Big companies used to pay the best wages. Not anymore

Treasury: Bigger paychecks are coming
Treasury: Bigger paychecks are coming

Whether or not tax reform was the cause, Walmart's decision last week to raise its minimum wage and offer bonuses was a big deal.

The United States' largest private employer has 1.4 million workers, most of whom fall on the bottom of the income scale, so even a dollar-an-hour raise impacts their lives and the economy overall.

The same goes for Amazon (AMZN), which is rapidly growing in markets where its warehouses are located, as well as Kroger (KR), Home Depot (HD) and McDonald's (MCD) — all of which are service industry corporations with vast, low-paid workforces.

But America's largest companies weren't always the ones doling out the small paychecks. The fact that they are now represents a seismic shift in how the American economy is structured.

For many years, big companies paid better. The biggest employers in America in the 1950s, 60s, and 70s were unionized industrial powerhouses, including General Motors, U.S. Steel (X), General Electric (GE) and Chrysler, where workers earned middle-class salaries.

That relationship, however, broke down in the years between 1980 and 2013, researchers found. In a new study presented at an annual gathering of economists earlier this month, a team from Stanford, the University of California, Berkeley, and the Social Security Administration documented a shrinking correlation between firm size and worker earnings.

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"Large firms have paid a significantly higher wage for more than a century," they wrote. "But over the last thirty years this large firm premium has started to disappear."

What's driving that decline?

Part of it comes from the large shift of workers from manufacturing into the lower-paid service sector, which you can see in the Fortune 500 over the decades -- oil companies and car manufacturers dominated the top of the list in 1980, and in recent years they've been supplanted by retailers, logistics companies like FedEx, and fast food chains.

But most of it comes from big companies within industries that pay workers less than they used to.

The breakdown of the large firm wage premium was most pronounced in the retail and service sectors, which have gained tens of millions of workers since 1980. Meanwhile, the premium remained almost unchanged in the manufacturing sector, which has lost nearly as many.

The paper's authors have a few theories for why this is happening.

The first is that these lower wages are largely driven by outsourcing. Over the past 30 years, large professional employers — from banks to law firms to universities — have contracted out many of their operational functions, including security, cafeteria staff, and janitors. That's shrunk the size of those relatively high-paying firms, since they no longer directly employ their service workers. And it's expanded the size of staffing firms, such as Aramark (ARMK) and G4S (GFSZF), which have become some of the world's largest employers and typically pay workers less than what they would've made if they were hired directly by those banks, law firms, and universities.

The second theory is that large firms are driving a harder bargain with workers, as shareholders push CEOs to lower the percentage of operating budgets that go toward wages. Last year, for example, a Bank of America analyst downgraded Chipotle (CMG) for failing to sufficiently reduce its labor costs.

Another idea comes from a different paper also discussed at the economists' annual confab in Philadelphia. This one has to do with the fact that when firms get too large, workers simply have fewer opportunities to defect to other employers, and thus less leverage to bargain for higher wages.

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This analysis, published last month by the National Bureau of Economic Research, used data from to measure how concentrated the market for different types of workers is in different commuting zones. For example, if there are only a few large employers of janitors in a small town, that market is more concentrated than a bigger city that has several janitorial companies to choose from.

The results show that wages are higher in places where the concentration of employers is lower, even when correcting for the health of the local economy. So the large companies in those labor markets are exercising a kind of monopoly power, except instead of using that power to raise prices on their products or services for consumers, they're lowering wages for employees who have few other places to work. In economist jargon, it's called monopsony.

That's happened in small towns as Walmart becomes the only retailer. But it also happens in other industries. Take healthcare, for example: One of the study's co-authors, University of Pennsylvania economist Ioana Marinescu, explains that insurance companies say they'll lower prices by squeezing doctors if allowed to get bigger through acquisitions.

"The argument for the merger would be: thanks to the merger, they were going to be able to get lower prices from medical providers, and that's why the merger would benefit consumers," Marinescu says. "It creates anti-competitive pressure in the labor market."

That also helps explain why larger companies these days don't usually pay much more than the smaller ones, if at all — and, if labor markets continue to get more concentrated, why wages will continue to grow more slowly than they might otherwise.

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