6. The Ratchet Effect
The per capita income puzzle in North Carolina may be related to what I call the “ratchet effect” in worker compensation in the US as a whole. We can build up to the ratchet effect in three steps.
Step One: Economists have found in observing wages over the decades that wages and the real productivity of workers evolve very similarly. (This makes economists happy, since our theories suggest that employers should at the margin pay their workers their real marginal product.) Figure 12 illustrates the evolution of real worker productivity for the US for the period 1950–2018.
The black dotted line is the measure of real labor productivity for the US; it has been rebased so that it is equal to 100 in 1950. For the years between 1950 and 1978, worker productivity grew at a 2.7 percent annual growth rate. The purple solid line illustrates a counterfactual: suppose that worker productivity grew at this 2.7 percent rate up to the present? We can see by the vertical distance that productivity in 2018 would be over six times greater than productivity in 1950 if that growth rate continued. In fact, we see from the black dotted line that in 2018, productivity was 4.5 times higher than in 1950. In other words, productivity growth slackened in the post-1978 period but there were still substantial gains in worker productivity throughout these years. Economists would conclude then that real wages must rise as well.
Step 2: When we include median household incomes for the US we observe a disconnect. Household incomes rose more slowly than did worker productivity. Figure 13 illustrates this with real median household income for the US as reported by the US Census Bureau.
Real median household income is illustrated with the gold line. Its growth coincides with productivity growth during the period 1950–1978, but after that lags behind productivity growth. Productivity expanded to 4.5 times its 1950 level in 2018, but real median household income expanded to only 3 times its 1950 level.
Step 3: There is an odd feature to this divergence of median household income from productivity that I call the ratchet effect. If we add one more element to the story, we have Figure 14.
The blue shaded bars in Figure 14 represent the periods that the National Bureau of Economic Research concluded that the US economy was in recession. As is evident, worker productivity tends to stay the same or even increase on average during recessions: the increase comes from employers letting their least productive employees go during the recession. By contrast, the real median household income declines during the recession: more people are out of work, and those with work may be receiving lower wages. Growth in median household incomes resumes once the recession is over, but household incomes do not regain the growth missed during recession. In fact, we see that in the period after the 2001 recession growth did not return at all; it is only after the Great Recession of 2008–2011 that household incomes began to grow again.
These figures only illustrate aggregate effects for the US as a whole. Can they nevertheless help us understand our puzzle about North Carolina’s per capita income growth?
If we return to Figure 2 and we add in the recession bars, we find that both the US real median household income (the red dashed line) and the North Carolina real median household income (the green solid line) illustrate the ratchet effect. The difference between the two, though, is found in the non-recession years. Why did North Carolina’s household income rise more rapidly than the US average after the 1991 recession but then begin to decline in 1997? Why did North Carolina’s household income decline more than the US average after the 2001 recession? What happened in 2010 to cause North Carolina household incomes to decline so much more sharply than the US average?
