New research by Matthias Kehrig explains the decline in the labour share of national income with customers’ willingness to pay higher prices for products they value and with the ability of firms to cut costs when they scale up.
Because the study does not find a relationship between low labour shares and concentration in labour markets or firms undercutting the prices of their competitors, the author concludes that the decline in the labour share largely reflects customer preferences and thus poses less of a concern for welfare. Nevertheless, it is important to understand the macroeconomic consequences of firms being able to build up a dedicated customer base, which is willing to pay higher prices.
The aggregate labour share – the portion of GDP paid out in compensation for labour – has declined in the past three decades: Workers are labouring for less and less, and more and more of the fruits accrue to the owners of capital.
Recent research has determined that this aggregate phenomenon is driven by a small set of ‘superstar firms’ – Kehrig/Vincent: ‘The micro-level anatomy of the aggregate labour share decline,’ (2018).[1] For an individual firm, the labour share consists of the wage it pays divided by the dollar value of its value added per worker. Low labour shares can therefore result from:
- Low wages, which may result from market power in labour markets.
- High value added per worker, which may result from superior technical efficiency.
- High prices, which may result from offering high-quality products or market power in product markets.
How do these superstar firms manage to generate a low labour share? The answer to that question is important for policy-makers concerned about big firms dominating product markets and charging high mark-ups.[2]
Policy-makers are equally concerned about large firms dominating labour markets and squeezing lower wages out of workers.[3] In fact, the Federal Trade Commission is changing its merger review guidelines to add consideration of the effects of mergers on labour markets.
Finally, high prices may stem from market power or customer preferences where the latter explanation is the only one that would make the labour share decline look like a symptom of a largely benign development rather than a symptom of lower welfare for workers or customers.
This study establishes that:
- Low labour shares do not result from low wages or market power in local labour markets.
- Low labour shares and their movements over time predominantly result from prices while superior technical efficiency may contribute a considerable but less important portion of low labour shares.
- High prices are an indicator of firms increasingly figuring out their customer preferences and pricing accordingly. High prices do not reflect high quality variants of similar products as the quality of inputs going into the production of those goods is comparable to those inputs used by anyone else.
This study thus emphasises that a declining labour share most likely reflects customer willingness to pay a lot for products they value rather than firms exploiting their market power.
References
[1] Related research by Autor et al.: ‘The Fall of the Labor Share and the Rise of Superstar Firms,’ Quarterly Journal of Economics, 2020.
[2] Research along those lines: De Loecker et al.: ‘The rise of market power and the macroeconomic implications,’ Quarterly Journal of Economics, 2020. Edmond et al.: ‘How costly are markups?’ NBER Working Paper No. 24800, 2018.
[3] Berger et al.: ‘Labor market power,’ NBER WP No. 25719, 2019. Hershbein et al.: ‘Labor market concentration and the demand for skills,’ Working Paper, 2018.
Matthias Kehrig
Duke University
Email: matthias.kehrig@duke.edu
Phone: +1-919-660-1901