The Future of Wage Increases in America

The future isn't looking too good for the typical wage earner in America these days. Not surprisingly, wage growth is quite slow right now, but there is also no foreseeable impetus to increase that growth any time soon, unless you're lucky enough to be in a few selected high demand roles (such as for skilled health-care workers and selected technical professionals).

Not only is the labor market in the worst shape in decades, we likely haven't hit bottom yet. In addition, nearly all economists are predicting a painfully slow jobs recovery over the next few years. Of the millions of jobs lost in this recession, the concern among many labor market pundits is that a good chunk of these jobs may never come back (i.e., many of the manufacturing job losses), and of the ones that do, the recovery will be several years in the making.

Back to wage growth though, here's the current situation relative to the pre-recession period: in the first half of 2007, wages were growing at a healthy 3.7% annualized rate. In the first half of 2009, wages increased at a 1.3% annualized rate, and that may well go down as the labor market continues to deteriorate (labor market conditions generally lag overall economic trends, so even though we've hit bottom overall, according to most economists, the labor market probably hasn't yet).

The current (August) national unemployment is at 9.7%, and is expected to bottom in the 10%+ range sometime early next year. That's the good news. IHS Global Insight is predicting that in 2014, the unemployment rate will average 7.6%, which is still well above the unemployment rate before the recession started in late 2007. The predicted molasses-paced recovery will have a major impact on wage growth in the U.S. for the next few years at the least.

Labor market dynamics are a complex brew of many factors, but at its core is the same "supply and demand" that you learned in Econ 101. With labor current market supply quite high and demand very low (and expected to stay weak for the next few years, due to the slow economic growth being projected), the the case for a strong rebound in wages is not in the cards, barring a much more robust recovery than expected.

It is likely that wage growth could be stuck in the 1.5% to 2.5% range for years, or roughly one-half to two-thirds of historical wage growth.

If this predicted scenario plays out, the implications for the typical American wage earner will be profound. It will also have a large impact on employers, who rely on economic growth to fund their pay-for-performance programs. For some ideas on how to address these issues, see fellow Compensation Cafe' blogger Margaret O'Hanlon's recent post on dealing with "tiny" merit budgets, and my earlier post on using your professional creativity in these lean times.

Doug Sayed, SPHR, CCP is founder of Applied HR Strategies Inc., a Seattle area strategic compensation consultancy, and lead author of the StrategicPay Series "Base Pay Toolkit."

Expect a Lengthy Period of Wage "Dis-inflation"

Until this past year, most workers have enjoyed a several-year period of modest "real" (adjusted for inflation) wage growth, as the increase in wage levels have generally outpaced inflation (albeit, by a fairly small margin). That period is now over, and is unlikely to return anytime soon.

With consumer confidence plummeting, business conditions weakening and economic projections declining, we at AHRS expect merit budgets to decrease for 2009, even while inflation continues to increase, creating a "double-whammy" impact on economic value of wage rates.

A few labor force participants in the "hot" skills areas may be able to keep their heads above the inflation water-level, but that's a fairly tiny part of the overall labor force. Experienced technology professionals are the only group that seem capable of staying ahead of inflation right now, with 10% year-over-year job growth and a 2.2% unemployment rate according to recent data (see other post on this topic).

According to its mid-July report, the U.S. Labor Department said the national consumer price index (CPI) surged 1.1% in June, its largest monthly rise since June 1982. On a year-over-year basis, consumer prices grew 5%, the highest rate since May 1991. Many would argue that the 5% official inflation figure greatly understates the impact of inflation on most families, with food, fuel and utility costs rising at a much faster pace than that. Families can forgo the purchase of discretionary items, but no one can escape the soaring costs of basic necessities such as food and gasoline (even if you don't drive, the rising cost of oil is filtering its way into the cost of virtually everything else).

Generally speaking, there is a correlation between inflation rates and pay increase rates, but it's far from a perfect correlation. With many businesses in declining sales and/or profits mode and the labor market weak in nearly all but a few sectors (i.e. tech, health care), there seems no impetus to increase "merit pay" or other pay increase budgets, despite the clearly rising inflation waters.

Typically, inflation occurs because of strong strong economic growth, with more money chasing goods and services than are available at the time, forcing prices to rise. Not this time though, as inflation is being driven by soaring oil and commodity prices, which ultimately extend their reach through nearly all sectors of the economy (except real estate!). Today's inflation, instead of being demand-driven, is more like the "Stagflation" of the early 1980s, when we had high inflation, and slow economic growth.

Expect wage rates to trail inflation for some time.