Compensation Follows Productivity in the U.S. Economy

July 29, 2013

Conventional wisdom holds that worker productivity has risen sharply since the 1970s while worker compensation has stagnated. This belief rests on misinterpreted economic data. Accurate and careful comparisons show that over the past 40 years measured productivity has increased 100 percent and average compensation has risen 77 percent. Inflated productivity measurements account for most of the remaining 23 percentage point difference, says James Sherk, a senior policy analyst in labor economics at the Heritage Foundation.

The claim that pay has lagged far behind productivity growth rests on misinterpreted economic statistics:

  • It examines wage growth instead of total compensation, which includes rapidly growing benefits.
  • It uses different price indexes to adjust pay and productivity for inflation.
  • The claim omits the effect of faster depreciation, which reduces net income but not gross productivity.
  • It ignores known measurement errors in Bureau of Labor Statistics productivity calculations.

This fact has important policy implications. Many policymakers have turned their attention to redistributive economic policies to compensate because they mistakenly believe that employees are destined to no longer enjoy the fruits of their labor, even if the economy returns to full employment. Better policies would focus on measures that enable Americans to become more productive and command higher pay, such as reducing the cost of higher education, or reducing regulatory costs that slow the economic recovery and labor compensation.

Cash wages and salaries make up only part of total employee compensation. Employers also compensate their employees with non-cash benefits, such as health insurance, retirement benefits and paid leave. These "fringe" benefits have become an increasingly large share of employee earnings, in large part because such benefits are typically tax exempt while wage income is taxable (demonstrating the power of tax policy to affect economic decisions).

Looking at total compensation data -- including benefits -- from the same source as the productivity figures and using consistent measures of inflation eliminate over three-quarters of the apparent gap between pay and productivity. Policymakers should not worry about closing this nonexistent gap. Instead they should look for ways to improve the skills of less-productive workers.

Source: James Sherk, "Productivity and Compensation: Growing Together," Heritage Foundation, July 17, 2013.

 

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