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Cost of Living
Rising cost of living is a pay level consideration for workers and their unions.
Q: What happens when the cost of living rises rapidly?
A: Workers and unions pressure employers to adjust wages to offset the rise in cost of living. In part, these demands represent a plea for increases to offset reductions in real wages.
| Real wages |
Real wages are utilized as an index of the purchasing strength of the dollars received from salary or wages. They are earnings that are deflated by a price index (or earnings divided by the cost of living). For example, according to the Pew Research Center, Americans’ paychecks are bigger than 40 years ago, but their purchasing power is about the same. |
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Employee expectations
Salary pressures resulting from changes in the cost of living fluctuate at the same pace as living costs. However, price rises in most cases produce employee expectations of at least annual pay increases.
It seems logical that employees will compare any salary increase with the changes in the cost of living in order to calculate if they are "getting ahead."
Employers understandably resist increasing pay levels on the basis of increases in the cost of living, unless going salaries fully reflect these changes (which they seldom do).
Although increases in the cost of living are partially translated into salary increases by some employers through payment of comparable salaries, long-term contracts with unions have fostered other methods of incorporating cost-of-living changes:
- Reopening clauses. These permit pay to be renegotiated during a long-term contract.
- Deferred increase. An attempt to anticipate economic changes at the time the contract is signed.
- Escalator clauses. Pay is adjusted during the contract period in accordance with changes in cost of living that are measured by changes in the U.S. Bureau of Labor Statistic's Consumer Price Index (discussed later in the course).
Escalator clauses vary in popularity from year to year in accordance with how fast the cost of living rose during the period immediately preceding the contract signing and with anticipation of subsequent rises.
The popularity of escalator clauses decreases due to:
- reduced inflation
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AND
- employers' bad experiences in making cost-of-living adjustments.
Non-union employers are less likely to adjust salary levels in accordance with changes in the cost of living. While painfully aware of the effects of inflation on the real income of employees, most employers base salary level adjustments on changes in going market rates. But some do make adjustments for cost of living by granting general increases based at least in part on cost-of-living changes.
For example:
In 2022, high single-digit inflation prompted some non-union employers to make cost-of-living adjustments.
Memory Jogger
Which of the following are ways employers may deal with cost-of-living increases?