Slow wage growth undermines skilled labor shortage notion

For years now, some observers have been predicting a skilled-labor shortage as the labor market tightens. Indeed, there are signs that it’s tightening: the most recent jobs report showed another month of employment gains as nonfarm employment increased by 227,000 in January — the 76th consecutive month of employment growth. Yet a deeper examination reveals that the worker shortage is mostly a myth.

As economists are quick to point out, shortages — when the demand for something exceeds supply — are fleeting as long as prices are free to adjust. When there is a shortage, we expect prices to adjust upwards, which draws in additional supply and eliminates the gap.

With this in mind, a tight labor market should lead to higher wages to entice new workers. Job and unemployment numbers like the ones we’ve been experiencing have historically been accompanied by strong wage growth.

But that’s not what we are seeing today. Average hourly earnings only grew by 2.5 percent over the last year, below many economists’ expectations of 2.8 percent and well below the 3-percent-plus growth common before the 2008 recession.

However, the overall number hides some differences across industries. Hourly wages in the high-skill information services industry increased by 3.9 percent over the last year. In financial activities, another high-skill industry, wages only increased 0.7 percent. The difference between the two industries hardly points to a general shortage of skilled workers.

Other industries have supposedly been beset by worker shortages, too. Some have attributed the large amount of job openings in manufacturing to a shortage of qualified workers. If that’s the case, then employers have an incentive to increase wages to attract additional workers.

But over the last year, average hourly earnings in manufacturing increased 2.9 percent, which is only slightly larger than the overall average increase of 2.5 percent and a full percentage point lower than the increase in earnings in information services.

In short, while wage growth signals a tight labor market in certain industries, like information services, there doesn’t appear to be an economy-wide, skilled-labor shortage putting strong upward pressure on wages.

There are other reasons to doubt the worker-shortage story. For example, if skilled manufacturing workers were relatively scarce, we would expect firms to be luring away competitors’ workers. Yet the amount of voluntary quits in the manufacturing sector is still below its pre-recession level.

Economy-wide, the hiring rate and job turnover rate have been relatively constant since September 2014, and the number of job openings appears to have stabilized at around 5.4 million. Thus, it appears employers are not in any hurry to fill their remaining open positions, or at least they are not yet willing to pay the wages necessary to do so.

Slow worker productivity growth may also be impacting hiring. In 2016, productivity only increased by 0.2 percent, the smallest annual gain over the last five years. Over the last two quarters of 2016, productivity growth improved, but even the most recent annualized increase of 1.1 percent lags the 2.6 percent average annual increase from 2000 to 2007.

Slower productivity growth has a direct impact on labor costs, which increased by 2.7 percent in 2016, the largest jump since 2007. All else being equal, higher labor costs discourage hiring. Employers may be waiting until productivity growth returns to its pre-recession rate before increasing wages and filling remaining openings.

Overall, there is little evidence that a scarcity of workers is currently having a large impact on the labor market. Wage growth remains slow in many industries despite the low unemployment rate and employers appear to be comfortable leaving many positions unfilled.

In the long run, increases in worker productivity are the primary determinant of both wage growth and the demand for workers, and productivity growth has been slow. Without larger gains in worker productivity, overall wage growth, and growth in living standards more broadly, will remain weak.

Adam A. Millsap is a research fellow at the Mercatus Center at George Mason University.

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