgrounders | Economy

No. 146
Wednesday, February 25, 1998
by W. Michael Cox & Richard Alm


1For America's economy, these are the best of times. Growth is strong. Inflation is tame. Robust job creation has pushed employment to a record 130 million. Unemployment has fallen below 5 percent, reaching lows not seen in a quarter-century. Productivity is showing solid gains. The stock market stands at record heights. Consumer confidence is buoyant. Just about every indicator of economic performance shows that the United States is hurtling toward the 21st century in fine shape, the "downsizing" crisis of the early 1990s fading away.

"The 72,193 layoffs announced in January 1998 was the highest monthly total in two years."

Yet every week or so there's a reminder that some American workers still face hard times. Even during the seventh year of this expansion, layoffs regularly shake the labor market. In 1997 and early 1998, Fortune 500 companies cut 120,700 jobs. There were 19,000 cuts at AT&T, 16,600 at Eastman Kodak, 12,000 at Boeing and 15,000 at United Parcel Service [see Table I].2

The outplacement firm Challenger, Gray & Christmas, Inc., which tracks corporate layoff plans, reports that job-cut announcements in the fourth quarter of 1997, at 152,854, were up 33 percent over their year-earlier level. The January 1998 total of 72,193 was the highest monthly number in two years.

Table I - Major Corporate Layoffs in 1997 and January 1998

"Today's job cutting shows that prosperous times do not eliminate downsizing."

Today's layoffs are smaller than the ones of just a few years ago, when the reports of lost jobs included 74,000 at General Motors, 60,000 at IBM, 50,000 at Sears and 40,000 at AT&T. A U.S. Department of Labor survey found that companies dismissed 17.4 million workers between 1990 and 1995.3 Even so, today's job cutting is enough to show that prosperous times do not eliminate downsizing. Americans seem to understand this. A recent survey by Princeton Survey Research Associates (PSRA) for USA Today and the Public Broadcasting System found that downsizing and restructuring have left workers feeling insecure.4

  • Seventy percent of workers surveyed by PSRA said they have less job security than 20 or 30 years ago.
  • Sixty-one percent of respondents blamed corporate mergers and downsizings for holding wages down.

Our instinct is to interpret job losses as a sign of failure - something wrong with the system or with us. To some people, downsizing signifies a breakdown in the loyalty that once held company and worker together. To others, it signifies personal defeat, a verdict that we, as workers, are no longer valuable human resources. Viewing layoffs as a malfunction, some of capitalism's critics go as far as to propose that government reward "good" companies that do not cut jobs and punish "bad" ones that do with taxes, sanctions and regulations.

Yet job losses are less harmful than they are often thought to be. To the contrary, the upside of downsizing lies in a reinvigorated economy. Indeed, the layoffs of the early 1990s can teach important lessons about how the economy operates to turn the bad news of lost jobs into the good news of higher living standards.

Upside: Laid-off Workers Get New Jobs. Layoffs aren't a sign of failure - not for the economy, not even for most workers. No doubt job losses hurt American workers and their families in the short term. But contrary to what is commonly assumed, most of these workers are rapidly reemployed, finding jobs as good as or better than those they lost. Downsizing cannot be understood apart from a broader view of the economy's health. More often than not, labor force turnover reflects positive market forces at work. Companies develop new or cheaper products, entrepreneurs pursue opportunities, factories and offices become more productive. In the process, new jobs inevitably replace old ones. The economy grows through a relentless process of turmoil, a continuous "churn" that economist Joseph Schumpeter called creative destruction. One of the great ironies of a free enterprise system is that the bad news of job losses is part and parcel of the good news of rising living standards.

"Job openings average 525,000 a month, more than double the typical growth of the labor force."

No one can guarantee that every displaced worker will readily find a good-paying job, but for most workers in the United States unemployment is brief. Job openings average roughly 525,000 per month, more than double the typical monthly growth of the labor force.5 Half of those who lose their jobs find another within six to eight weeks, two-thirds within 14 weeks and seven-eighths within six months. Recent studies show that most workers replace their old job with a new one that pays as well or better.6

Upside: Worker Incomes are Higher. Former Secretary of Labor Robert Reich and others have made much of the fact that average and median wages have increased little during the current economic expansion - while corporate profits, the pay of chief executives and stock prices have risen to record levels.7 However, the perception that average workers are not sharing in rising prosperity is wrong. For example:

  • From 1974 through 1993, per capita real personal income increased an average of 1.4 percent a year.
  • Real total compensation, which includes wages and benefits, rose about half a percentage point a year.8

The reason the good news is not reflected in wage rates is, in part, due to a long-term trend in workers' compensation: the percentage of the total compensation received by employees in the form of nonwage benefits - such as health care, payments for time not worked and pensions - has been increasing for more than 40 years. Employee benefits have grown from less than 19 percent of payroll in 1951 to nearly 42 percent today.9

Workers have preferred to take more of their compensation in nonwage benefits rather than wage income because benefits are often untaxed or taxed at a substantially lower rate than wage income. Thus workers value $1 worth of benefits more than $1 worth of wages. This is confirmed by the PSRA survey: when asked if they would rather have a pay raise or keep their benefits unchanged, 62 percent of workers said they would rather keep the benefits, while only 34 percent said they would take the raise.10

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