There is a lot of talk this summer about why wages in many industries seem stubbornly resistant to rising, even though we are nearly at full employment, and especially in places like central Iowa. [1] In this post, I will take a different whack at the problem through the lens of economic game theory and probability. In short, we appear to have here several probabilistic business responses going on simultaneously in the business competition struggle. Companies “play the games” against each other for their best guess at advantage, and real worker wages hang on the outcome of “the games.”

It is important to note that much of this discussion by economists talks about wages and unemployment in the “aggregate,” which is what I call “the imaginary land in which economists live, but none of us do.” What I want to parse out here are what this looks like to individual workers and their families.

Game #1 – The one-time pay bump

Back in January I posted a three-part series on how persistent sub-3% wage growth for workers in recent years, but with 5%-to-10% wage growth for top managers, was widened income inequality in the U.S. The gist of that analysis is that it takes 24 years for 3% wage increases (usually in the non-management employee group) to double one’s salary, but it takes only 10 years to double if you are in the 7% annual increase set. Manager and non-manager wages thus diverge exponentially over time, and the historical data bears that out.

Growth of $30K in salary over 30 years

Part of the reason cited in that series for low worker wage growth was noted again in a recent New York Times opinion piece by Paul Krugman, where he suggests that the same forces that cause wages not to fall during a recession (2008-2009) keep employers from raising them in better times, such as now. They will opt for one-time signing bonuses rather than higher wage rates because of fear of future recessions when a ratcheted higher raise cannot be reversed. [2]

We saw this in a flurry of one-time pay bumps in the wake of the 2017 slashing of corporate tax rates. Very few companies publicly committed to permanent restructuring of their pay scales in return for huge tax cuts, or capital re-investment for that matter, with the excess appearing to mostly go to increased dividends and stock buy-backs.

The stubborn resistance to raising wages can be seen this summer in places like Allentown, Pennsylvania. Because it can’t find lifeguards at the wage it is willing to pay, the city is instead closing pools. [3] Raising the pay for lifeguards to attract more and keep the existing ones is apparently out of the question.

And so, in Game #1, companies are placing a probabilistic bet that one-time pay bumps will assuage employee unrest, and at the same time betting that their competitors take the same tack. This will work for some employees and companies, but it resolves no long-term wage issues, indeed, it likely has made income inequality worse because of much higher wage-gain percentages in the managerial and ownership classes. The companies seem willing to put up with worker shortages, at least in the short run, even if it harms their top-line revenue.

The downside is also seen where one employer raises pay while a competing employer does not. In my part of Florida, pay for public school teachers has become widely divergent on either side of one Florida county line. At some point, salary trumps loyalty (especially where the local school district shows little loyalty to its own employees), and the better teachers, or those that teach in-demand subjects, cross the county line for employment. The long-term consequences are obvious.

Game #2 – Squeeze loyal workers

This long period we have gone through of sub-3% wage rate growth has created a “Catch 22” for employers. In past times, inflation and union forces widened the gap between the entry-level and the experienced, long-time and loyal workers. This gap was occasionally problematic because of widely-varying pay rates for the same job, based on tenure. However, you could always bump entry-level pay a bit if necessary to attract good job candidates without affecting overall pay rates, because of that gap. You had “elbow room.”

However, when people have had such low raises for so long, the new-versus-experienced pay gap narrowed dramatically. Any attempt to raise entry level wages puts those workers at the same, and sometimes higher, wage rates as existing workers. Thus, you can’t raise entry level pay without raising the entire pay scale, which, as noted before, employers seem loath to do.

Putting aside for a moment the need for businesses to remain cost-competitive, this pay squeeze might be seen as the employers’ own damn fault, and this is Game #2. By squeezing most employee wage growth, especially if you don’t restrict upper-management wage growth, companies fail to engender employee loyalty that can keep the best workers. Resentment rises, turnover increases in good times when skilled people get options, and the company has no wage rate room at the bottom for attracting new employees or keeping existing ones. One result is that the quality of new employees starts to decline. What are the odds of your company losing key employees? Most companies appear to bet that the odds are low.

You can again find this situation commonly in public education and small private colleges. Long-term suppression of wages may be financially necessary for fiscal survival, but the probability rises over time that your workforce is increasingly restless. The recent wave of state-wide public teacher strikes is the best example here.

Game #3 – Ignore cross-industry labor movement

I spent one summer when I was sixteen years old washing cars in a full-service wash for $1.25 per hour. By my calculation, almost 50 years later, this wage rate should be $9.38 today, well above the current federal minimum wage rate of $7.25, but that job is more likely paying closer to the current minimum than that inflation-adjusted figure. The bet by the car wash owner is that his employees won’t leave for non-car-wash jobs, or that the owner can hire minimum wage workers from other types of jobs.

The successful Tulsa-based QuikTrip chain of convenience stores has made its high-reputation mark partially by the loyalty and service-orientation of its employees, who are typically paid above the prevailing wage for convenience store workers in the areas it serves. In return, employee expectation is high. Indeed, an ongoing debate in QuikTrip’s home state of Oklahoma is that its starting pay for new employees exceeds that of most of the state’s public school teachers. [4]

So far, customers have been rewarding QuikTrip through customer loyalty, but other store operators, and other non-related employers, seem content to continue to pay as low as possible. You have likely been in those other convenience stores and know the cost of that strategy in store cleanliness and efficiency, but whether it affects your return to that same store determines the outcome of this “game.” And there are likely more than a few teachers who have abandoned their profession when even a convenience store job looks better.

Game #4 – New technology

A new kiosk ordering system has been installed in my local McDonalds restaurant, a key indicator of Game #4, which is the demand for higher employee productivity in return for higher wages, and through the introduction of new technology. This allows employees to be directed to higher value-added tasks. In McDonalds’ case, taking the orders is often the bottleneck part of the process, and they are betting that the kiosk technology effectively delivers more sales per front-line employee.

This is, oddly, the biggest “fear factor” thrown out by opponents of minimum wage increases. The story goes that, if employers are required to pay more, then they will install new technologies and actually employ fewer workers. Think through the logic here and it is easy to see the fallacy. We are jumping to a concern about aggregate employment (that economist fiction) creating “people the business doesn’t hire.” However, the best employees are still working (real people), and are likely not only receiving higher wages, but they are working at more productive tasks. This is a “win-win” except for those anonymous people who didn’t get hired.

Theoretically, there is some justification for saying that the “first rung” on the employment ladder gets harder reach, especially for younger and poorly-skilled workers. Let me suggest that this is a separate problem that every state and locality needs to collectively address. The free market has shown little interest in recent years in creating their own training and paid-internship programs. The answer here is better public education and job training, but that is another game many states refuse to play these days.

At the 200th anniversary of the birth of Karl Marx, you don’t have to be a communist sympathizer to suggest that Marx was onto something when he said that, absent concern for the basic rights of people, abusive capitalists could force workers to compete with each other for lower-and-lower wage jobs. Friends, we’re there.

Notes:

1. Lowrey, Annie. “Say Hello to Full Employment.” The Atlantic, 6 July 2018.
2. Krugman, Paul. “Is the Great Recession Still Holding Down Wages?” The New York Times, 4 May 2018.
3. Warner, Frank. “For Lack of Lifeguards, Allentown to Close 2 Swimming Pools Every Other Day.” Themorningcall.com, 30 June 2018.
4. “QuikTrip Employee, Oklahoma Teacher Salary Comparison Sparks Debate.” Fort Smith/Fayetteville News, 17 Jan. 2017.