Demographic Origins of the Decline in Labor's Share

Summary

Focus

We study the aging demographics of the workforce in the United States. Since 1980, the average age of the workforce has increased and the share of total earnings of older workers has risen significantly. Concurrent with these demographic changes, the share of income paid to workers (labor's share) has declined. We hypothesis that as a worker ages their labor market dynamism declines and the employer has greater labor market power in determining a worker's wage. Further, the greater market power of an employer leads to a gap between a worker's earnings and their productivity which increases as a worker ages. Therefore, as the workforce ages the average gap between earnings and productivity of workers widens which results in a lower share of total income accruing to workers.

Contribution

The decline in labor's share in the United States, and globally, has raised concerns regarding the distribution of income and its impact on inequality of income and wealth. The extent to which the decline has contributed to income and wealth inequality, as well as whether this decline is a result of underlying changes in technology or market failures, is important in determining if and how policy makers should respond to these changes. To quantify the contribution of aging to the decline in labor's share, we develop a framework to estimate age-specific gaps between the earnings and productivity of a worker. Cross-industry data containing payroll shares and the age-distribution of earnings from the United States from 1987 to 2011 is used to estimate the age-specific gaps.

Findings

We estimate that workers receive a smaller share of their productivity in earnings as they age, therefore, earnings growth lags productivity and the gap between the two grows over the worker's life. Our estimates imply that the observed increase in earnings accruing to older workers accounts for fifty-nine percent of the post-1980 decline in the labor's share in the United States and fifty-four percent of the post-1975 global decline.

Abstract

Since 1980, the earnings share of older workers has risen in the United States, simultaneous with a historic decline in labor's share of income. We hypothesize that an aging workforce has contributed to the decline in labor's share. We formalize this hypothesis in an on-the-job search model, in which employers of older workers may have substantial monopsony power due to the decline in labor market dynamism that accompanies age. This manifests as a rising wedge between a worker's earnings and marginal product over the life-cycle. We estimate the age profile of these wedges using cross-industry responses of labor shares to changes in the age-distribution of earnings. We find that a sixty-year-old worker receives half of her marginal product relative to when she was twenty, which, together with recent demographic trends, can account for 59% of the recent decline in the U.S. labor share. Industrial heterogeneity in this age profile is consistent with the monopsony-power mechanism: highly unionized industries exhibit no relationship between age and payroll shares.

JEL classification: J11, J31, E25

Keywords: demographics, labor share, earnings distribution, income distribution