U.S. tax reform just the excuse for pay raises

Washington, take note: Corporations’ initial reaction to Congress reforming the tax code may have resolved the biggest labour market mystery of the year. How is it possible to have the lowest unemployment rate in 17 years while still having measures of wage growth stuck around 2 to 3 per cent? The answer appears to be that employers were holding on to crisis-era labour market thinking, even in the face of a tight labour market. If tax reform helps to change this thinking, 2018 could be a barnburner of a year for workers and wage growth.

For pundits like me who have been expecting faster wage growth in response to a tight labour market for a while, just about all the data have supported our position. Generational lows in the unemployment rate and levels of initial jobless claims. Job opening rates at record highs. Consumer confidence at a 17-year high. Record highs in labour market momentum. Record lows in people mentioning economic issues as a top concern. Employers complaining about labour shortages. Stock prices and corporate earnings at record highs. So what gives?

One dynamic that makes the labour market special is it involves a human dynamic that, say, the energy market doesn’t have. If the price of oil is US$50, then anyone who wants oil has to pay US$50, whether they’re the CEO of a Fortune 500 company or a minimum-wage worker filling up the gas tank. Labour isn’t like that.

Even though the labour market, like any other market, is subject to price changes based on supply and demand, there’s also the reality that the people hiring workers and paying them are usually their superiors in a corporate hierarchy. “You work for me, and you should be grateful for the opportunity” can be a powerful psychological factor in wage negotiations, especially after a prolonged environment where workers have had little bargaining power. Even in a tight labour market, an employer might decide, “We’re only going to offer wages at a certain level, and if people aren’t willing to work for that wage, so be it.”

Staffing firm Robert Half International talked about this. On Oct. 24, the firm’s president said, “There seems to be a bit of a disconnect between what clients are willing to pay and the state of the candidate supply-demand market.” Sometimes, it takes time for psychology to catch up to changing market conditions.

We saw this immediately following the presidential election last November. Mere days after the election, economic confidence among self-identified Republicans surged. Whether or not the economic environment had changed was debatable, but there was no arguing that psychology among partisan market participants had.

So one can’t help but be cynical when a list of large companies, in the wake of tax reform passing Congress, announced a combination of pay raises and one-time bonuses for workers on Wednesday. Republicans and supporters of the tax bill will point to the announcements as showing that this particular bill will in fact lead to more job creation and higher pay for workers. Skeptics will point to the preponderance of data suggesting that pay raises were coming anyway, and find it more than convenient that employers would point to a specific tax bill as the reason for higher pay — rather than announcing what they were going to have to do anyway in response to the labour market.

But that cynicism has a limit. We’ve seen in 2017 a continued strong environment for global growth, corporate earnings, equity market performance, job creation and consumer confidence. We know that domestically, the surge in economic confidence among Republicans occurred because of the presidential election. Did Trump’s election “cause” any of that, or did Republicans finally wake up after Election Day to the reality that any neutral observer would have seen if they were tracking the economy with their partisan glasses off? In the same way, perhaps it took the passage of tax reform to finally get employers to accept the labour market environment for what it is today, and not what it was in 2010.