May 10, 2018

Puerto Rico's Already Low Labor Share Keeps Falling

Options for Policymakers
Salim Furth Senior Research Fellow

Puerto Rico’s future budgets and policy are being determined in important ongoing negotiations between the territory’s elected governor and legislature and the federally appointed Financial Oversight and Management Board. The Board has the authority to dictate policy on debt and pensions, but the real policy changes needed to return Puerto Rico to growth and prosperity lie with the elected officials.

Despite having the most “pro-labor” laws in the US, the territory’s employees receive a smaller share of all net income generated on the island than any state. I previously documented that private sector employees received 25 percent of net domestic private sector income in 2012. New data show that workers’ share slipped to 24 percent in fiscal year 2016. Depressingly, labor’s share has fallen slightly every single year since 2007, when private sector employees took home 30 percent of a much larger pie.

To be sure, there are flaws with the data in question: many Puerto Ricans work off the books, so their wages are not counted, and some capital income reflects creative accounting more than actual production.

Puerto Rico has long used a European-style labor system instead of the American employment-at-will doctrine. Under Puerto Rican law, statute requires large severance payouts. A law signed by Governor Ricardo Rossello in 2017 capped required severance pay at nine months’ salary for employees hired in 2017 and beyond – still a hefty cost. That reform, and others in the 2017 labor reform, will take effect slowly.

Even after the reform, Puerto Rico maintains its “Christmas bonus,” which effectively increases the minimum wage for full time, full year workers by 8 percent. Puerto Rico is covered by the US minimum wage of $7.25 an hour, which is substantially higher, relative to local wages, than San Francisco or Seattle’s $14 per hour minimum wages.

At such a high minimum wage–the median wage in Puerto Rico is only two or three dollars above the minimum – and with employers assuming long-term responsibility for employee’s incomes, it is no surprise that previous federal and territorial tax subsidies primarily attracted manufacturers who hire vanishingly few workers.

Fortunately for Puerto Ricans, they are not stuck in this anti-employment environment, and can move to an employment-at-will jurisdiction for $104. As Puerto Ricans vote with their feet for freer labor markets (an effect intensified, but not initiated, by Hurricane Maria), the government in San Juan faces the choice of managing the island’s decline or making a bet on further mainland-style reforms of its labor laws.

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