Profitability remains a difficult challenge even after the economy returns to health next summer, and beyond. Before the economy went south, profit growth was fairly strong. Above average productivity gains were offsetting subdued gains in labor costs. Back in the golden era (1995 to 2005), price hikes were kept to not much more than 2%. But that was enough to generate strong profit growth, which set off a long and strong bull market on Wall Street. The number of workers increased on average 1.1% annually, earnings rose about 4% a year and workers' real spending power increased by 2.2%. With a productivity gain of a little more than 2% profits (net of inflation) rose 5% a year, which rallied stocks.
Those days are gone. Productivity growth is, and will likely continue to be, somewhat slower going forward. With baby boomers retiring and fewer middle-age managers to replace them, workers will remain scarce and expensive, with the work force expected to grow by 0.7% between 2005 and 2015, pushing wages higher. What's more, the retirees aren't just workers but consumers with tighter budgets. While not an immediate concern, these factors should be considered in five- to 10-year plans.
Even without the housing bust and credit market freeze, these favorable conditions were not sustainable. Health insurance premiums were bound to start rising faster than hourly compensation, and even though the difference between the two is not nearly as wide as it was two decades ago, it has been enough to force changes, including pushing more of the cost on to the employee.
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