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Wage growth is low, but household income growth is high. How can that be?

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Wage growth is low, but household income growth is high. How can that be?

Basic macroeconomics helps solve some of the strange economic patterns of 2022

Cameron Murray
Nov 27, 2022
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Wage growth is low, but household income growth is high. How can that be?

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Welcome to new subscribers. If you like this article, please check out some of my other posts related to economic theory, such as:

  1. The wrong lesson from Adam Smith’s pin factory

  2. Mysteries of inflation measurement

  3. Do economists know opportunity cost when they see it?

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You have probably heard the news that Australian wages increased by 3.1% over the year to September 2022, which is far below the rate of consumer price inflation.

Twitter avatar for @CallamPickering
Callam Pickering @CallamPickering
Here's a graph that'll make you feel a bit ill. While wages have jumped 3.1% over the past year - the strongest annual jump since March 2013 - it falls well short of inflation at 7.3%. The purchasing power of Australian wages and salaries has taken a massive hit this year.
Image
12:34 AM ∙ Nov 16, 2022

Yet household spending, according to bank transactions data, increased by a whopping 28%!

How can spending growth be so high while wage growth is so low?

The same puzzle is apparent in the popular commentary along the lines of “rents are rising more than people can afford”. If they can’t afford the rents, how are rents rising?

What I think is missing from the public debate about wages, incomes, and inflation is that no one is really taking a consistent macroeconomic lens to this debate.

Wage prices are not household income

The wage price index is a price index of wages paid for the same job. It is like the consumer price index for employee wages.

If the composition of jobs in the economy changes, such that on average people are doing higher-skilled jobs, this will increase the average wages earnt by employees, but will not increase the price index of wages.

Just like if people all started buying more expensive car models—spending on new cars would rise, but the price index of cars would not.

The Australian Bureau of Statistics (ABS) wages price index is a price index of wages for comparable jobs. It is this price index that grew by 3.1% in the year to September 2022.

But this doesn’t tell the picture of how well households are doing financially on average. It only tells you how much wages for the same jobs have changed.

Household incomes are GDP

But household incomes are not wages.

Household income includes capital incomes in the form of interest, dividends, and property rents. That rental price boom is also an income boom for landlords. The mining profit boom is an income boom for shareholders of mining companies.

It also includes welfare payments, which got an outsized boost of tens of billions in 2020.

Money circulates after all.

That one’s spending is another’s income is the main macroeconomic insight. Because money circulates, Gross Domestic Product (GDP) can be estimated by household incomes or expenditure (or value-added production).

So let us look at the national accounts (the GDP estimates) and see what is happening to overall income flows to households.

You can see in the table below that compensation of employees, which is the sum of all wages and salaries, actually grew by 7% to June 2022 (in current prices, meaning no adjustment for inflation). This is more than twice as fast as the wage index grew.

What this means is that more people are working, or people are working different higher-paying jobs on average, or a combination of both.

And wages only make up about 40% of total household income anyway.

Source: https://www.abs.gov.au/statistics/economy/national-accounts/australian-national-accounts-national-income-expenditure-and-product/latest-release

There are a few other components I show in the chart below, where I compare the growth rate of aggregate incomes from different sources to the wage price index.

Dwelling incomes from both rental and owner-occupied housing grew faster too. Remember, higher rents mean higher landlord incomes, and we know that total rents paid to landlords are about $50 billion per year in Australia.

There is also mixed income, which is the income from unincorporated small businesses (such as building industry contractors). It makes up about 8% of total household incomes, and though this source of income fell in FY 2021, it grew over 13% in FY 2022.

And then there are profits from private corporations (in the chart I included only non-financial corporations). These are also someone’s income, and these profits make up about 25% of all incomes in the economy.

So when we look at the wages price index and puzzle over “how can households afford to spend with rising prices” we are missing a huge part of what is happening to household incomes. These other forms of income have been especially important for understanding what is happening economically in the past year.

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Wage growth is low, but household income growth is high. How can that be?

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Wage growth is low, but household income growth is high. How can that be?

www.fresheconomicthinking.com
Peter
Dec 30, 2022

What proportion of private profits go overseas and are never spent in Australia?

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Brian Hamilton
Dec 21, 2022

A very informative article

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