Evidence indicates that mergers directly suppress wage growth for hospital workers in the United States

Posted on by Maria Monroe

Growing economic concentration in the United States causes myriad negative effects on the functioning of the U.S. economy, from rising prices to reduced innovation. Recent academic research also documents the extent to which concentration leads to a reduction in wages and income inequality. Economic concentration gives employers the power to set wages below competitive levels—what economists refer to as monopsony power—when workers are captive to wage offers due to fewer employers. Emblematic of these problems for workers and the U.S. economy alike is the U.S. hospital sector.

In a new working paper, titled “Employer Consolidation and Wages: Evidence from Hospitals,” Elena Prager at the Kellogg School of Management at Northwestern University and Matt Schmitt at the Anderson School of Management at the University of California, Los Angeles look at hospital employment and ownership data, and find evidence of negative wage growth among skilled workers following recent hospital mergers. Prager and Schmitt find that wage stagnation for professional and health care professional employees followed mergers that significantly increased employer concentration.

The two researchers calculated hospital industry concentration with data from the American Hospital Association’s Annual Survey of Hospitals, coupled with mergers and acquisitions data from Irving Levin’s Hospital Acquisition Report. They turned to the Center for Medicare and Medicaid Services’ Healthcare Cost Report Information System for data on wages received by health care workers to calculate the number of full-time equivalent employees, or FTEs, at hospitals across the country. They then categorized all hospital workers into three groups:

  • Unskilled workers whose occupations are not constricted to the health care industry such as custodial and cafeteria workers
  • Skilled workers whose skills are not specific to the industry, such as human resources personnel and Equal Employment Opportunity Commission compliance officers
  • Skilled health care professionals such as nurses or pharmacy workers

Prager and Schmitt then define the geographical labor market by commuting zones in order to measure an individual employer’s labor market power. Finally, their measurement of concentration is standard to similar studies, as it utilizes the Herfindahl-Hirschman Index—a common measure of economic concentration in different sectors of the economy—for FTEs within commuting zone-year pairs.

Prager and Schmitt find that real wage growth (after factoring for inflation) for skilled hospital workers slowed down by 1.1 percentage points to 1.7 percentage points as a direct result of “well-defined merger events.” Their initial analysis shows that when wages are “regressed on” (economic parlance for estimating the effects of) employer concentration and controlled for year and commuting zones, they find a negative relationship between HHI and wages for hospital workers in the skilled categories. The negative relationship is present among all three employment groups, but it is only statistically significant for the two skilled-worker categories. This finding matches other monopsony research that shows stagnant or even declining wage growth tends to be more prevalent among skilled workers in monopsony labor market situations.

To examine the wage effects resulting from merger activity, Prager and Schmitt ran a difference-in-difference model looking at wage changes following “well-defined merger events.” They find that nominal wages (not adjusted for inflation) were 4.1 percent and 6.3 percent lower over 4 years for skilled workers and health care professionals, respectively, following a merger, compared to wages where mergers did not occur. As University of Pennsylvania economist Ioana Marinescu pointed out at a recent FTC hearing on competition, Prager and Schmitt’s findings also account for the absence of demand-side effects that may affect wages by looking at trends and shocks in the market and finding none.

The upshot: The evidence presented by Prager and Schmitt points toward the likely outcome that mergers play a direct role in wage stagnation. In addition, they consider out-of-market mergers (those that don’t overlap in markets) and blocked mergers’ effects on wages, and find that these two factors had little to no effect on wages. This finding demonstrates the geographic importance of monopsony power in the U.S. hospital sector.

Recent research underscores their findings on the prevalence of monopsony power in the U.S. economy in areas where fewer employers compete for employees, who thus experience stagnant or decreased wage growth. Research using firm-level elasticity of nursing labor supply—meaning the extent to which labor supply responds to a change in wages—dating back to 1989 shows that hospitals have possessed labor market power for decades. Other studies that assess the concentration of hospital system ownership find no negative wage effects but instead find an increase in patients seen per day, meaning more work for employees without commensurate wage gains.

In light of this research, policymakers, academics, and government enforcers are now considering whether increased antitrust enforcement could help address growing monopsony power and wage stagnation in the sector. Traditionally, antitrust enforcement has focused on firm’s monopoly power—the power to harm consumers by fixing prices—but in recent work highlighted by Equitable Growth, both as a matter of economics and law, a merger that creates monopsony power over employers is illegal. Yet antitrust enforcement against mergers will ameliorate labor monopsony only if mergers are the cause of the increased monopsony power.

There are other factors, however, that affect wages such as search frictions, as Equitable Growth economist Kate Bahn points out. Indeed, at the recent competition hearings held by the U.S. Federal Trade Commission, economists Nancy Rose at the Massachusetts Institute of Technology and Marty Gaynor at Carnegie Mellon University noted that the existing academic literature does not distinguish between whether increased economic concentration is causing wage stagnation or if there are other factors such as transaction costs, search costs, or even workers’ unwillingness to relocate. Those other factors are all beyond the scope of the antitrust laws and require different solutions.

Still, MIT’s Rose points out that this working paper by Prager and Schmitt “exemplifies, I think, a fruitful direction for scholars that are interested in exploring the evidentiary foundation for employment-based upstream challenges.” Similarly Carnegie Mellon’s Gaynor agrees: “The recent evidence from the Ellie Prager and Matt Schmitt study, I think, does point us a bit in that direction, that certain kinds of mergers can harm workers in certain labor markets.” Prager and Schmitt’s study opens the gates to more research on the causal relationship between mergers and wage growth. Their paper also provides additional evidence that policymakers and antitrust enforcers need to consider and address the impact of anticompetitive mergers and conduct on workers’ wages.

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Weekend Reading: “President’s Day” edition

Posted on by Maria Monroe

This is a weekly post we publish on Fridays with links to articles that touch on economic inequality and growth. The first section is a round-up of what Equitable Growth published this week and the second is the work we’re highlighting from elsewhere. We won’t be the first to share these articles, but we hope by taking a look back at the whole week, we can put them in context.

Equitable Growth round-up

Will McGrew discusses the background of the shrinking manufacturing industry in the United States. He explains how the decline in the quantity of manufacturing jobs can be attributed to anti-union policies implemented at the state level. He recommends investing in human capital and research and development in order to secure a competitive and sustainable future for U.S. manufacturing.

Brad DeLong compiles his most recent worthy reads on equitable growth both from Equitable Growth and outside press and academics.

Links from around the web

Neil Irwin at The New York Times highlights the proposed wealth tax put forth by presidential candidate Senator Elizabeth Warren (D-MA), which would shift the burden of taxes toward those U.S. households that have accumulated mass wealth. Constructed by University of California, Berkeley economists Emmanuel Saez and Gabriel Zucman (an Equitable Growth Steering Committee member and grantee, respectively), this proposal would tax wealth of $50 million or more at 2 percent a year and add an extra 1 percent tax on wealth of more than $1 billion. Irwin breaks down the proposed wealth tax and then examines its promise and pitfalls. [nyt]

Catherine Rampell of The Washington Post discusses the reintroduction of the FAMILY Act by Senator Kirsten Gillibrand (D-NY) and Representative Rosa L. DeLauro (D-CT). Paid family leave, often seen as a “woman’s issue,” is frequently framed as a policy geared to increasing fairness, personal achievement, and bonding time between a mother and child. Yet Rampell points to the macroeconomic benefits of paid family leave, including the potential to boost productivity, increase the women’s labor force participation rate, and create a path for upward mobility. [wapo]

Politicians on both sides of the aisle have expressed concern over the rising costs of prescription drugs in the United States. Prices have become so unaffordable that Americans have turned to purchasing their prescriptions in Canada or Mexico at an exorbitantly cheaper price. While the importation of prescription drugs is illegal in the United States, President Trump and Democrats are pushing to legalize this practice, thus increasing affordability of life-saving medication. [politico]

Former Federal Reserve chair Janet Yellen (an Equitable Growth Steering Committee member) spoke with Leslie Hook of the Financial Times about the merits of a carbon tax as an affordable alternative to a Green New Deal. Yellen indicates that a $40 per ton tax would reduce carbon emissions, meet the climate change commitment agreed to in the Paris Accord, create sustainable environmental conditions for future generations, and be redirected back to the public in dividend payments. This proposed tax has drawn support from more than 3,300 economists and academics across the political spectrum. [ft]

Senator Bernie Sanders (I-VT) recently announced his candidacy for the U.S. presidency, pledging to run on a platform including Medicare for All, paid family leave, and a $15 minimum wage. Citing Equitable Growth Executive Director Heather Boushey, The Washington Post’s Jeff Stein explains how Sen. Sanders’ platform issues, such as gender pay equity and paid family leave, promote increased economic inequality, as families with more time off granted by employers tend to be wealthier. [wapo]

Friday Figure

Figure is from Equitable Growth’s, “Building a competitive, talent-driven future for U.S. manufacturing requires investing in our nation’s high-tech advantage”

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Brad DeLong: Worthy reads on equitable growth, February 15–21, 2019

Posted on by Maria Monroe

Worthy reads from Equitable Growth:

  1. Read Alix Gould-Worth, “A Valentine’s Day love letter to the Unemployment Insurance program,” in which she writes: “UI’s social insurance structure is part of its allure. Both means-tested and social insurance programs are vital to the health and well-being of the U.S. population. But research shows that claimants feel less stigma when applying for and receiving benefits from social insurance programs than means-tested programs. And typically, social insurance programs enjoy support that protects them from being dismantled by overeager budget cutters. But what makes UI different from all other social insurance programs? Why does it hold a special place in my heart? Let me count the reasons.”
  2. Save for white baby boomers and pre-baby boomers who rode the post-World War II wave of government-sponsored housing finance and inflation on the one hand and union and white-collar defined-benefit pensions on the other, by and large the “middle class” in terms of wealth has always been a multigenerational phenomenon. What with keeping-up-with-the-Joneses and the slings-and-arrows-of-fortune, several generations of middle-class incomes are required to build up anything that can be called a middle-class wealth stock. And racial discrimination has made it impossible for African Americans to have such a run of security. Read Equitable Growth grantee Darrick Hamilton’s “Racial Equality Is Economic Equality,” in which he writes: “Race is a stronger predictor of wealth than class itself. The 2017 Survey of Consumer Finances indicates that the typical black family has about $17,600 in wealth (inclusive of home equity); in contrast, the typical white family has about $171,000. This amounts to an absolute racial wealth gap where the typical black family owns only 10 cents for every dollar owned by the typical white family! This disparity has endured over time. The racial wealth gap is an inheritance that began with chattel slavery, when blacks were literally the capital assets for a white landowning plantation class. The gap continued after Emancipation, when discriminatory laws and institutions established insurmountable barriers to the American middle class for black families. Today, hundreds of years removed from chattel slavery, there has virtually never been a substantive black middle class when defined by wealth. In contrast, the implementation of FDR’s New Deal and post-war vision facilitated an asset-based white middle class to cumulatively build wealth and pass it on to their heirs.”
  3. It looks as though declining rates of marriage and increasing rates of cohabitation among the American working class are not—whatever hordes of American Enterprise Institute funders are eager to pay people to say—in any sense a “sociological breakdown,” but rather economic precarity. Read Daniel Schneider, Kristen Harknett, and Matthew Stimpson, “Job Quality and the Educational Gradient in Entry into Marriage and Cohabitation,” in which they write: “Men’s and women’s economic resources are important determinants of marriage timing … Declining job quality and rising precarity in employment and suggests that this transformation may matter for the life course … The 1980–1984 U.S. birth cohort from the National Longitudinal Survey of Youth … Men and women in less precarious jobs—jobs with standard work schedules and jobs that provide fringe benefits—are more likely to marry. Further, differences in job quality explain a significant portion of the educational gradient in entry into first marriage. However, these dimensions of job quality are not predictive of cohabitation.”
  4. There are many, many ways of generating adverse selection effects that confound statistical studies, and very, very few good instruments. Thus, I have found myself always very suspicious of the working paper by Patrick L. Baude, Marcus Casey, Eric A. Hanushek, Greg Phelan, and Steven G. Rivkin, “The Evolution of Charter School Quality,” in which they write: “Quality dynamics among Texas charter schools from 2001–2011 … Exits, improvement of existing charter schools, and higher quality of new entrants increased charter effectiveness relative to traditional public schools … Reduced student mobility and an increased share of charters adhering to ‘No Excuses’-style curricula contribute to these improvements. Although student selection into charter schools becomes more favorable over time in terms of prior achievement and behavior, such compositional improvements appear to contribute little to the charter sector gains. Moreover, accounting for student composition in terms of prior achievement and behavior has only a small effect on estimates of the higher average quality of ‘No Excuses’ schools.”

Worthy reads not from Equitable Growth:

  1. One of my hobbyhorses is that a “semi-skilled” worker is an unskilled worker with a union. Read Byron Auguste, “Low Wage, Not Low Skill: Why Devaluing Our Workers Matters,” in which he writes: “Such jobs require optimizing time trade-offs, quality control, emotional intelligence, and project management. They are not low skill, but they are low wage. Why does this matter? When we stereotype or lazily assume low-wage workers to be ‘low skill,’ it reinforces an often unspoken and pernicious view that they lack intelligence and ambition, maybe even the potential to master ‘higher-order’ skilled work. In an economy that is supposed to operate as a meritocracy—but rarely does—too often, we see low wages and assume both the work and workers are low-value.”
  2. Here is a group of economists who seem, to me, to be aiming for the “equitable growth” space. Check out “Economists for Inclusive Prosperity,” in which they write: “We believe the tools of mainstream economists not only lend themselves to, but are critical to the development of a policy framework for what we call ‘inclusive prosperity.’ While prosperity is the traditional concern of economists, the ‘inclusive’ modifier demands both that we consider the interest of all people, not simply the average person, and that we consider prosperity broadly, including nonpecuniary sources of well-being, from health to climate change to political rights.”
  3. And here is the launch explanation of the analytical perspective that the brand-new group Economists for Inclusive Prosperity hopes to take. It is good. Read Suresh Naidu, Dani Rodrik, and Gabriel Zucman, “Economics After Neoliberalism,” in which they write: “Economists of the real world … understand that we live in a second-best world rife with market imperfections and in which power matters enormously … The competitive model is rarely the right benchmark … This requires an empirical orientation, an experimental mindset, and a good dose of humility to recognize the limits of our knowledge … Throughout [our] proposals is the sense that economies are operating well inside the justice-efficiency frontier, and that there are numerous policy ‘free-lunches’ that could push us towards an economy that is morally better without sacrificing (and indeed possibly enhancing) prosperity.”
  4. Read Hilary Hoynes and Jesse Rothstein, “Universal Basic Income in the US and Advanced Countries,” in which they write: “Advanced economies … [have] well developed, if often incomplete, safety nets … a framework … compare various UBIs to the existing constellation of programs.”
  5. The real lesson from AI-machine learning is that AI-machine learning is a lot like “human judgment,” observes Andrew Hill. Read his “Amazon offers cautionary tale of AI-assisted hiring,” in which he writes: “Amazon, one of the most innovative and data-rich companies in the world, leapt on that possibility as early as 2014. It built a recruiting engine that analysed applications submitted to the group over the preceding decade and identified patterns. The idea was it would then spot candidates in the job market who would be worth recruiting … Unfortunately, the data were dominated by applications from men, and the AI taught itself to prefer male candidates, discriminating against CVs that referred to ‘women’s’ clubs, and setting aside graduates from certain all-women’s colleges. The initiative was downgraded and the research team scrapped.”
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Building a competitive, talent-driven future for U.S. manufacturing requires investing in our nation’s high-tech advantage

Posted on by Maria Monroe

The United States manufacturing industry—once the central pillar of the American economy and a robust ladder to middle-class employment—today exhibits significant structural weaknesses that have metastasized over the past several decades. Since the early 1980s, the combined effects of automation and especially trade liberalization resulted in a dramatic decline in manufacturing employment, as well as in the sector’s value added, or the industry’s contribution to U.S. Gross Domestic Product. (See Figure 1.)

Figure 1

Yet the United States’ robust-but-neglected research and development infrastructure and skilled workforce can open up opportunities for re-energizing U.S. manufacturing and creating high-tech job opportunities that pay well, produce globally competitive products, and create new strongholds of manufacturing innovation in regions across the country. Policymakers can and must offer support on multiple levels to guide this transition.

To understand the necessary steps to be taken, however, it is first important to analyze why and how U.S. manufacturing has weakened. Massachusetts Institute of Technology economist and Equitable Growth Research Advisory Board member David Autor and other scholars identify the removal of trade barriers with China as a result of its admission to the World Trade Organization in 2001 as a particularly important cause of U.S. manufacturing’s recent decline in employment. Autor and his co-authors also find that these trade shocks produced a similar drop in manufacturing wages—with low-wage workers experiencing the largest losses. On the other hand, UC Berkeley economist and Equitable Growth columnist Brad Delong downplays the importance of trade deals and instead identifies our failure to invest in our middle class, human capital base, and engineering infrastructure as important culprits of manufacturing’s relative downturn in the United States.

Indeed, in addition to the decline in the quantity of manufacturing jobs, there has also been a pronounced drop in the quality of jobs for many manufacturing workers in the United States. While many of these workers were displaced into low-wage jobs in the service sector, those who remained in manufacturing are now paid lower wages and have fewer benefits. Researchers at the National Employment Law Project find that for the first time in decades, manufacturing workers now fall in the bottom half of the wage distribution, making 7.7 percent less than the median worker in 2013.

One of the reasons for this decline are anti-union policy changes at the state level and the shift of manufacturing employment to “right-to-work” states in the South. These developments hollowed out unionization in manufacturing industries from 1 in 3 workers 30 years ago to 1 in 10 today. In addition, sociologist Annette Bernhardt and other researchers at the University of California, Berkeley document a simultaneous explosion in contingent, temporary work within the manufacturing industry. Both of these trends led to reduced wages in this sector, with nonunionized and temporary workers making about $1.40 and $4 less per hour, respectively, than unionized and permanent employees in the industry.

Despite continuing challenges for manufacturing workers, the industry has partially recovered from the Great Recession a decade ago. After a sharp decline in employment and output between 2007 and 2010, the sector bounced back and experienced particularly strong growth beginning in mid-2016 with the rebound in national and global demand, although many of the jobs that have since been created pay lower wages and are less likely to be unionized. There are some indices that point toward emerging headwinds for the industry in the form of tariffs, higher prices, the fading impact of the 2017 tax cuts for corporations, and slowing global growth. Yet aggregate U.S. factory production rose in December 2018 by 1.1 percent, its largest growth rate in 10 months.

Nevertheless, manufacturing remains vulnerable to demand shocks and suffers from low aggregate levels of innovation. Economists Kevin Kliesen and John Tatom of the Federal Reserve argue that the U.S. manufacturing sector remains strong compared to its competitors in other developed countries. Importantly, however, Kliesen and Tatom point out that manufacturing’s health today remains largely contingent on the business cycle and that a dearth of innovation has depressed its output potential—despite highly innovative pockets in certain regions and subsectors of the industry.

To enhance the long-term health and resilience of the U.S. manufacturing sector, growing evidence indicates that policymakers and other stakeholders should encourage a shift to advanced manufacturing, or the deployment of innovative technologies such as artificial intelligence in manufacturing production. Traditional mass manufacturing of basic consumer goods increasingly relies on lowering labor costs, which are much higher in the United States than in many emerging economies, and cheaply maintaining bulky capital infrastructure, much of which has likewise deteriorated in recent decades in the United States.

Alternatively, advanced manufacturing relies on resources where the United States can (or at least should) have a competitive advantage because of a skilled workforce and a highly developed research and development infrastructure. Indeed, a McKinsey analysis finds that the U.S. could boost manufacturing GDP by up to $530 billion and employment by 2.4 million jobs over current trends—with the largest upside potential concentrated in advanced manufacturing industries such as aerospace, computers, renewable energy, and electronics.

From the perspective of labor, advanced manufacturing creates opportunities for high-skill, middle-class employment for millions of workers. As MIT’s Autor has studied, automation technologies can be a substitute for workers, thus explaining much of the employment decline in traditional manufacturing. But he also points out that automation technologies can be complementary to labor, creating demand for workers in roles in technology-intensive sectors where human supervision, creativity, and critical thinking are indispensable. As a result, workers interested in entering advanced manufacturing in the coming decades will enjoy a tighter labor market in which there is much greater demand for skilled workers than there is supply—compared to traditional manufacturing and service jobs in other sectors. Specifically, a Deloitte analysis finds that without further investments in upskilling, there will be 2.4 million unfilled job openings in manufacturing by 2028.

There is some evidence that this labor shortage might create incentives for employers in advanced manufacturing to offer good wages, benefits, and training opportunities such as apprenticeships to attract the talent they need to succeed. According to researchers at The Brookings Institution, the average wage in advanced industries is $90,000—almost twice the U.S. mean. Furthermore, a report by the nonprofit research organization Jobs for the Future finds that career prospects of workers in advanced manufacturing are “dramatically better” than those in traditional manufacturing. The reason: Jobs in production of basic consumer goods are often “static,” while advanced manufacturing jobs, especially those that convey both technical and management skills, can serve as “lifetime” jobs (or careers), as well as “springboard” jobs to other industries where workers can make use of the technical and management skills acquired in advanced manufacturing.

Despite these promising structural features, legal scholar Brishen Rogers at Temple University says more needs to be done to enhance U.S. employment laws. He argues that updating and expanding employment law will be necessary to ensure that middle-class wages, enhanced working conditions, and ample opportunities for employment are available in the high-tech workplaces of the future.

By building off U.S. strengths in human capital and R&D to enhance the production process, expanding advanced manufacturing would also be beneficial to U.S. firms because it would increase their competitiveness vis-à-vis manufacturers in other countries. A growing body of economic evidence demonstrates that advanced manufacturing technologies such as additive manufacturing (also known as 3D printing) can help U.S. firms transition to production of more innovative, customized products with greater added value.

Similarly, so-called cloud manufacturing—or coordinating and upgrading manufacturing processes via networks online—can help reduce costs for firms by sharing expensive resources in these interconnected digital networks. Beyond bringing down firms’ costs, this more nimble and innovative production model allows U.S. firms to more easily respond to demand shocks and customize products to meet consumer trends. As a result, HEC Paris economist John Hombert and Princeton University economist Adrien Matray find that manufacturing firms that invest in R&D, and thereby increase product differentiation, are about twice as resilient to trade shocks.

A shift to advanced manufacturing would also increase competition within the U.S. manufacturing sector by reducing inequalities between firms of different sizes and in different regions. The innovations in production processes mentioned above stand to lower barriers to entry for new production, creating opportunities for small- and medium-sized enterprises across regions regardless of pre-existing manufacturing infrastructure. Substantiating this effect, much of the post-Great Recession manufacturing growth has been concentrated not only in large high-tech hubs such as the San Francisco Bay Area, but also in smaller cities characterized by highly skilled workforces, among them Orlando, Florida, Salt Lake City, Utah, and Raleigh, North Carolina.

In fact, many cities in the traditionally industrial Rust Belt, including the Michigan cities of Grand Rapids and Troy, have bounced back by creating an attractive regional ecosystem for manufacturing of biopharmaceuticals, electric and automated cars, renewable energy, and other innovative sectors. Notably, much of this production is small in scale. In Grand Rapids, for example, 80 percent of its 2,500 manufacturing firms have fewer than 250 employees. To further manufacturing growth along these lines, policymakers need to encourage less outsourcing of U.S. supply chains so that process innovation in manufacturing occurs in these and other manufacturing regions of the nation, as highlighted by Case Western University economist Susan Helper and her co-author at Case Western, Timothy Krueger, in a 2016 paper, “Supply chains and equitable growth.”

Increasing competition within the manufacturing sector would also reverse the current trend toward monopsony in the labor market and thereby improve manufacturing workers’ bargaining position for better wages, benefits, and working conditions. Equitable Growth economist Kate Bahn points to the increasingly negative ramifications of monopsony power—the disproportionate power of employers to set wages and other work conditions—in the contemporary labor market. In some ways, though, the U.S. manufacturing sector is an outlier in this regard. Temple University economist Doug Webber points out that relatively high levels of unionization in the sector may have held back the growth of monopsony in manufacturing compared to many service sectors such as health care and administrative support.

Still, manufacturing hasn’t been spared from the economywide trend toward monopsony. Indeed, economists Efraim Benmelech at the Kellogg School of Management, Nittai Bergman at Tel Aviv University, and Hyunseob Kim at Cornell University find that labor market concentration in U.S. manufacturing experienced relatively small, but notable, growth from 1977 to 2009. Turning to the effects of this change on workers’ earnings, MIT’s Autor, Harvard University economist and Equitable Growth Research Advisory Board member Lawrence Katz, and MIT doctoral candidate and Equitable Growth Research Scholar Christina Patterson estimate along with their co-authors that this increase explains one-third of the decline in the labor share of income in U.S. manufacturing between 1997 and 2012. Additionally, Benmelech and his co-authors find that the negative effects of labor market concentration on wages in manufacturing are largest when unionization rates are low.

Working with labor, community, educational, and environmental stakeholders, policymakers can play an active role to make sure the necessary physical, social, and legal infrastructures exist to ensure the success of advanced manufacturing for both workers and firms. To start, policymakers must support the deployment of innovation in the process of production, which is at the core of advanced manufacturing. This is why federal, state, and local governments should invest heavily in public universities and other research institutions and increase these institutions’ connections with the private sector.

Additionally, policymakers should encourage and facilitate the adoption of new efficiency-enhancing technologies in the production process, especially for small businesses, and pursue robust antitrust enforcement to ensure competition in manufacturing industries. Case Western’s Helper, for example, argues for policymakers to encourage more collaborative supply-chain practices where innovation is shared among firms in addition to promoting “high-road” advanced manufacturing jobs through a variety of policy levels.

Finally, policymakers must keep middle-class opportunities for workers at the center of manufacturing’s future by developing lifelong training programs and apprenticeships that upskill workers and match them to jobs in the field, enforcing rigorous standards for wages, salaries, and employment conditions, and strengthening unions and other forms of collective action. As manufacturing advances and increases in productivity, policies and institutions need to be in place so that workers are able to share in the gains from this growth that their labor makes possible.

Many obituaries have been written for the U.S. manufacturing sector. But this habit of declaring manufacturing a thing of the past is undoubtedly premature. A nascent body of work indicates that a talent- and tech-driven manufacturing renaissance could well be on the horizon in the United States, but it is up to our policymakers to help lead the way to this innovative future.

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Weekend reading: “In our Network” edition

Posted on by Maria Monroe

This is a weekly post we publish on Fridays with links to articles that touch on economic inequality and growth. The first section is a round-up of what Equitable Growth published this week and the second is the work we’re highlighting from elsewhere. We won’t be the first to share these articles, but we hope by taking a look back at the whole week, we can put them in context.

Equitable Growth round-up

The FAMILY Act was reintroduced this week in the U.S. Congress—proposed legislation that would establish a federal program to provide workers with paid leave following the birth or adoption of a child, or to care for a seriously ill family member, or to recover from their own illness. Equitable Growth’s executive director and chief economist, Heather Boushey, highlighted the overwhelming research that, in number of states with paid leave insurance programs, mothers who use paid leave were more likely to remain in the workforce and that there has been no evidence of higher employee turnover or rising wage costs for businesses.

Kate Bahn and Raksha Kopparam published their monthly analysis of the Job Openings and Labor Turnover Survey data released by the U.S. Bureau of Labor Statistics. The JOLTS data reflects robust labor market conditions, an unchanged unemployment-per-job openings ratio, and a quits rate that edged down slightly.

Equitable Growth’s Heather Boushey provided testimony before the Subcommittee on Select Revenue Measures’ hearing on “How Middle-Class Families are Faring in Today’s Economy.” Her remarks detailed the stagnating wages of low- and middle-income earners and called on policymakers to expand on refundable tax credits, provide access to affordable childcare, and offer paid family and medical leave.

Equitable Growth grantee Heidi Williams’s column “Who Profits from Patents in the United States” summarizes from her research that the bulk of shared profits at start-up firms are returned as higher wages to employees at the top of firms’ earning distributions because it would be costly for those firms to replace them.

This Valentine’s Day, Equitable Growth’s Alix Gould-Werth expressed her love to the Unemployment Insurance program. Like Cardi B, she’s grateful to FDR for the Social Security benefits available to workers upon retirement, but she loves Unemployment Insurance’s ability to help workers who lose a job through no fault of their own. She suggests some updates to the program to match today’s U.S. labor market realities as well.

Brad DeLong rounds up his latest worthy reads on equitable growth from both inside and outside of Equitable Growth.

Links from around the web

Kelsey Piper at Vox discusses research from Equitable Growth grantees Hilary Hoynes and Jesse Rothstein on universal basic income and their analysis that pilot programs of UBI aren’t helpful to conclude whether UBI is a good idea and that it remains unclear who would get the money, how much money, and how the program would be funded. (vox)

Jonathan Rothwell at The New York Times argues that regional inequality in the United States contributes little to total inequality and that the issue has shifted to localized inequality. Rothwell points to research from former Equitable Growth Steering Committee member Raj Chetty, who concluded that a child’s neighborhood explains most of the geographic variation in upward mobility rather than a state or geographical region. (nyt)

Retail employees are desperate for reliable work schedules, reports Jacob Passy at MarketWatch. He examines a study from Equitable Growth grantees Daniel Schenider and Kristen Harknett, who surveyed 28,000 retail and food-service workers from the 80 largest retail firms in the United States and the toll that unfair scheduling takes on workers. (marketwatch)

Senator Elizabeth Warren (D-MA) recently proposed a wealth tax on the ultra-rich to address wealth inequality. Equitable Growth Steering Committee member Emmanuel Saez and Equitable Growth grantee Gabriel Zucman estimate that a tax like this could raise $2.75 trillion over a 10-year period. Alvin Chang at Vox developed his own interactive wealth tax calculator, where individuals can propose at what net worth individuals would begin being taxed at and at what percentage. (vox)

Wondering when the last time the United States had the levels of wealth inequality seen today? You would have to go back to 1929, just before the Great Depression. Andrew Keshner at MarketWatch highlights the research of Equitable Growth grantee Gabriel Zucman, who notes that the riches 0.1 percent of adults’ share of total household wealth hovered around 25 percent before plunging below 10 percent in the late 1970s and since then rebounding to around 20 percent today. (marketwatch)

Friday Figure

Figure is from, “Equitable Growth’s JOLTS Day Graphs: December 2018 Report Edition”

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Brad DeLong: Worthy reads on equitable growth, February 8–14, 2019

Posted on by Maria Monroe

Worthy reads from Equitable Growth:

  1. It is time for Equitable Growth’s monthly charticle about the most useful monthly employment report—not the (usually) first-Friday report, but rather the JOLTS report. See Kate Bahn and Raksha Kopparam’s “JOLTS Day Graphs: December 2018 Report Edition,” in which they note: “Every month the U.S. Bureau of Labor Statistics releases data on hiring, firing, and other labor market flows from the Job Openings and Labor Turnover Survey, better known as JOLTS. Today, the BLS released the latest data for December 2018. This report doesn’t get as much attention as the monthly Employment Situation Report, but it contains useful information about the state of the U.S. labor market. Below are a few key graphs using data from the report.”
  2. I must confess that my knee-jerk reaction, given my socialization into the neoliberal cult when young, to paid leave programs is to worry that loading responsibility for providing social insurance onto employers is a hazardous activity—it is not the 1920s, and we are not certain that paternalistic companies engaged in welfare capitalism can do more to enhance societal well-being than ardent socialists and social democrats. But evidence is piling up from the laboratories of social insurance that are the states that my knee-jerk reaction is wrong. Read Heather Boushey, “Increasing Evidence of the Benefits of Paid Leave Means Congress Needs to Consider a Federal Program like the FAMILY Act,” in which she writes: “The existing state programs—the oldest, in California, dates back to 2004—have provided a laboratory for researchers to study labor and health outcomes for individuals, performance and productivity outcomes for firms, and broader macroeconomic outcomes of paid family and medical leave. This work builds on a considerable body of research from long-established programs in some European countries. The answers to many questions are already coming into focus … In states with paid leave insurance programs, mothers who use paid leave are more likely to remain in the workforce in the year following a birth. The women experiencing the benefits of these new programs are more likely to be less educated, which makes sense given that they are less likely to have had access to paid leave in the absence of a state program … In instances where paid leave is provided there is less reliance on public assistance to contend with family medical emergencies. Moreover, there has been no evidence of higher employee turnover or rising wage costs for businesses. Research on parental leave programs abroad also suggests that paid leave of the length contemplated by the FAMILY Act, up to 12 weeks, has a positive effect on women’s income and likelihood of remaining in the workforce.”

Worthy reads not from Equitable Growth:

  1. This paper, “Optimal Taxation of Top Labor income: A Tale of Three Elasticities,” has become a classic for all wishing to think clearly about progressive income taxation. Note that the conclusions of the authors—Thomas Piketty, Emmanuel Saez, and Stefanie Stantcheva—in favor of a high top marginal rate do rest on strong and proper state actions to close loopholes and shut down tax havens. They write: “A model where top incomes respond to marginal tax rates through … (1) the standard supply-side channel … the tax avoidance channel, [and] (3) the compensation-bargaining channel through efforts in influencing own-pay setting … The first elasticity (supply side) is the sole real factor limiting optimal top tax rates. The optimal tax system should be designed to minimize the second elasticity (avoidance) through tax enforcement and tax neutrality … in which case the second elasticity becomes irrelevant. The optimal top tax rate increases with the third elasticity (bargaining) as bargaining efforts are zero-sum in aggregate … There is a strong correlation between cuts in top tax rates and increases in top 1 percent income shares since 1975, implying that the overall elasticity is large. But top income share increases have not translated into higher economic growth, consistent with the zero-sum bargaining model. This suggests that the first elasticity is modest in size and that the overall effect comes mostly from the third elasticity. Consequently, socially optimal top tax rates might possibly be much higher than what is commonly assumed.”
  2. Put me, for one, down as welcoming a sensible technocratic debts-and-deficits debate. Read Brendan Greeley, “Give the Kids Permission to Fool Around,” in which he writes: “Several weeks ago Alphaville was forwarded a panicked email from the Committee for a Responsible Federal Budget … The subject … ‘Be wary of mischaracterisations of Olivier Blanchard’s debt report … Here’s Mr. Blanchard, in his own words, talking to Alphachat … ‘use it for the right things. If the economy is very weak and monetary policy cannot be used, use it. If there is public investment to be done, the infrastructure is in terrible shape, use it … It’s a tool, it’s not a tool you should avoid to use at any price. It’s a tool you should use when you need to.’”
  3. Migration—temporary and permanent—is turning out to be one of the magic bullets for global economic growth. Read Ricardo Hausmann, “The Tacit-Knowledge Economy,” in which he writes: “Know-how resides in brains, and emerging and developing countries should focus on attracting them, instead of erecting barriers to skilled immigration. Because knowledge moves when people do, they should tap into their diasporas, attract foreign direct investment in new areas, and acquire foreign firms if possible … Recent research at Harvard University’s Center for International Development (CID) suggests that tacit knowledge flows through amazingly slow and narrow channels. The productivity of Nuevo León, Mexico, is higher than in South Korea, but that of Guerrero, another Mexican state, resembles levels in Honduras. Moving knowledge across Mexican states has been difficult and slow. It is easier to move brains than it is to move tacit knowledge into brains, and not only in Mexico. For example, as the CID’s Frank Neffke has shown, when new industries are launched in German and Swedish cities, it is mostly because entrepreneurs and firms from other cities move in, bringing with them skilled workers with relevant industry experience … Knowledge moves when people do.”
  4. Read Olivier Coibion, Yuriy Gorodnichenko, and Mauricio Ulate, “Is Inflation Just Around the Corner? The Phillips Curve and Global Inflationary Pressures,” in which they write: “An expectations-augmented Phillips Curve can account for inflation not just in the United States but across a range of countries, once household or firm-level inflation expectations are used … We find that the implied slack was pushing inflation below expectations in the years after the Great Recession but the global and U.S. inflation gaps have shrunk in recent years thus suggesting tighter economic conditions. While we find no evidence that inflation is on the brink of rising, the sustained deflationary pressures following the Great Recession have abated.”
  5. Yes, it looks like the world economy is now entering a recession—one that the United States is, so far, escaping. Read Brad Setser, “China’s Slowdown and the World Economy,” in which he writes: “China, it now seems, has entered into a real slump … China’s total imports remained pretty strong though until the last couple of months. But they have now turned down. China (still) isn’t that important a market for the rest of the world’s manufactures. China’s overall imports (of goods) are significant, at around $2 trillion. But about a third are commodities, about a third are parts for re-export (think $800 billion of processing imports vs. exports of around $2.4 trillion), and a bit less than a third are imports of manufactures that China actually uses at home … A fall in Chinese auto demand has a big impact on Chinese domestic output (most Chinese cars are made in China, with largely Chinese parts, thanks to China’s tariff wall), a measurable impact on the profits of some foreign firms with successful Chinese JVs, a modest impact on German exports and, at the margin, a measurable impact on global growth in oil demand.”
  6. There is no Phillips Curve-breakdown puzzle in the behavior of inflation over the past decade once one recognizes that (a) the employment-to-population ratio, and not the unemployment rate, is the right measure of how bad the job market is, and (b) that people have been—I think largely because of misinformation from the press—thinking that inflation is higher than it, in fact, is. Read Laurence M. Ball and Sandeep Mazumder, “The Nonpuzzling Behavior of Median Inflation,” in which they write: “Inflation behavior is easier to understand if we divide headline inflation into core and transitory components, and if core inflation is measured by the weighted median of industry inflation rates … [that] filters out large price changes in all industries. We illustrate the usefulness of the weighted median with a case study of inflation in 2017 and early 2018. We also show that a Phillips Curve relating the weighted median to unemployment appears clearly in the data for 1985–2017, with no sign of a breakdown in 2008.”
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A Valentine’s Day love letter to the Unemployment Insurance program

Posted on by Maria Monroe

This Valentine’s Day, I’m thinking about my relationship with a very special social insurance program.

Over the years, I’ve developed fond feelings for many programs on the social insurance side of the social safety net here in the United States. Like Cardi B, I am grateful to President Franklin Delano Roosevelt for the Social Security benefits that are available to workers upon retirement. I’ve also seen firsthand the difference that Social Security Disability Insurance makes in the lives of people with serious mental illness. And I’m at the edge of my seat as I watch the evidence base around paid family and medical leave develop.

But for me, there is one social insurance program that stands out among the rest: Unemployment Insurance.

Unemployment Insurance is that rare government program with a name short enough that it doesn’t need to be abbreviated. But a love interest needs a pet name, so here I’ll call it “UI” for short.

When evaluating a potential main squeeze, I pay attention to character. An altruistic impulse is very attractive, and UI has altruism on lock. It’s the main government program that helps workers who lose a job through no fault of their own, and it pays eligible workers a portion of their normal wage while they look for work.

Of course, some people think of our means-tested programs as more focused on those in need than my UI. This is because eligibility for means-tested programs is based on need, while social insurance programs allow you to draw benefits if you have contributed over time or your employer has contributed on your behalf. So, some observers conclude that means-tested programs are big-hearted, while social insurance programs are scrooge-like. And I have to say to these people: You are wrong. Yes, means-tested programs are incredibly important. But you don’t really know my UI.

In fact, UI’s social insurance structure is part of its allure. Both means-tested and social insurance programs are vital to the health and well-being of the U.S. population. But research shows that claimants feel less stigma when applying for and receiving benefits from social insurance programs than means-tested programs. And typically, social insurance programs enjoy support that protects them from being dismantled by overeager budget cutters.

But what makes UI different from all other social insurance programs? Why does it hold a special place in my heart? Let me count the reasons:

There are so many reasons that I love UI, but as happens in any long-term relationship, over the years, I’ve noticed places where UI has room to grow and change.

UI helps workers, but it helps some workers more than others. Levels of the program’s use are low, and they are lowest among workers from disadvantaged demographic groups—women, people of color, and people without college education. These are the very people who need the benefits the most.

Why could this be? One reason is that the UI system is antiquated. Its eligibility rules were put in place in the 1930s. A lot about work in the United States has changed since then. Eligibility rules were designed for families with one full-time breadwinner, which leaves many workers who are balancing work with school or family responsibilities ineligible for benefits. While its old-fashioned sensibilities are part of UI’s charm (after all, it was borne in an era of great hope for workers), my dear UI needs to get with the times and help workers who have erratic schedules, who are not directly employed by the company that benefits from their work, and who are female or low-paid.

Then, of course, there is that pesky issue of UI’s trust fund. It’s nice to have a beau that is flush with cash, am I right? But UI tax revenues have not kept pace with wage growth, which can leave UI broke.

Remember when I told you about how I love UI because of its social insurance structure, which insulates it from being dismantled? Well, when UI is hard up for cash, even that social insurance structure does not protect the program, and policymakers restrict access to UI benefits. When people can’t access UI benefits, the program doesn’t live up to its full potential: It doesn’t deliver the benefits to individuals and the economy that get my heart racing.

Maybe you know that when you’re with a love interest for a long time, you start noticing their little quirks that get under your skin. The little quirk about UI that drives me up the wall is not that UI leaves its dishes in the sink, but rather that employer contributions to UI are experience rated, which means that employers pay more taxes when their former employees claim more benefits—which gives employers an incentive to prevent workers from claiming benefits. Why, UI? Why?

Despite these flaws, I won’t abandon UI. I’m in it for the long haul. With other researchers, advocates, policymakers, and citizens, I hope to support UI as it grows, changes and—in accordance with the research—becomes the best program it can be. XOXOXO.

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Testimony by Heather Boushey before the Ways and Means Committee

Posted on by Maria Monroe


Heather Boushey
Washington Center for Equitable Growth

Testimony before the Ways and Means Committee
Subcommittee on Select Revenue Measures
Hearing on “How Middle Class Families are Faring in Today’s Economy”

Remarks as Delivered
February 13, 2019


Thank you, Chairman Thompson and Ranking Member Smith for extending me an invitation to speak today. I am honored to be here. My name is Heather Boushey and I am Executive Director and Chief Economist at the Washington Center for Equitable Growth.

I’m here to talk about the state of the American middle class and evidence-backed ideas and policies that you as a Subcommittee and as lawmakers can use to promote strong, stable, and broad-based economic growth. That is also the focus of our Center.

Statistics that we use to measure the economy, like GDP and job numbers, have become less representative of what people across the U.S. and your constituents are feeling. There is a reason that the President’s boasts of 4 percent growth ring hollow to those who you meet at home. Headline GDP numbers don’t tell us how that growth is distributed, just as headline job numbers do not tell us if good jobs are being created. The question of who gains from economic growth is crucial to understand.

Research from the economists Thomas Piketty, Emmanuel Saez, and Gabriel Zucman show that for the 117 million U.S. adults in the bottom half of the income distribution, economic growth has been non-existent for a generation. Meanwhile, the income of the top 1 percent has tripled since 1980.

As incomes have stagnated, the building blocks of a stable middle class living have steadily become more expensive. Health care, child care and education are a few fundamental, but increasingly unaffordable, pillars of the American Dream. A median-income family has to spend nearly 20 percent of their income to cover childcare costs. The total cost to attend a four-year university has increased from $26,000 to more than $100,000 over the past four decades. The U.S. is unique among rich countries in not providing workers with nationwide access to paid family and medical leave.

Rising inequality and increasing barriers to a middle-class life are limiting economic mobility. Economist Raj Chetty found that upward absolute mobility in the U.S. declined precipitously between the mid-1900s and today. Children born in 1940 had a 90 percent chance of earning more than their parents. For children born in 1980, it was only a 50-50 chance. This is wrong. Chetty’s analysis shows that 70 percent of the decline in mobility happened because of rising inequality. Thus, to improve mobility, we must address inequality.

This Subcommittee has a vital role to play in rebalancing policy toward the majority of Americans. The Tax Cuts and Jobs Act is contributing to inequality in the United States by lavishing benefits on corporate shareholders and the already wealthy. The Tax Cuts and Jobs Act cut taxes for those at the top in the long run, while decreasing the revenue available to fund investments in family economic security, like education, healthcare, childcare and housing. The purpose of the tax system, as with public policy in general, is to support the living standards of U.S. families.

So what can you do about this? Your policy agenda should comprehensively address economic issues at the bottom, middle, and top of the income spectrum. At the bottom end, one easy step is to preserve and expand evidence backed refundable tax credits like the Earned Income Tax Credit and the Child Tax Credit, which lifted 8.9 million Americans out of poverty in 2017.

In the middle, it is important to make sure the fruits of growth are widely shared and to make the economy work for workers and families. Some proven ways to do this include making sure every family can afford to send their children to high quality, affordable childcare and offering a national paid family and medical leave. It can also mean investing in infrastructure.

And we need to know much more about the top. Many of the statistics we rely on to inform us about the state of our economy are measures of the average. In an era of rising inequality, overall GDP numbers are becoming less informative about the experience of the majority of people you represent. The Measuring Real Income Growth Act, introduced by Representative Carolyn Maloney, would disaggregate quarterly or annual GDP growth numbers. This would tell us what growth is experienced by low-, middle-, and high-income Americans.

Instead of promising “4 percent growth,” the goal could become “4 percent growth for the middle class.” This data should be made available in real time so we can design policies to lift up those groups that really need it.

Thank you again.

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Who profits from patents in the United States?

Posted on by Maria Monroe

Overview

In standard competitive models of the labor market, we think of firms as price takers. That is, workers are paid a wage that is a function of their skill level, and firms take the market-level prices of skills as given. Yet in practice, there is growing empirical evidence that firms contribute substantially to wage inequality across identically skilled workers. Put simply, how much you earn seems to depend in part on the firm at which you work as opposed to depending solely on your own skills.

One natural explanation for this is that the performance of firms matters for what they pay their workers—in the sense that workers employed at firms that are doing better might earn more. But economic research aimed at testing for causal evidence on whether firm performance matters for worker pay has been challenging for two reasons. First, from an empirical perspective, researchers would ideally isolate clear shocks to firm performance and then trace through how those shocks propagate into worker pay. Although that thought experiment is simple enough to describe, nearly all past attempts to analyze this question have instead analyzed observed fluctuations in firm performance over time but without making an attempt to understand the source of these fluctuations.

Second, in the small number of cases where researchers have successfully identified clear shocks, researchers have lacked the type of detailed panel data needed to cleanly analyze wage responses among incumbent workers.1 That type of panel data is critical because the composition of workers employed at a firm may change in response to firm-level shocks. More specifically, when a firm discovers a new invention, it may hire more skilled workers in order to develop and market that invention. Average wages at the firm would then go up, but that could solely reflect a compositional change in the average skill level of workers employed at the firm—even if no “rents” (economic parlance for profits above the cost of production plus a reasonable return for the firm) from the innovation were actually being passed through to workers’ wages.

Worker-level panel data is needed in order to test whether the pay of incumbent workers actually changes in response to firm-level shocks. This column summarizes a recent academic paper that I wrote with my co-authors Patrick Kline at the University of California, Berkeley, Neviana Petkova at the U.S. Department of Treasury, and Owen Zidar at Princeton University, in which we try to make progress on answering this question by investigating how the granting of patents affects the performance of firms and their workers’ wage compensation using a new linkage of U.S. patent applications to U.S. Treasury business and worker tax records.

Briefly, our research paper documents some of the first evidence that, at least among among small, innovative firms, the increased profits derived from a patent do partially accrue to firms’ workers in the form of higher wages, though the bulk of those shared profits are returned as higher wages to employees at the top of these firms’ earnings distributions. Our interpretation is that firms choose to share profits with these workers because they would be costly for the firm to replace. How we gathered this evidence and arrived at these findings are detailed below.

Empirical approach: Comparing accepted and rejected patent applications

Patents provide firms with a temporary period of market power, during which they can charge supracompetitive prices and earn rents that allow them to recoup the fixed costs of their research investments. In our academic paper, we try to isolate quasi-random variation in which firms receive patents and to then leverage that variation in order to look at how patent-induced rents propagate into worker wages.

Specifically, consider the following thought experiment. Take two patent applications submitted by two separate firms to the U.S. Patent and Trademark Office in the same year, covering the same general type of technology. (In USPTO parlance, the two patent applications are sufficiently similar that they will be reviewed in the same Art Unit, or specialized group of USPTO examiners). One of the two applications is initially allowed—that is, it is granted on the first round of review. The other application is initially rejected. Under some assumptions, researchers can use firms that had patent applications initially rejected as a counterfactual for what would have happened to the outcomes for firms and workers at firms where patents were initially allowed, had the patent (counter-to-fact) not been granted.

Of course, it isn’t clear whether this thought experiment offers a clean comparison. It may be that better patent applications are more likely to be granted patents, in which case firms with patents that were initially rejected might not be a good comparison for firms with patents that were initially accepted. In practice, past research has documented a potentially large idiosyncratic component to patent grants—namely, that there is variation across (quasi-randomly assigned) patent examiners in their likelihood of granting patents based on observable similar applications, implying that some firms have their patent application granted because they were “lucky” in being assigned to a lenient patent examiner. 2

More directly relevant to our new paper, however, is our ability to assess empirically whether firms with patents that were initially accepted and firms with patents that were initially rejected look similar in terms of the levels and trends in their outcomes in the years prior to patent applications being submitted. What we find is that they do, lending credibility to this empirical approach.

The data we used

Our empirical analysis relies on a new linkage of two datasets. The first dataset is the census of published patent applications submitted to the U.S. Patent and Trademark Office between roughly 2001 and 2011. The second dataset is the universe of U.S. Treasury business tax filings and worker earnings histories drawn from W2 and 1099 tax filings.

In the United States, we are able to observe both accepted and rejected patent applications filed since November 29, 2000 under the American Inventors Protection Act. This data is what enables us to analyze the thought experiment described above since we can observe all firms filing for patent applications, including those firms granted patents, as well as those firms not granted patents. In practice, constructing this data on U.S. patent application filings is complicated because it requires stitching together several different USPTO administrative datasets. But in the end, we are able to combine several different public use files from the USPTO in order to construct a comprehensive dataset on patent applications filed over this time period, including information on the timing and content of the USPTO’s initial decision on each application, which is what we need in order to implement our empirical analysis.

We link the firms applying for patents (the so-called patent assignees) with firm names in the U.S. Treasury business tax filings (form 1120 for C corporations, 1120S for S corporations, and form 1065 for partnerships). The business tax filings data offer a high-quality set of firm-level variables, from which we are able to construct multiple measures of firm performance. We then link these business tax filings with worker-level W2 and 1099 filings in order to measure the number of employees and independent contractors, as well as various worker compensation measures. Of particular value for this analysis, the combination of the business and worker tax filings provides a window into compensation outcomes for many different types of workers, including firm officers and owners, who prevail at the top of the income distribution.3

Identifying valuable patents

It is well-known that most patents generate little actual value to the firm.4 In our context, this means that considering the full universe of patent grants would provide very little insight into the relationship between firm-level outcomes and worker-level earnings since most patent grants generate no shifts in firm-level outcomes. With that concern in mind, we designed our analysis to focus—in two ways—on a subsample of valuable patents that we expect to generate meaningful shifts in firm outcomes at the time the patents are initially allowed.

First, following the work of economists Joan Farre-Mensa at Northeastern University’s D’Amore-McKim School of Business, Deepak Hegde at New York University’s Stern School of Business, and Alexander Ljungqvist at the Stockholm School of Economics, we restrict our analysis to firms applying for a patent for the first time, for which patent decisions are likely to be most consequential.5 Second, among this sample of first-time applicants, we build on the analysis developed by Leonid Kogan at Massachusetts Institute of Technology’s Sloan School of Management, Dimitris Papanikolaou at Northwestern University’s Kellogg School of Management, Amit Suru at Stanford University’s Graduate School of Business, and Noah Stoffman at Indiana University’s Kelley School of Business to identify a subsample of predictably valuable patents.6

Kogan and his co-authors use so-called event studies to estimate the excess stock market return realized on the grant date of U.S. patents assigned to publicly traded firms. We develop a methodology for extrapolating from their estimates the value of patents for both nonpublicly traded firms in our sample and for firms whose patent applications are never granted. Specifically, we use characteristics of firms and their patent applications that are fixed at the time of application as the basis for extrapolating patent values. (Please see our working paper for a detailed description of this methodology.)

What we find, as expected (and comfortingly so, from the perspective of validating our empirical approach), is that low-value patents induce essentially no changes in outcomes for either firms or their workers. In contrast, high-value patents have larger, statistically significant effects on outcomes for both firms and workers.

We also document that firms with patent applications that are initially allowed exhibit similar trends in outcomes for firms and workers to those whose patent applications are initially rejected in years prior to the initial decision. In contrast, surplus per worker (where surplus is, roughly, profits plus the wage bill) rises differentially for firms with high-value patent applications that are initially allowed after the initial decision date, and those profits remain elevated afterward. Similar, although more muted, trends are observed for higher wages per worker.

The ratio of these two impacts is roughly one-third. That ratio can be interpreted as implying that workers capture roughly 30 cents of every dollar of patent-induced surplus in the form of higher earnings. Yet those higher earnings are not distributed evenly across the workforces of these firms. Our paper documents evidence that, although average earnings at these firms increase, patents exacerbate within-firm inequality on a variety of margins. In particular, we document that earnings increases are concentrated among employees in the top quartile of the within-firm earnings distribution and among employees listed on firm tax returns as “firm officers.”

Similarly, the earnings of owner-operators rise more than the earnings of other employees. And the earnings of male employees rise strongly in response to a patent allowance, while earnings of female employees are less responsive. Inventor earnings—defined as the earnings of employees ever listed as inventors on a patent application 7—are more responsive than are the earnings of noninventors, although we document substantial wage changes even for noninventors.

Conclusion

Our paper interprets this set of empirical findings in the context of a simple economic model in which incumbent workers—that is, workers who were present at the firm at the time the patent application was filed—are imperfectly substitutable with new hires. We think this economic model appropriately captures the features of the small, innovative firms we study because the innovative work conducted at these firms is necessarily specialized and proprietary in nature, which probably makes it costly to replace incumbent employees with new hires. In this model, firms choose to share economic rents with incumbent workers in order to increase the odds of retaining them. We document empirical results consistent with that prediction—namely, that worker retention rises most strongly among groups of workers with the largest earnings increases.

More broadly, our empirical findings provide some of the first evidence that truly idiosyncratic variability in the performance of firms is an important causal determinant of worker pay. Given that firm productivity is highly variable and persistent, it is plausible that firm-specific shocks contribute substantially to permanent earnings inequality across identically skilled workers, at least among the types of small, innovative U.S. firms that we study.

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