Rising Health Costs Reduce Wage GrowthJuly 29, 2004
This morning's new Employment Cost Index data contain three lessons: (1) in dollar terms, wages are growing at the slowest pace in 20 years, (2) adjusted for inflation, wage growth is falling again, and (3) rising health costs are one reason wage growth is so sluggish.
Charts:
Figure 1. Wage Growth
Figure 2. "Real" Wage Growth (Adjusted for CPI Inflation)
Figure 3. Inflation-Adjusted Benefit Costs
Payrolls are growing again, although not fast enough to reduce the unemployment rate. So far this year, payrolls have grown by about 200,000 a month. That pace will probably continue.
However, the potential workforce is also growing by about 200,000 a month. Moreover, millions of workers have dropped out of the labor force in recent years. Therefore, it will take sustained growth in payrolls of 300,000 a month or more to significantly reduce the unemployment rate.
Most people understand this. After three years of flat or falling employment, workers recognize that job availability is getting better in 2004. But job growth is still unsatisfactory. Workers know jobs are more secure, but raises will be difficult to get.
What people may not realize is that health costs are crimping their cash flow in two ways. First, employers are trying to trim health insurance costs by raising deductibles and out-of-pocket payments. This has been going on for several years, and it will continue.
Second, rising health insurance premiums -- in spite of costs shifted to employees -- are reducing wage growth. Businesses can pay people in benefits or in cash. If benefit costs are rising rapidly, then cash wages will be squeezed.
Figure 1 shows wage growth over the last 20 years, as measured by the Employment Cost Index for wages and salaries. In the second quarter, wages grew by 2.5 percent -- the slowest growth rate ever recorded by this measure.
Figure 1.
These indexes do not take into account how many people are working, only what wage growth has been for those who are. By contrast, measures of total wages and salaries in the economy tend to grow more rapidly when more people are getting jobs -- and more slowly in recessions.
In recent months, slow growth of wages has collided with faster growth of price inflation, particularly for gasoline. Thus, "real" or inflation-adjusted wages have started to fall again (see Figure 2).
Figure 2.
Real wages grew during the recovery from the recessions of the early 1980s, but then fell in the late-1980s and dipped sharply during the recession of 1990. Wages then barely kept up with inflation during the "jobless recovery" of the early 1990s. (Inflation-adjusted wage growth is roughly zero in the early- and mid-1990s in Figure 2.)
However, by the late 1990s, real wages grew strongly as labor markets tightened, unemployment plummeted and workers could demand hefty raises.
Real wage growth remained surprisingly high during the recession of 2001 and its aftermath, mostly because those workers still on the job registered very strong improvements in productivity. This extra productivity was reflected in their paychecks.
However, recent increases in health costs are eroding the potential for wage gains. Figure 3 (below) shows the employers' inflation-adjusted benefit spending. Health insurance premiums are a large portion of these benefit costs.
Health premiums fell in the mid- and late-1990s with the widespread introduction of managed care plans with coverage restrictions. However, backlash from health providers opposed to lower payment rates and politicians eager to curry favor with dissatisfied voters has caused health plans to loosen their networks and restrictions. Subsequently, rapid premium growth has returned.
As benefit costs rise, employers pay a smaller share of workers' total compensation in cash -- this is part of the reason why wage growth is so poor.
Figure 3.
Solutions to the health cost problem won't be easy or cheap. One no-brainer is malpractice reform. Another is quality improvements, especially via electronic prescribing and individually owned electronic medical records. A third is comparative data on health providers' quality records and their patients' outcomes.
Better purchasing pools will also be needed. When people can choose from many different types of health plans and coverage options, they will make wise decisions. By saving themselves money, they will help make our health system more efficient.
Health costs and coverage go hand in hand. When costs go up, people lose coverage. The people most vulnerable to becoming uninsured tend to be those working at small businesses or those who purchase health insurance in the individual market. Purchasing pools will help these people keep their coverage, even when they change jobs. Better pools would also protect against outsized premium increases.
When people lose their own health insurance, they may be able to obtain coverage as a dependent under a family member's plan at a larger employer. However, that raises premiums for family coverage at large businesses.
When uninsured people get sick, private insurers or government programs have to pick up a share of the cost, either directly or indirectly. That raises premiums even more, and boosts government spending.
To get started solving the health coverage problem, we will have to make it much easier and attractive for small businesses to offer coverage, and expand public-sector coverage to more people whose incomes are below the poverty line.
Links:
Centrists.Org Senator Frist's Health Reform Proposal (revised July 19, 2004)
Centrists.Org Inflation Shows Signs of Settling Down (July 16, 2004)
Centrists.Org Summer Economic Update -- Moderate Growth and Slowly Improving Labor Markets (July 9, 2004)
Centrists.Org A Constructive Conservative Approach on Health Coverage for Small Business
(June 21, 2004)
Centrist Policy Network A Different Approach to Malpractice Reform (February 3, 2004)
