Strong Labor Market Suggests Future Wage Growth

U.S. Wage Growth Is 'Higher Than We Think,' Fed Researchers Say

Feb. 27, 2019
The researchers conclude that the Bureau of Labor Statistics understates real wage growth by "a notable amount."

U.S. workers are experiencing larger wage growth than you’ve been reading in the news.

That’s according to a new study by a group of researchers at the Federal Reserve Banks of Dallas and Cleveland. The researchers conclude that average hourly earnings -- or AHE ---reported by the Bureau of Labor Statistics understates real wage growth by "a notable amount," according to a Feb. 26 blog post.

How is this possible? Because AHE isn’t measuring an individuals actual hourly wage growth like one might suspect. AHE reflects the "earnings share" weighted average growth in wages and hours, as well as "composition effects" as a result from earnings differences between individuals entering and leaving the workforce.

"People think about this as measuring what the average wage growth is for individuals in the labor market, but it’s not," said Joseph Tracy, executive vice president at the Federal Reserve Bank of Dallas and co-author of the report. "Not in the way we normally think of it. It is a growth rate of this constructed overall average wage rate."

Average individual wage growth is always higher than AHE. To explain this, Tracy pointed out that measuring AHE is algebraically the same as taking individuals earnings and assigning them weights relative to their income level. For example, you would assign a worker with higher income a higher weight and vice versa. But workers tend to experience higher wage growth early on in their career when wages are low and lower wage growth as they get older and income rises.

The negative relationship implies AHE growth will typically be lower than average individual wage growth. To show this, the researchers used data from the Current Population Survey to calculate average wage growth in two ways: 1) assigning individuals different weights based on income (called AHE) and 2) equal-weighting individuals (called Average Individual Hourly Wage).

The CPS individual hourly wage calculation came out 2.1 percentage points higher than the BLS AHE and 2.5 percentage points above the CPS AHE.

"When you take an earnings weighted average you tend to get lower growth rate then if you treat all these individuals equally and just do a simple average of underlying wage growth," Tracy said.

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