Everything is going up, except wages
Investment
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Posted on July 22nd, 2023
Investing has always returned more than wages have grown, that’s why you need to invest your way to wealth instead of working your way to wealth. Since the early 90s, the gap between wage growth and the performance of the S&P 500 has seen a sharp rise. The fact that wages haven’t meaningfully increased since the 90s isn’t news, but how can we explain the increasingly steep rise in stock value?
We believe one of the main drivers of this balloon in stock value can be linked to disparity between productivity and wage growth. The increase in productivity and wage growth stayed on a pretty consistent upwards trajectory until the early 80s, where productivity continued to increase, yet wages began to flatline.
When we look at these two graphs side-by-side, we can see that there’s a definitely correlation between the increase of productivity and the growth of the S&P 500, but it’s the stagnation of compensation that has caused the sudden sharp increase in value in the stock market.
This is a direct result of the gains from the productivity increase being transmitted to stakeholders (those who own stock in companies), instead of to the employees via wage increases. Or corporate taxes, but that's an entirely different blog.
Let’s take a step back to understand how this can happen. There are three main things companies do with their earnings, and management decides which of the three gets the most weight or attention:
1. They can transmit those earnings to the people that own the company. This happens in the form of reinvesting to make the stock price go up, dividend/cash payment to shareholders, or stock buybacks .
2. Another option would be to return money to their customers by providing them with more value, either from a better product, lower price, or a combo of both.
3. Another way to spend those earnings would be to compensate their employees through higher wages. You could expect company revenues to go up proportionate to the amount of value created by one labor hour, which has increased. The increased revenue leaves room for wages to rise, which in turn would lead to an increase in taxes being paid.
Looking at those 3 options, you would expect the shareholders' wealth to increase because of the means of that production, but what you're seeing during this time period is that wages have not increased. Companies are paying fewer taxes now than ever before. The weighting of what companies do with their earnings has shifted almost exclusively to focus on shareholders. So really, all of that productivity gain is just capitalizing itself on the bottom line. That is why the market has expanded so much.
When you consider how inflation has structured its concentration, you’ll notice that while many things are cheaper than before, the things that make you middle class; like food, housing, healthcare, education and childcare, have become a lot more expensive. This is why so many Americans are working paycheck-to-paycheck.
So what can be done to close this gap between wages and productivity, or wages and the stock market?
We think that it’s unlikely that our economic system is going to change drastically enough to close this gap. This system is too entrenched and is making too many people too much money. But it’s not all doom and gloom. Knowledge is power, after all.
Stagnant wages combined with the cost of living outpacing inflation, means that it has become essential to invest your way to wealth. Being armed with that knowledge that puts you in a position to change your financial outlook. And knowing just how effective the U.S. stock market is at creating wealth, you can secure your financial future by taking proactive steps towards investing your way to financial security and wealth.