Another Reason For Income Inequality: Big Companies Aren’t Paying Workers As Much

Corporations could pay if they wanted to: Instead, they’re outsourcing jobs like janitor or cafeteria worker and keeping the savings.

Another Reason For Income Inequality: Big Companies Aren’t Paying Workers As Much
[Illustration: carloscastilla/iStock]

As economists seek to explain growing income inequality, they normally point to factors like globalization, technology, and the loss of union power. Less acknowledged is another set of reasons: trends in how companies pay their workers.


In some respects, that’s due to a growing performance gap between top companies and their industry competitors. Some corporations have managed to vastly improve their productivity in the last decade or two, at the expense of others (think of the dynamic between Amazon and Barnes & Noble). Higher-performing companies are able to pay their workers appreciably more than struggling ones. In other words, inequality is partly tied to dynamics between firms, not just dynamics between workers at the low and high end of a company.

Moreover, as a new research paper shows, there have also been changes in relative rates of pay between firms of different sizes. Historically, bigger companies have paid more than smaller ones, and the differences have persisted across the organizations–that is, big corporations paid more to both CEOs and people in the mail room. Regardless of role, an employee of a company with more than 500 employees could typically earn 30%–50% more than someone doing the same at a 25-person company.

But since the 1980s, that’s stopped being true. People at bigger companies still make more, but not as much more as they used to. These changes account for 20%-30% of rising inequality between 1987 and 2014, according to the paper’s authors, Adam Cobb at the University of Pennsylvania, and Ken-Hou Lin and Paige Gabriel at the University of Texas at Austin.

As Walter Frick wrote in the Harvard Business Review, one reason for these changes is this: Big companies simply got rid of low-income workers over that time period, choosing instead to focus on “core competencies” and outsourcing janitors and cafeteria workers to service firms. Thus, companies no longer had to worry about inflating the wages of those workers to remain in line with other corporate salaries. While this was a cost-saving maneuver for companies, it ended up stranding those lower-income workers in contract jobs at catering companies, which, because they’re not tethered to a large corporate pay scale, paid workers at something closer to the “market rate”–that is, a good deal lower.

Frick says:

The theory here is that the big-firm pay premium was partly a consequence of having lots of different kinds of workers at the same company. For example, if a big firm had some cafeteria workers on payroll, it felt at least some pressure not to let their wages fall too far, because inequality was bad for morale. But when corporate catering companies came along, two things happened. First, the catering companies hired employees at the going market rate, without any wage premium. Second, the big companies that still had cafeteria staff started comparing how much it paid those workers to the alternative of contracting with the caterer.

The “corporate inequality” explanation for growing wage differences is less satisfying than some others, including the role played by captured politicians and the loss of worker bargaining power. But, according to many economists, it is an important part of the picture. If we want to fix inequality, we need to pay attention.

About the author

Ben Schiller is a New York staff writer for Fast Company. Previously, he edited a European management magazine and was a reporter in San Francisco, Prague, and Brussels.