Productivity and Compensation: Growing Together

I did not write this, but I wanted to share it! Here is an excerpt:

Compensation Rising with Productivity

Economic theory holds that competition among employers forces them to pay workers according to their productivity. In this sense, the market for labor services operates like any other competitive marketplace in the economy. Businesses that pay their workers less than they produce will see their workforce jump to higher-paying competitors, while businesses that pay their workers more than they produce earn inadequate returns, lose money, or even go bankrupt. As a result, workers’ pay should closely track their productivity over time.

Federal economic statistics confirm this prediction: Employee compensation has largely grown in tandem with labor productivity over the past two generations. Productivity rose 100 percent between 1973 and 2012, while hourly employee compensation rose almost as much—77 percent. As discussed below, measurement problems that inflate reported productivity account for most of the remaining difference. Workers have shared in the gains from higher productivity.


Chart 1 shows compensation and productivity growth over the past 40 years. The y-axis shows a logged index of hourly compensation and productivity, with 1973 as the base year. (In 1973, the trend in productivity growth slowed, and many analysts argue a divergence between pay and productivity began that year.) However, as Chart 2 shows, while productivity has sometimes grown faster than compensation, and vice versa, over time, the two have risen together.

Chart 2 shows average quarterly productivity and compensation growth rates (expressed as annualized rates). Since 1973, productivity has risen at an average annual rate of 1.8 percent. Compensation has grown almost as much, at 1.5 percent. During most business cycles, productivity and compensation growth did not differ by more 0.3 percentage point. Compared properly, productivity and compensation have risen together over the past generation. American workers have earned more as they have become more productive.



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