Financially Squeezed Workers Impede Economy's Growth

It's perfect for one of those 'you know you're in trouble when...' jokes that stand-up comics often use.

So here's one for all the economists gathered at the annual Federal Reserve confab in Jackson Hole, with a special shout-out to all the austerity fans in the audience: You know you're in trouble when 70% of your economy is driven by consumer spending but employee compensation as a share of gross domestic income is the lowest it's been in 52 years. Baddabing...

Too bad it's not a joke.

The harsh reality is that the US and Europe continue to flounder precisely because they dismissed the importance of the consumer. As we try to adapt to what we thought was going to be the relative ease of the post-industrial economy (no nasty and dangerous factories, no physically demanding tasks, ample pay for stimulating and satisfying work), we continue to exemplify Winston Churchill's line about choices: "Americans can always be counted on to do the right thing...after they have exhausted all the other possibilities."

Selling real estate to each other? Ask Ireland, Spain, the UK and the US about that strategy. The internet changes everything? Um, yeah, but maybe not the way you meant it. Financialize everything so we can all trade securities with each other without ever having to connect with the economy that produces actual results represented by the pieces of paper being traded? Yup, that worked really well - for SOME bankers.

The problem is that by driving compensation to the lowest levels in two generations, we have starved the economy of the demand it requires. A few people made lots of money and with it they were able to buy the compliance of politicians and regulators. But the system was inherently unsustainable precisely because so many were denied so much.

It is somewhat startling that this has even risen to the level of a story in the Wall Street Journal, the leading megaphone for financialization. The evidence has been in for a long time. Years, in fact. But perhaps this is good news. Because it may signal that even those who have benefited from the financial economy are starting to feel the pinch. And that may, finally, stimulate the change necessary to get the economy moving again. JL

Justin Lahart reports in the Wall Street Journal:

U.S. workers' immediate problem is that the U.S. economy isn't expanding fast enough. Over the longer haul the bigger problem is that they aren't seeing as much of the economy turn up in their paychecks as they used to.
Gross domestic product expanded at an annual rate of 1.7% in the second quarter, the Commerce Department said Wednesday, a snick higher than the 1.5% it originally reported a month ago but still too low to generate the sort of job growth necessary to keep bringing the unemployment rate lower. Economists' forecasts point to little pickup in the second half.

The Commerce Department's report also showed compensation—wages and salaries, along with the money employers contribute to things like insurance and pensions—rose at a slightly faster clip than the economy, increasing at a 2.4% rate. But historically speaking, people aren't getting paid much for their efforts at all.

Compensation in the second quarter accounted for 55% of gross domestic income (a GDP equivalent that is the sum of U.S. profits, wages and other sources of income). That was close to the 60-year low and compares with an average of 57.2% in the 1990s and 59.1% in the 1970s.

As compensation's share of the economy has fallen, the share going toward corporate profits, rental incomes, dividends and the like has risen. Put another way, owners of private enterprises are getting a bigger piece of the pie than the employees are.

Whether that is fair is, in this election year, a topic of rancorous political debate. But for investors, the more relevant question is whether it is stable. Here's guessing it isn't.

Even as compensation's share of gross domestic income has fallen, the share of the economy taken up by consumer spending has continued to climb. In the second quarter, consumer spending accounted for 68.7% of total spending in the U.S., up from an average of 62.8% in the 1970s and a rounding error away from the record registered in the first quarter of last year.

One reason spending's share of the economy rose despite the drop in compensation was that increasingly less of what people made went toward saving. That downward trend appears to have ended as people learned the hard way that they couldn't rely on rising asset values to bail out their retirements.

Increases in other types of income have also helped boost spending. These include investment income and business owners' income, but the most notable increase lately has been from government benefits like unemployment insurance, Medicare and Medicaid, and Social Security benefits. The future trajectory of those payments is uncertain.

So, too, is the trajectory of an economy in which consumer spending depends less and less on paychecks and more on other things.