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July 21, 2006
What Does Labor Compensation Measure?
In one of my posts yesterday I staked out an old position of mine: Payments made to workers should be broadly measured, including both explicit monetary remuneration and non-cash benefits. Not surprisingly, I received several comments arguing that increases in labor compensation have, in the recent past, been driven by rising health care costs.
In making sense of all this, I think it helps to consider two different questions we might want to ask when considering payments to workers. The first is, "What does it cost a business to purchase one hour of a worker's time?" To answer this question, a broad (benefit inclusive) measure of labor compensation is clearly the right one.
Now consider the second question: "Does an increase in payments made by firms to workers make workers better off?" On this issue, the answer may very well depend on the difference between compensation paid in dollars and compensation paid in benefits.
Maybe, but not necessarily. Consider two workers, both of whom receive the same total amount of compensation, and both of whom spend exactly the same amount on health care. Now suppose that those expenditures rise by 10% for both workers. We'll further suppose that worker 1's wages rise by 10%, while worker 2's employer holds his or her salary constant but picks up the tab for the higher medical costs. Would you say that worker 1 is better off than worker 2? Neither would I.
The issue, of course, is that, left to their own devices, worker's would not choose to purchase the same quantity of health care when prices rise. They therefore would not be indifferent between a dollar received in cash -- which they could allocate as they wish -- and a dollar received in health care benefits -- which they have no option to spend any other way.
That is an argument to which I am extremely sympathetic, and I am all for policies that disentangle the provision of insurance from employment. (A good debate on these issues can be found here.) But it is an issue that has little to do with macroeconomic performance.
So, if you what you are interested in is what sorts of payment arrangements generate the highest level of well-being for employees, using narrow wage-and-salary measures of labor compensation may be justified (though not totally -- those benefit payments probably still yield utility). But if what you are talking about is how well the economy is doing in generating income for workers, an inclusive measure of labor compensation is a must.
UPDATE: Although you probably read it there before reading it here, Greg Mankiw shares my sentiment, Brad DeLong does not. Brad does make the point -- I'm paraphrasing -- that if you are worried about the distribution of labor compensation, and if the payments to people in the part of the income-distribution you care about are well-captured by average hourly earnings, that would be a reason to prefer the series that excludes fringe benefits. Fair enough, but I'll repeat my earlier argument that it would serve everyone well to be explicit that we are than using a notion of economic well-being that discounts average performance and focuses on who gets what.
Meanwhile at Angry Bear, I believe that, as is often (though not always) the case, pgl and I have converged.
UPDATE, AGAIN: The Liberal Order suggests:
... let's not also forget to account for workplace safety regulations and other observed changes in safety. For example, the manufacturing jobs that exist today are on average much safer than those of thirty and forty years ago. The increases in safety act as a compensating differential. This means that increases in productivity must also be weighed against increases in workplace safety.
A key issue is whether these changes add to the marginal cost of labor or simply the average cost of labor (as would be the case, for example, if safety provisions are more like fixed capital). It's an interesting point, and an interesting question.
UPDATE ONCE MORE: knzn has some thoughts as well.
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