In 1964, $2.50 could buy you quite a bit. Today, the average hourly wage of the mid-1960s is just about enough to buy a pack of gum and a postage stamp, but the average hourly wage has risen nearly tenfold to $22.65. So, American workers should be better off, right?
Unfortunately, that isn’t the case. Although wages have steadily risen, so has the cost of living. While wages are nominally much higher than they were in 1964, Americans’ purchasing power has remained largely stagnant for the past six decades. In fact, compared to their 1964 counterparts, Americans’ real hourly wages have only increased by $2.38, despite sustained gains in productivity across all major industries. Are these flat real wages hindering the average American’s ability to launch new businesses and dampening consumer spending?
Flat real wages’ impact on consumer spending
Dollar for dollar, the average American worker’s hourly wage has risen nearly 10 times since 1964. However, real hourly wages increased by just 10.5 percent, a far cry from the nominal increase in wages. Essentially, that means the American worker doesn’t have more cash to spend on essential goods and services.
“Real wage growth peaked in 2015 around 2.5 percent and has been slowing down to zero or negative in recent months,” said Tenpao Lee, a professor of economics at Niagara University. “If the real wage growth rate is zero, consumers are not better off realistically.”
If consumers aren’t better off, they’re not likely to spend as much. In a consumer economy, spending drives economic growth and the prosperity of businesses. If real wages are stagnant, many consumers are going to either hold on to their dollars or look for the best deal possible, which often means turning to big businesses that leverage economies of scale.
However, Lee added, inflation now is disproportionately occurring in the healthcare sector, leaving many goods and services within the range of the average American’s purchasing power.
“Consumer spending will be affected positively as prices in goods and services are generally cheaper with better quality, except in the healthcare sector,” Lee said, adding that lower gas prices drove down costs in many other sectors. Because of this, Lee said, real wages are not likely to increase anytime soon.
“In the near future, there will be no growth in the real wage,” Lee said. “Most sectors are experiencing deflation with better quality [products] … so the index provided misleading information, as inflation is skewed toward the healthcare sector.”
What do flat real wages and inflation mean for small businesses?
The national unemployment rate remains very low, standing at 4 percent in January 2019. This means the labor market is generally very competitive for most small businesses. According to Stephan Unger, an assistant professor of economics and business at Saint Anselm College, flat real wages mean it is easier for small businesses to offer the attractive wages necessary to recruit new employees.
“It goes in the favor of entrepreneurs to hire people,” Unger said. “Since we can’t expect monster [economic] growth rates in the future and inflation is not expected to explode, it’s not necessary to have too much wage growth on the other side.”
Healthcare sector inflation increases labor costs
Given the inflationary conditions in the healthcare sector, small businesses that provide health benefits to employees are likely to see an increase in their benefits expenses, Lee said. That could potentially slow hiring and capital investment. So, while real wages remain flat and allow small businesses to offer competitive pay to job candidates even in a competitive labor market, healthcare costs could increase expenses on the back end.
The impact of stagnant real wages on entrepreneurship
The Kaufmann Index, which measures small business ownership and entrepreneurship rates, has tracked a decline in the number of small business owners through the past two decades. In 1997, 7.8 percent of adults owned a business. That number has since declined to 6 percent in 2015, the last year for which data is available. The Kaufmann Index also tracks the rate of new entrepreneurs, which identifies how many adults start a new business in the U.S. each month. In 2016, 310 adults started a business each month, which was just over the 20-year average of 300 new entrepreneurs per month.
However, it’s not clear that flat real wages are the cause of the decline in new business starts. A critical ingredient in the ability of aspiring entrepreneurs to launch a business is not necessarily liquid capital but good credit, Unger said. Low interest rates and the ability to obtain a loan are more influential factors in whether an aspiring entrepreneur is able to open their business.
“To become an entrepreneur you need good credit, because in most cases you need a loan,” Unger said. “That also depends on the interest rate level, which was rising but seems to be freezing now.”
So long as inflation doesn’t become an issue, which Unger said it currently does not appear to be, the Federal Reserve is not likely to raise interest rates further.
“Of course, that means it stays affordable for people to pay back their loans, so many small businesses have the potential to grow,” he said.
While the stagnation in real wages appears to currently be accompanied by deflation across many essential goods and services, it also represents a threat to consumer savings, debt repayment and spending in the wider economy if the inflationary situation were to change. However, at the moment, flat real wages allow small businesses to remain competitive recruiters in a tight labor market, although rising healthcare costs remain a significant challenge for those employers required to provide healthcare benefits.