What’s Stifling Pay Raises Is Also Curbing Economic Growth

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How is it that in this age of technological marvels, from mind-controlled prosthetics to instant machine translation, the American economy is limping through an interminable era of stagnant productivity, tepid economic growth and a sour political mood? Our menu of policy options — including the Republican plan to slash corporate tax rates — is unlikely to help.

Instead, it may be time to rethink how productivity growth works. Nothing would do more to raise future living standards than jump-starting the productivity engine.

Productivity goes up when we find ways to do more with less. Take a factory full of workers, rearrange them and add a powered assembly line, and suddenly you can build vastly more cars a day at far lower cost per car than you could before.

Why is productivity growth so important? It paves the way for higher incomes: You can’t give raises indefinitely unless the value generated by your workers is going up as well. Higher wages are not a foolproof safeguard against destructive politics, but it does become harder to scapegoat various boogeymen, from job-stealing immigrants to the idle poor, when living standards are rising rapidly.

Average output per person per hour grew at roughly 3 percent annually from the end of World War II to 1973, but has since settled at about half that level, excepting a few boom years in the late 1990s and early 2000s (and a blip in 2010). The slump doesn’t just contribute to stagnant incomes; it also means lower economic growth, which makes it more difficult for America to deal with challenges ranging from crumbling infrastructure to growing pension bills to climate change. Few economic problems are more consequential.

Inconveniently, we lack a clear understanding of how to jump-start productivity growth. As best we can tell, productivity rises when economies generate new ideas, and when those new ideas are then transformed by companies into new, growth-boosting ways of doing things. For that reason, our productivity doldrums are increasingly blamed on a failure of genius. As the economist Robert Gordon puts it, our iPhones and our Facebooks, while thoroughly addictive, are not nearly as transformative as electricity or automobiles or flushing toilets.

And yet as time goes on, and advances in robotics, artificial intelligence and bioengineering grow more magical, the notion that unimpressive technology is keeping the digital era from being economically revolutionary becomes ever harder to maintain.

A new story is therefore needed. Perhaps the problem isn’t that we’re out of ideas. Perhaps the problem is that most companies seem happier doing things the old way than taking a risk and trying something new. Perhaps they haven’t been pushed enough to do more with less.

One way to understand the mess we’re in is to think about the price of oil. In the late 1990s, oil was dirt cheap. Consequently, people had little time for energy efficiency: Why bother when gas was a buck a gallon? Americans bought hulking sport-utility vehicles with appalling mileage. As the 2000s wore on, however, oil prices rose, and we began to use oil more purposefully. Households bought smaller cars and found ways to drive fewer miles. Internal combustion engines became far more efficient, and interest in hybrid and electric vehicles rose.

As with oil, the way an economy employs its workers depends in part on what they cost. A company building a warehouse must choose how much of the work done within it should be handled by robots and how much by people. When low-wage jobs attract lots of potential hires, it makes sense to delay the upfront investment needed to automate the warehouse and use regular old humans instead. In the same way, carmakers with factories all over the world use many more robots in Japanese plants than in Indian ones.

History also suggests the price of workers plays an important role in the process of innovation. The Industrial Revolution could not have taken place without the invention of the steam engine, but it took the relatively high cost of labor in Britain to nudge business owners to find clever ways to use steam to cut their labor costs. A century later America, rich in land and resources but short of labor, developed its own style of manufacturing, even more productive than Britain’s, which helped make the United States the world’s richest big economy. Just as expensive oil encourages us to wring more utility out of each gallon of gas, high wages encourage companies to make the most of their work forces — and to make full use of whatever new technologies promise to economize on payroll. It is not the technology which is at fault, but the incentives firms face to use it that are letting us down.

So why should productivity growth have fallen in recent decades? Over the past generation, economic and political change handed companies an expanding tool kit to use to limit worker bargaining power. Faced with workers demanding pay raises, bosses can threaten to outsource jobs to contractors, to move them overseas or to hand the work to a much smaller group of well-paid engineers overseeing teams of robots. As a result, economic growth has contributed very little to the inflation-adjusted wages of workers without a college education — and since the turn of the century, everyone but the top 1 percent of earners. And so companies have felt very little pressure to replace stockers with robots, cashiers with touch-screens and customer-service staff with chatbots. Neither has there been much reason to squeeze more productivity out of workers by investing in training or by finding ways to equip them with new, productivity-enhancing technologies. Today, despite an unemployment rate at just 4.1 percent and fat corporate profits, wage growth remains well below the peak rates of the 1990s and 2000s.

Many cutting-edge innovations remain buggy or more prone to failure than human workers. That is why the lack of wage pressure has been a problem; employers need to be fairly desperate to tinker with raw technologies, and to fail and learn, until new techniques are reliable enough and cheap enough to be adopted widely. Early steam engines were clunky and wildly inefficient, and few people had a good idea how to harness them to boats or looms in a profitable way. But in Britain, the incentives created by expensive labor and cheap coal made it worth the trouble to find out. Tinkering in Britain led to steady improvements, until steam was ready to conquer the world.

If low wages are indeed inhibiting productivity, what can we do about it? A large corporate tax cut is unlikely to help. In an economy in which large firms enjoy market power while workers have none, such cuts will raise stock prices and dividends rather than wages and investment. Big increases in the minimum wage would certainly give companies an incentive to automate, but at the cost of jobs for the most vulnerable workers.

A better strategy would be to shift power from companies to workers, to allow workers to bargain for a bigger share of the gains from growth. Keeping companies from getting too big and too dominant would make a difference by increasing the number of companies competing for workers and the competitive pressure they face to maximize worker output.

Making it easier for workers to unionize would improve productivity, too. A strong labor movement, were one magically to appear, could bargain for higher pay, potentially pushing firms to invest in workers and new technology.

Perhaps most important, we should not allow a low unemployment rate to fool us into thinking that labor is scarce. The Fed should wait for much faster wage growth before taking steps to slow the economy. Governments at all levels should make sure that schools and agencies are fully staffed with qualified workers. And Congress should turn its attention to public investments, rather than counting on tax cuts to motivate private ones. Large-scale infrastructure spending would increase the economy’s growth potential while creating good jobs. So would concerted efforts to make postsecondary education as accessible and affordable as possible.

Big companies would no doubt argue that unions only gum up the works, resist change and eat into the profits that motivate firms to innovate in the first place. That is a risk. But years of falling labor power, stagnant pay and high profits have done nothing to solve America’s productivity problem. Perhaps if companies are compelled to worry more about how to get the most from their workers, they will begin finding new ways to do so.