Strong Employers and Weak Employees: Study Sheds New Light on How Labor Market Concentration Hurts Workers

New study finds that wages are significantly lower in concentrated labor markets—and even lower in labor markets where unionization rates are low.

 

 

Strikers and union members taking part in the Verizon Strike National Day of Action, May 2016. Photo by Thomas Altfather Good, via Flickr [CC BY-ND 2.0]

America’s decades-long wage stagnation is often referred to as “puzzling” by economists, policymakers, and commentators. When adjusted for inflation, hourly wages have risen by only 10 percent since 1973, or just below 0.2 percent annually. While standard economic theory has it that increases in productivity should translate into wage growth as employers need to compete for labor, in the past four decades this has not been the case at all: productivity increased by 75 percent since the early 1970s, and yet wages have barely moved. Labor’s share of income has shrunk as well, while the profit share soared.

 

Nearly a decade after the financial crisis, and with unemployment at a 17-year low, there are signs that American wages have finally begun to pick up a bit. For the typical American worker, however, this likely won’t mean much.

 

Over the years, economists have offered several explanations for wage stagnation, from globalization and automation to baby boomers. One particular explanation that has gained prominence as of late is monopolization: as US labor markets become more concentrated, workers have fewer potential employers competing for their labor and firms are thus increasingly able to exercise monopsony power to drive down pay. Two recent studies by José Azar, Ioana Marinescu, and Marshall Steinbaum have shown that a majority of US labor markets are highly concentrated, and that the increase in labor market concentration is correlated with a 15-25 percent decline in wages.

 

The result of labor market concentration, several studies show, has been a further weakening of workers’ already-dwindling bargaining power. A recent paper by Alan B. Krueger and Eric Posner finds that a quarter of all American workers are exposed to monopsony power in the form of noncompete clauses and no-poaching agreements, at some point in their career. Tellingly, these measures are often used on the workers who are most vulnerable, such as fast-food workers and those with a high school education or less.

 

When employers have market power, these studies show, they use it to pay workers less. But would the effect of monopsony power be less pronounced if workers had more bargaining power? A recent study by Efraim Benmelech, Nittai Bergman, and Hyunseob Kim suggests so. Titled “Strong Employers and Weak Employees,” the authors find that wages are significantly lower in concentrated labor markets—and even lower in labor markets where unionization rates are low, suggesting that monopsony power would have less of an effect on wages had American workers not been so weak and non-unionized.

 

Workers’ bargaining power and employer concentration

 

To view the effect of labor market concentration on wages, Benmelech, Bergman, and Kim use plant-level Census data that covers the entire US manufacturing sector over a longer time period than previous studies on the subject, from 1977 to 2009, and enables them to observe actual wages rather than posted wages. They then match the Census data with data on unionization rates, allowing them to shed new light on the relationship between wages and labor market power.

 

What they find is that local labor market concentration (measured in HHI, a common measure of market concentration) has indeed gone up considerably since the late 1970s, with the average four-digit county-level HHI increasing by 5.8 percent between 1977 and 2009. When it comes to the diminished connection between productivity gains and wage growth, the authors find that in labor markets where employers are more concentrated the link between productivity increases and wage growth is weaker. Where labor markets are more competitive, they find, productivity growth translates into a bigger rise in wages.

 

The reason they chose to focus on the manufacturing sector, Benmelech tells ProMarket, is the ability to better control for factors like plant-level productivity. “When we control for the productivity of the plant, that enables us to alleviate concerns that the effect is driven by something other than competition,” says Benmelech, the Harold L. Stuart Professor of Finance and the Director of the Guthrie Center for Real Estate Research at the Kellogg School of Management.

 

Consistent with previous studies, they also find that there is a negative relation between wages and employer concentration, suggesting that employers in more concentrated labor markets are able to exploit monopsony power to reduce pay.

 

Controlling for factors like plant-level labor productivity and local labor market size, they find that higher concentration translates on average to a 2-3 percent reduction in wages annually, which over a 30-year period adds up to a substantial effect.

 

Furthermore, the authors find that wages became more sensitive to concentration over time, particularly since the late 1990s. The negative relation between employer concentration and wages, they find, doubled over the time period examined. This, the authors argue, is “consistent with firms exploiting workers in the form of lower wages (than a competitive market level) in monopsonistic labor markets, particularly when labor bargaining power is weak and worker mobility is limited.”

 

When attempting to explain the increasing sensitivity of wages to employer concentration, says Bergman, there are a number of possible explanations. One such explanation is the decline in labor mobility: If workers were able to easily move large distances to seek other jobs, they would have had more options and therefore would be less affected by the degree of employer concentration around them. “To the extent that there are frictions associated with job search in distant locations, that’s exactly the situation in which you’d expect local employer concentration to suppress wages,” adds Bergman, a professor at the Coller School of Management and Berglas School of Economics at Tel Aviv University.

 

Another explanation is the decline in US unionization rates, which the authors use as a measure of the weakening bargaining power of American workers. While in the past unions could be expected to mitigate at least some of the effects of monopsonistic employers on wages, private-sector unions have been effectively wiped out in the past few decades: only 7 percent of private sector workers are currently represented by unions, compared to 35 percent in 1954.

 

Using data on union membership rates from the Union Membership and Coverage Database, they find that in industries where unionization rates are higher, the sensitivity of wages to employer concentration is lower. Moreover, when unionization rates are higher, they find, increased productivity translates into wage growth. “To the extent that industries are unionized, then that mitigates the effects of employer concentration on wages,” says Benmelech, “It’s a very intuitive result: if employers have a lot of power, then to the extent that employees do not have power, they can pay less.”

 

“That’s not to say that if workers are unionized, there is no effect. Even at the average level of unionization rates in the sample we find a negative relation between employer concentration and wages. But the negative relation is stronger in those industries and time periods where unionization rates are low,” says Bergman. “Markets in which both employers are heavily concentrated and labor is not unionized are those in which you see a larger effect.”

 

The China Shock

 

The period between the 1990s and late aughts, in which the sensitivity of wages to labor market concentration increased, is also the period in which a rapid increase in international trade and finance turned into “hyperglobalization.” In recent years, as the backlash against globalization began to sweep through Western democracies, both economists and politicians have argued that globalization was a key driver of several economic trends, such as the rise in inequality, wage stagnation, and market power. A focal point of criticism has been the “China shock,” the increased exposure to Chinese imports that led to an exodus of American jobs and devastated US manufacturing.

 

While Benmelech et al. focus most of their research on the effects of labor market concentration rather than potential drivers, they do examine the role that the China shock played in its rise. In areas that were more exposed to Chinese competition, leading to plant closures, employer concentration went up, they find. In that way, in addition to job displacement, the China shock also contributed to local labor market concentration, thus further constraining workers’ options.

 

“The China shock essentially has two effects. One is the direct exposure: in a world of globalization and offshoring, if you can produce or conduct an economic activity in a cheaper way in another place—you do it. That leads weaker firms to exit the market, and unfortunately reduces the demand for low-skilled labor. That is the traditional effect. But on top of that, there is another effect, which is that even the firms that survive the China shock opt for lower wages, because they became the largest employers in the region. So even employees who are not getting laid off now face a less competitive and more concentrated labor market, which correlates to lower wages,” says Benmelech. “Globalization,” he adds, “has an effect on local labor markets that I think some people have underestimated. By its very nature, globalization is going to increase local concentration.”

 

Monopsony power, says Benmelech, should be seen as a contributor to wage stagnation in the US, along with oft-cited factors like globalization and automation. “People are trying to find one explanation, but there are several stories,” he says. “Automation is a relatively recent story, but the wedge between wages and productivity traces back to the late 1970s or 1980s, depending on how you measure it—automation by itself cannot explain it. The China shock is an important factor, but even the China shock is something that really starts to play [out] in the 1990s. While the effect we examine is not the only explanation, what is interesting about it is that it existed since the 1980s, because there has been a weakening of unions in the US since the 1980s. The effect intensified at some point, but has been there for a long time.”

 

For more on labor market monopsony, listen to the latest episode of the Capitalisn’t podcast: 

 

 

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