Chapter 6 – Functional Income Distribution
Labor Income and Property Income (continued)
Inequality in Incomes: Private-sector income – by definition this excludes transfer payments, but includes capital gains.
1986 lowest 1st 1%
With the increase in women joining the workforce, we need to look at median family income.
Excellent Publication: Measuring 50 years of Economic Change using the March Current Population Survey (data to 1997) http://www.census.gov/hhes/income/chartbk.html.
Current Population Survey – prepared annually. Income in the current population survey includes earnings, unemployment, pension & retirement payments, social security, interest, dividends, other income. Does not include capital gains. Analysts also point out that these figures overstate inequality because they do not include food stamps, health benefits, rent-free housing, etc.
% Income from Current Population Survey by Quintile
Quintile 1st 2nd 3rd 4th 5th Top 5%
1967 4.0 10.8 17.3 24.2 43.8 17.5
1977 4.4 10.3 17.0 24.8 43.6 16.1
1987 3.8 9.6 16.1 24.3 46.2 18.2
1997 3.6 8.9 15.0 23.2 49.4 21.7
2001 3.5 8.7 14.6 23.0 50.1 22.4
The concentration of income seems to have peaked in 1993 and has been unchanged since then.
Wealth is more unevenly distributed than income.
Latest wealth distribution figures – 1998:
% Population Cumulative % Cumulative Wealth % Stock Owned
Top 0.5% 0.5% 25.6% 37.0
Next 0.5% 1.0% 34.0% 47.7
Next 4.0% 5.0% 57.4% 74.9
Next 5.0% 10.0% 68.8% 86.2
The distribution of wealth is only slightly less concentrated than in 1983, and the major cause of this reduction is the increase in home ownership and home prices. The high concentration of stock ownership in a few persons may explain why the huge decline in the stock market has not yet had a profound effect on the US business cycle.
Results of Long term Changes:
Reversed in 1990’s, also as a result of increased investment in equipment and software.
Average Annual Increase in Productivity
1991-1995 1.52 productivity began to increase again in 1990’s
1996-2000 2.48 A huge jump! Average y/y%
Show productivity worksheet.
Show unemployment worksheet
Show real wages worksheet.
Problems with Data:
Definitions: We will be talking about all variables in real terms, so we will use the lower case for the variable definitions.
includes wages, salaries, bonuses, fringe benefits and commissions
includes proprietors income, corporate profits, rent and interest
Two Forms of Labor Share Equations:
Figures 5.4 and 6.1. We are working with w/y + p/y = 1 form of equation.
Real Labor Income
Fig 6.2 – We are working with the w/y = (w/n) / (y/n) form of the equation.
Question: Why would real hourly wages begin to rise in the late stages of contraction?
· These downturns were not severe.
· The effects of inflation on real hourly wages.
Fig. 6.3 Cyclical Behavior of Unemployment and Capacity Utilization.
The only surprising points are 1. that the unemployment goes up much faster in contraction than it goes down in expansion and 2. capacity utilization went down in contraction faster than it went up in expansions. Both of these are due to the long-term trend to higher unemployment and less capacity utilization during this period (1970-1991).
1. Wage lag hypothesis -- Real wages lag real national income in both expansions and contractions so the labor share falls in expansions and rises in contractions. There are two parts to this hypothesis:
· Institutions and relations in our private enterprise economy make it difficult for real wages to keep up with productivity increases in an expansion, but it is easier to maintain real wages when productivity is falling. Productivity rises faster in an expansion than hourly wages so the labor share declines in expansions. Productivity declines faster than wages in a contraction so the share of labor rises in a contraction.
Put in forms of our equation: w/y = (w/n)/(y/n)
Institutional and Relational
· Wage lag theory emphasizes affect of output and capacity utilization on productivity. In expansions more capacity is used, productivity rises and labor share declines. In contractions, less capacity is used, productivity declines and labor share rises.
§ Labor share¯ = output
§ Labor share ¯ = capacity utilization
Definition -- Overhead includes all the workers activities that contribute to production but are not direct labor.
As an expansion continues, unemployment declines, employee bargaining power increases (it is easier for employees to find equivalent new jobs and it is difficult for employers to find qualified new employees). Therefore, the rate of increase in productivity declines and real labor rates rise resulting in rising labor share.
As a contraction continues, unemployment rises, employee bargaining power declines (it is easier for employers to find qualified new employees and it is difficult for employees to find equivalent new jobs). Therefore, the rate of increase in productivity increases and real labor rates decline resulting in the labor share declining.
However, the labor share does not increase (or decline) over the entire expansion (or contraction). We have seen this empirically. The unemployment hypothesis postulate a lag effect so that the labor share rises only in late expansion, and the labor share declines only in late contraction. Employees remember the recession during the first half of the expansion, and they remember the boom in the first half of the contraction. Ray Boddy, at SDSU, is a leading unemployment hypothesis theorist.
Labor share as unemployment ¯
Labor share ¯ as unemployment
With a time lag.
Empirically, the unemployment hypothesis does not well over business cycles (the short-term). We do not always see an increase in the labor share in the second half of an expansion. The unemployment hypothesis test much better over the long-term.
Labor share = w/y = w/y1(capacity utilization) + w/y2(unemployment)
Unemployment acts with a significant time lag. Note the pattern that emerges. Unemployment acts in the late stages of both expansion and contraction, and acts in the opposite direction of the capacity utilization.
Let’s summarize these influences by cycle phase (we will have to understand all the factors and how they interact):
· capacity utilization rises rapidly
· productivity rises rapidly (part because of technology, but mostly because of better capacity utilization and more absorption of overhead)
· nominal and real wage rates rise but more slowly than productivity (because wage contracts are fixed at old levels)
· unemployment is declining but has no immediate effect (it has not had time to act -- the time lag issue).
· therefore, the labor share declines.
· capacity utilization is now rising much more slowly
· productivity is rising much more slowly (because of a better bargaining position for labor and the easy gains from overhead absorption have been made)
· nominal wages are increasing, sluggishly, because labor’s bargaining power is increasing, but real rates may slowly increase or even decline as inflation may be rising
· unemployment is declining more rapidly -- unemployment has had time to act with its time lag
· therefore, the labor share is relatively stagnant or may even begin to rise
Crisis (Early Contraction):
· capacity utilization is now falling
· productivity is rapidly declining (probably because employers are trying to hold on to skilled labor despite the downturn and overhead absorption drops)
· nominal and real wage rates do not decline because of contracts and labor’s resistance to wage cuts
· unemployment is rising (but has not had time to act – the time lag issue). therefore, the labor share rises rapidly
Depression (Late Contraction):
The empirical results summarized on page 127 are typical of econometric tests. The statistical significance of a particular variable often depends on the group of variables being tested. You must have sound theory to guide the setup of the statistical test.