ECONOMICS:
America at Work

By Edward Paul Lazear and Katherine Baicker

The U.S. economy continues to add jobs—2 million last year alone—and unemployment remains low. Edward P. Lazear and Katherine Baicker explain how to keep it up.

There is no question that the United States is experiencing strong economic gains, with GDP growing at an impressive annual rate of 5.6 percent in the first quarter of 2006. The economy created over two million jobs last year, and we are on track to add more than two million new jobs this year.

This job growth is undeniable, and there is good news on the wage front as well. Average hourly earnings rose this year at the fastest rate in nearly five years. In recent months, hourly compensation grew at an impressive annual rate of 5.4 percent. Per capita personal disposable income, a good measure of Americans' spending power, has grown more than 7 percent, or $2,100, since 2001. Consumer behavior is further evidence of this economic well-being: Markets are strong, and investment and consumption are robust.

Still, some claim that the benefits of this economic boom are being enjoyed only by the relatively well-off and that we have left the rest of our workforce behind. Is this true? Over the past 25 years, the wages of the skilled have grown faster than the wages of the less skilled. For example, the wages of the college educated have grown by 22 percent since 1980, whereas the wages of high school dropouts have fallen by 3 percent.

This does not mean, however, that the rich are benefiting at the expense of the poor. Instead, it means that the return to investing in education and training continues to grow. Most economists believe that the increased divergence between the wages of the skilled and the unskilled reflects technological advancements that make workers' skills more valuable. Having an economy that places great value on skills and education is a good thing. Our economy can grow more quickly when the returns to investment are high, and human capital investment is the most important form of investment.

This presents us with opportunities and challenges. We have the opportunity to increase our standard of living as our workers reap the benefits of the skills they have acquired. We face the challenge of ensuring that all Americans have access to the education and training that the modern economy values so highly.

The wages of the college educated have grown by 22 percent since 1980; the wages of high school dropouts have fallen by 3 percent.

The data show that it is this greater return to investing in education that is driving the long-run widening of the income distribution. The cause is not increases in immigration or international trade, as some have alleged. First, wages for less-skilled workers have not declined with growing trade, even in sectors of the economy with the greatest import competition. Second, some of the groups that have experienced the highest wage growth have also seen increased immigration swelling their ranks. Silicon Valley is full of highly paid immigrants and native-born Americans who work side by side, earning very high salaries in the high-tech sectors of our economy. For less-skilled workers, studies suggest that immigration has only a modest effect on wages of the native born. Third, those who have examined the data systematically find that trade and immigration account for at most a small proportion of the increased wage spread that has occurred over the past 25 years.

To make sure that the gains from technology are enjoyed by all, we must be vigilant in providing training and educational opportunity for all. Programs such as the No Child Left Behind education reform and American Competitiveness Initiative are vital steps in that direction. Perhaps even more important are steps that families can take to provide the environment and encouragement that are so helpful in producing an educated population. The president's tax cuts have made the tax code more progressive: The tax cuts will lower the share of income taxes paid by the bottom half of the income distribution by 15 percent in 2006.

Our economy can grow more quickly when the returns to investment are high, and investment in human capital is the most important form of investment.

Through education, hard work, and entrepreneurship, Americans have a great opportunity to improve their economic circumstances over their lifetimes. Half of those who are in poverty escape that status within three years. One-fifth of those in the bottom quintile of the income distribution move up within a year. Most Americans' income rises substantially the longer they are in the labor force. The average worker who was between 25 and 34 years old in 1994 earned 52 percent more in real terms in 2004. Those who invest in education increase dramatically the likelihood that they will enjoy these improvements in their standard of living.

The labor market is strong. Job growth has been impressive, and unemployment is at a very low 4.6 percent. Productivity is increasing at more than 3 percent per year. This strong economy means that we can look forward to even higher wages and living standards in the future. We should continue to strive to ensure that all Americans are able to obtain the skills that will enable them to share in this prosperity.

This essay appeared in the Wall Street Journal on May 8, 2006.

Available from the Hoover Press is Education in the Twenty-first Century, edited by Edward P. Lazear. To order, call 800.935.2882 or visit www.hooverpress.org.

Edward P. Lazear, Morris Arnold Cox Senior Fellow at the Hoover Institution, succeeded Ben Bernanke as chairman of the President's Council of Economic Advisers in February of 2006. He was formerly a member of President Bush's advisory Tax Reform Panel, where he worked with nine other panel members to look into revenue-neutral policy options for reforming the Federal Internal Revenue Code.