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Increasing Base Wages in the Retail Market

The service industry has recently taken interest in increasing low-level worker’s wages.  Wal-Mart increased base wages to $9, which was quickly reciprocated by competing TJ Maxx and Marshalls.  Similarly, Starbucks, Gap, and IKEA have committed to higher wages for their least specialized employees.  These increased wages may even be responsible for the rise in jobless rate for February: as base wages increase, discouraged workers become more inclined to return to the job hunt.

These companies have been criticized for increasing base wages, as it eats away at company profits (some companies more than others – apparently Wal-Mart’s wage increase incurred $1 billion costs).  However, increasing wages is a means to decrease job turnover.  The service industry exhibits a much higher turnover rate than private sector – the retail market especially has shown increased turnover and currently stands at about 5%.  By comparison, the average private sector sees about 3.5% of its employees leave in a year.

Decreasing employee turnover effectively lowers the costs associated with training employees.  This is no small feat: replacing an employee who earns less than $30,000 per year costs about 16% of that person’s annual wage.  Further, newly hired employees are less effective than more tenured workers, which creates an efficiency cost as well.  Retail stores are also looking to minimize turnover through other means as well.  Specifically, Wal-Mart will begin implementing a fixed schedule for its employees, in order to make work schedules more predictable.  Essentially, retailers are hoping that employees will be more loyal if they are happier.

This is interesting when considering that the service industry is expanding as a percentage of GDP while the manufacturing industry’s contribution to GDP has been declining.  In the 1970’s, manufacturing contributed to 60% of GDP while the service industry was responsible for 40%; today manufacturing accounts for 18% of GDP and services 82%.  This is resulting from higher level of technological progress in manufacturing and low technological progress in the service industry, which means that the cost of manufacturing relative to services is low.  Despite the low levels of technological progress in the service industry, companies still have to pay wages commensurate to the wages in manufacturing, or else employees will be tempted to switch job markets (this is called the Baumol Effect, which we just discussed in another econ class on Thursday).  Considering this, it behooves firms in the service industry to reduce their high retention rates in order to lower labor costs – which is their chief input.

Source: Bloomberg Business


  1. HeeJu HeeJu

    In MacroTheory, we learned many reasons why increasing wage may be a good thing for productivity in a long run. As you correctly said, increasing retention rate and thus reducing training cost are definitely two of the good causes. Increasing wage can also positively impact workers’ behavior. Higher earning means rising opportunity cost of losing job. Workers will be less likely to slack off, reducing the chance to get fired. As workers become more engaged in their jobs, their productivity increases consequently.

  2. I know the generic efficiency wage story and turnover story; it’s nice to see actual numbers.

    This does imply that senior WalMart managers were totally out of touch with what was going on in their actual operations. Yes, they saw the data, but they’re top-level execs who are busy with strategy and such, and didn’t have time for the whining of store managers. It’s good to seem them finally realizing after what, 10 years, that the quality of their core operations were deteriorating?! At the same time, they — WalMart — are so large, and their rivals so comparatively weak, that execs could ignore problems because customers had nowhere else to go.

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