Why salaries not rising with companies’ profits?

Have you noticed how your boss seems to be doing quite well, but your own pay is stagnating?

The cost of living is going up, but your wages are not keeping pace?

It is easy to blame the recession, but you may be surprised to hear that the trend for weak wage growth predates it.

The British BBC is trying to explain why salary is not increasing.

“Pay for ordinary workers had flatlined before the current global financial crisis began. (Continue reading the main story)

James Plunkett, of The Resolution Foundation, said: “We saw almost no wage growth for those in the middle-income bracket and below despite the fact that the UK economy grew by 11% in that period”

Basically, little of the economic growth of recent years found its way into the pay packets of ordinary people. A large part of it went into company profits and to the very top earners.

Why This growing pay divide?

Since the 1970s there have been major structural changes in the British economy.

The impact of the globalisation of production and technological advances since that time have combined to radically change the nature of the labour market.

Some jobs have simply vanished, either replaced by machines or outsourced to lower cost countries.

Other jobs have been made much more productive – a financial trader armed with a quick internet connection is able to make a lot more money than one reliant on a telephone and fax machine.

In fact, it is estimated that around 80% of the UK’s wage growth in the last 20 years has been in the finance sector.

Some analysts refer to this as the ‘hollowing out’ of the labour market. The idea is that the old middle-income jobs have gone and what is left are either very highly skilled, highly paid jobs at the top or low skilled, low paid ones at the bottom, like in retail and the care sector.

Throughout the 1980s, a larger share of national income started to flow to those at the top of the earnings ladder as they disproportionately benefited from the increases in productivity brought by globalisation and technology.

Earnings for those at the top rose at a much faster pace than for those in the middle and at the bottom.

From the late 1990s, that trend became even more pronounced, with the top 3% of earners starting to detach themselves from everyone else.

Some argue that these trends alone do not tell the whole story. Technology and globalisation are obviously important factors but other forces are at work, too.

They point to the fact that these wage discrepancies are less marked in other advanced western economies, suggesting that governments can do something to influence them, either through the tax system or through a better minimum wage – or indeed that stronger unions can negotiate better deals for the workforce.

How did we get this False sense of wealth?

The notion that median wages, (the cut-off line between 50% of the population wages) were not growing in the five years running up to the fall of Lehman Brothers may seem odd.

Whilst wages were not going up for many, other factors were mitigating this – house prices were rising, making home owners feel wealthier, credit was easily available and the system of tax credits topped up the income of lower earners.

Yet policy analysts on the centre-right think the generosity of the welfare state encouraged companies to pay less”.

Matt Oakley points to the rise of “in-work benefits” introduced under the last Labour government:

“The tax credit system spanned households with incomes of up to around £55,000 ($87,000), so a large chunk of households were taking tax credits home.

“There’s been some evidence it can have an adverse effect… by giving tax credits, this allows firms to actually pay less wages than it would do otherwise. It acts as a kind of firm subsidy, reducing wages.”

It is important to remember that wages, although very important, are only one part of household incomes. A two-earner couple with children will have an income made up of two sets of wages, child benefit and possible tax credits and interest from savings.

Through the 1980s and 90s, the entry of more women into the labour market was a major driver of household incomes as second wages topped-up family budgets. In the 2000s, the introduction of tax credits did the same.

So the question is  “is there anything else that is going to drive up household income in the next ten years”?

With the tax credit system being scaled back and with childcare costs preventing many women increasing their working hours to boost household income, it may well be that wages will become a more important factor in increasing incomes.

The problem is that they show little sign of growth at the moment.

If the economy does return to growth, one key question is: “who benefits from it? Will it resemble the growth of the 2000s and flow to those at the top and into company profits or will ordinary people get their fair share?”

Without the alleviations of a generous tax credit system, a high increase in the number of two-earner couples or cheap credit, wage growth will be crucial in driving living standards higher.

Note: Related stories The new world of work; Earnings fail to cover inflation; Explore the Analysis archive