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Economics:Where Are the Wages?
New York: March 21, 2005
By John R. Stephenson

The refrain from Washington these days is: "Don't worry, be happy" but there seems to be ample evidence that the jobs picture might be far more challenging than we are being led to believe. If you are one of those fortunate enough to be working, you may have noticed that raises are a little harder to come by these days. While inflation clocked in at 3.0% over the past twelve months, the average hourly earnings failed to keep pace and recorded a mere 2.5% increase over the same period - this at a time when productivity nationally is running at a 3.1% annual average growth rate (up from 1.6% during 1990-1995). We are witnessing real wage stagnation across the country.

Not only is wage growth almost non-existent, but hiring is largely concentrated in the lower end of the wage spectrum. The industries that have been responsible for the majority of the hiring (total hiring of 2.2 million workers) over the past year include: administration and waste services (385,000 hires), health care and social assistance (332,000 hires), construction and real estate (321,000 hires) and restaurants (257,000 hires). Collectively, these four industry groupings, which represent some 36 percent of overall U.S. employment, have accounted for 60 percent of the total growth in private sector hiring during the most recent 12-month period. With wages no higher today on an inflation-adjusted basis than they were in November 2001 and with hiring more concentrated in lower paying jobs, one wonders if the consumer can continue to spend?

Not only is the hiring predominated in the lower wage categories but also the majority of the downward wage pressure seems concentrated amongst white-collar workers. This is a phenomenon never previously witnessed in past economic "recoveries". An examination of the Employment Cost Index (a monthly labor market basket of statistics) reveals that over the 12 months ending December 2004, wage increases for white-collar workers slowed to 2.5% from 3.4% in the previous year. Wage increases in the services sector slowed to 2.4% during 2004 down from 3.3% in 2003. Over the last two years, wage gains in the largely blue-collar oriented occupations such as goods-producing industries while not great, has remained constant at 2.4%. So just why are we witnessing such a marked downturn in both wages and hiring amongst white-collar office workers?

The answer seems to be globalization. In a world where both tradable goods and an increasingly broad array of once non-tradable services can now be sourced from anywhere in the world, is it any wonder that the service sector is under pressure? With low cost labor countries such as China, which supply low cost goods globally, and India, which acts as the world's back office, is it surprising that the once sacrosanct and protected services industry is bearing the brunt of global competition this time around? It is really quite obvious what is happening - why pay up for a call center employee or software programmer when you can get the same functionality at a tenth of the price from Delhi. Better still, you can reduce the corporate overhead associated with health care and social security expenditures while at the same time having a virtual workforce who can complete the work while you sleep.

With American business still under considerable pressure from an onslaught of inexpensive foreign made products, it seems unlikely that wage increases are anything but a secondary concern for management. As cost cutting continues to supplant expansion as a corporate priority, increasing waves of outsourcing should continue. The likely result? Continued wage stagnation.

Couple wage stagnation with an economy that is dependent on consumption (two-thirds of all U.S. economic activity is consumption oriented) and you have the makings of a potential problem. For starters, the current stagflation in wages keeps the American consumption engine under considerable pressure. Over the first 38 months of this economic recovery, wages and salaries are up just 5% in real terms (inflation adjusted) versus a 14% average gain during the previous five cycles. If hiring increases but wages remain stagnant, then consumption will remain dependent on asset-based spending (using your home as an ATM) rather than on labor or employment based spending. The problem is further compounded when you realize that the average consumer saves virtually nothing and continues to spend in the face of an employment and wage picture that is hazy at best.

Figure 1: Business Savings Soar - While Consumers Savings Plummet

Over the last few years, our standard of living has been predicated on the willingness of foreign governments to support our lifestyle in the form of a peculiar type of vendor finance program whereby they supply us with low cost goods and services and we give them deflated paper assets (treasury bonds) in return. With wages stagnant and hiring focused more on the lower end of the wage spectrum, there is little likelihood that labor income growth will supplant the current account deficit (exports minus imports) as the principal mechanism for financing our lifestyle.

In spite of the challenges of the enormous budget deficit coupled with the enormous current account deficit, we have managed to limp along. Alan Greenspan, the Chairman of the U.S. Federal Reserve (central bank), has suggested that we can have an orderly rebalancing of the world's economic imbalances. This line of reasoning is based in part upon the transition of the U.S. from a society reliant on asset appreciation for continued consumption to a society focused on savings and investment. With the U.S. morphing from jobless to wageless, this scenario looks increasingly dubious.

Investors should continue to emphasize investments in tangible items such as commodities and commodity producers and avoid investments in technology or consumer discretionary sectors.

Figure 2: U.S. Current Account Deficit

Source: M. Murenbeeld and Associates


Figure 3: Portfolio Weightings

Source: UBS


StephensonFiles is a division of Stephenson & Company Inc. an investment research and asset management firm which publishes research reports and commentary from time to time on securities and trends in the marketplace. The opinions and information contained herein are based upon sources which we believe to be reliable, but Stephenson & Company makes no representation as to their timeliness, accuracy or completeness. Mr. Stephenson writes a regular commentary on the markets and individual securities and the opinions expressed in this commentary are his own. This report is not an offer to sell or a solicitation of an offer to buy any security. Nothing in this article constitutes individual investment, legal or tax advice. Investments involve risk and an investor may incur profits and losses. We, our affiliates, and any officer, director or stockholder or any member of their families may have a position in and may from time to time purchase or sell any securities discussed in our articles. At the time of writing this article, Mr. Stephenson may or may not have had an investment position in the securities mentioned in this article
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