Looking at Recessions through a Different Lens

Tuesday, January 27, 2015

Research on differential impacts of recessions is relatively new, but has already led to two popular conceptions:

  • The variance of changes to earnings increases during recessions
  • Earnings shocks affect the bottom 99 percent of the population much more than the top 1 percent of earners

Economist David Wiczer of the Federal Reserve Bank of St. Louis examined literature released last year challenging two bits of conventional wisdom regarding recessions. The paper from Fatih Guvenen, Serdar Ozkan and Jae Song examined how recessions affected the distribution of changes to earnings.1 In particular, the authors found that during downturns, the distribution of changes to earnings skews downward (that is, there are more earnings losses than during good times) and high earners also experience recessions strongly, as the fraction of earnings lost by someone in the top 1 percent is as much as double the percentage loss of the average worker.

Variance and Skewness

The first piece of conventional wisdom regarding earnings changes during recessions that the authors examined was that the variance increased, meaning that some income trajectories fell more and others rose more than during periods of normal growth. If true, then the number of people with positive and with negative changes may be roughly symmetric.

However, recessions bring about more layoffs and fewer promotions, offer more difficulties in negotiating wage increases and put pressure on firms to cut costs, including wages. Thus, workers’ earnings are much more likely to experience drops than rises during recessions. Guvenen, Ozkan and Song found that this was true across most of the income distribution, with the possible exception of the very poor.2

Top and Bottom Earners

The other piece of conventional wisdom was that the top 1 percent of earners weren’t as affected by recessions as the other 99 percent. During recessions, the earnings of the average poor worker fell by a larger extent than the earnings of the average middle-class worker, with those who were poorest during the prerecession years suffering the largest percentage decline in their income.

In contrast, the picture improves steadily for those groups with larger prerecession incomes up until the very top of the earnings distribution. For those in the uppermost income ranges, their earnings decline relatively steeply during the recession. In fact, the top 1 percent had markedly larger average falls in earnings during the last two recessions than other income groups.3 Wiczer wrote, “Indeed, the highest earners seemed to have broken the otherwise-strong pattern that recessions have a larger average effect on the poor.”

Wiczer concluded, “Even as there are great changes happening to the distribution of earnings, there are similarly great changes occurring in the distribution of earnings risk, and we are only just beginning to learn about them.”

Notes and References

1 Guvenen, Fatih; Ozkan, Serdar; and Song, Jae. “The Nature of Countercyclical Income Risk.” Journal of Political Economy, 2014, Vol. 122, No. 3, pp. 621-60.

2 A figure showing the skewness measure across income distributions is available here: https://www.stlouisfed.org/publications/regional-economist/october-2014/looking-at-recessions-through-a-different-lens#fig2

3 A figure showing income changes during the past four recessions across income distributions is available here: https://www.stlouisfed.org/publications/regional-economist/october-2014/looking-at-recessions-through-a-different-lens#fig1

Additional Resources

Posted In Labor  |  Tagged david wiczerrecessionincome distribution
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