Not Quite a Labor Day Celebration

While companies aren't hiring yet, they are handing out raises and promotions to employees they want to keep

By Amey Stone

In many ways, this Labor Day comes at a good point in the economic cycle. American workers may soon have something to cheer: The recovery is finally gaining strength -- witness the Aug. 28 revision of second-quarter gross domestic product to a 3.1% annual rate, up from the previously estimated 2.4% pace. Corporate earnings are perking up, and the stock market is solidly higher.

Some evidence even shows that a few companies are finding means to reward employees who have survived the downturn with bonuses and promotions -- perhaps in fear that these most valuable people may leave when the labor market eventually improves.

There's only one problem: Companies aren't hiring. In fact, their decisions to promote employees or increase compensation still seem to be motivated more by a desire to keep costs low than to invest in the future. Preliminary analysis of data collected this spring by benefits consulting firm Hewitt Associates shows that most companies are still reducing the amount they spend on base pay, not increasing it.


  "We have to face the reality that we're still in a cost-containment mode right now," says Ken Abosch, who leads Hewitt's workforce-consulting practice. "With the warming up that people are perceiving on the economic front, some companies are increasing hiring, but at this point it's a mere drip out of a faucet."

As cloudy as current labor-market dynamics are, investors can find a silver lining. For the same reason that stocks often go up when companies announce massive layoffs or corporate boards reward CEOs who implement the most Draconian "restructuring" programs, it may prove a positive for corporate earnings that companies are still so focused on keeping labor costs down.

Even though their reluctance to hire shows that businesses aren't yet confident that the economic recovery is sustainable, it also means even a small increase in revenues can flow straight to the bottom line, allowing earnings to shoot up even if sales aren't that strong. "This is a very good picture for corporate profitability," says Milton Ezrati, senior economist and strategist at investment firm Lord Abbett & Co.


  Many companies incurred great cost and a good deal of pain while slashing payrolls over the past three years of economic doldrums. They aren't about to reverse gears at the first sign of improvement, say workforce experts.

"It's definitely easier to hire someone than it is to get rid of someone," says Wayne Guay, an accounting professor at the University of Pennsylvania's Wharton School. "Given the expenses incurred when laying people off, firms will remain reluctant to hire people until they're really sure they're going to need them."

Many companies continue to shed workers as they transfer more operations overseas. In the August employment report, due out Sept. 5, most economists expect a further decline in payrolls, which fell by 44,000 in July. The unemployment rate will probably tick up a bit from July's 6.2% to 6.3% or worse in August. More sensitive weekly reports on new claims for unemployment benefits have improved recently but are now only slightly below the 400,000 mark, suggesting a stabilizing but not improving job market.


  On the bright side, at least a few companies are responding to the strengthening economy. Although they aren't planning on doing more hiring yet, these companies are starting to worry about retaining their most valuable employees, who might otherwise get lured away in a more robust job market. Hewitt's survey shows that companies planning to hand out more bonuses (even if fewer stock options) as well as opportunities for training and career development.

"They're starting first from a retention standpoint with the group they feel most vulnerable about losing and are making gestures toward those individuals," says Abosch. "The fact that they're making an effort to retain them would suggest they are concerned about the possibility of an upturn -- whether they're planning on increasing their own hiring or not," he says.

Companies are also trying to promote from within -- if they have a position that really has to be filled, that is. This may mainly be a way to dodge the exorbitant cost of bringing in new people. Promoting someone internally can mean only a zero to 20% increase from base pay. But the cost of going outside to fill the same position means 100% to 200% of that salary in added costs, for things like recruiting, training, and lost productivity, estimates Abosch. Promotions from within also become a way of cutting down on the company's overall labor force, says Michael Waldman, a professor at Cornell's Johnson Graduate School of Management.


  Ezrati believes improving corporate profits in concert with a stronger economy will eventually lead to more new jobs created by businesses. Already, he points out, wage growth is rising. Government data show that growth in hourly wages rose to 3.1% in the second quarter, up from a low of 2.6% in 2002 as companies pass on some -- but not all -- of their heady productivity gains to workers. "Rising wages are a reflection of a reasonably robust economy," Ezrati says. "Ultimately, that will lead to employment."

If the economy continues to improve, companies won't be able stay in such a risk-averse mode. Eventually executives' fear of losing their own jobs will be replaced by fear of falling behind their peers, and they'll start looking for ways to get an edge over competitors -- including scouting for the best talent, says Peter Cohan, a management consultant and author of Value Leadership: The 7 Principles that Drive Corporate Value in Any Economy (Wiley, September 2003).

That change in attitude hasn't taken place yet. "We're moving in the right direction, but the switch still needs to flip," says Cohan, who believes increasing capacity-utilization rates (now a dismal 74% on average) will signal an increase in demand that will stimulate more hiring.

Even without growth in payrolls, this Labor Day is still a good time for American workers to give thanks for a stabilizing and improving job market. But given businesses' extreme caution when it comes to hiring, it will likely take until 2004 before the real party can start.

Stone is an associate editor of BusinessWeek Online and covers the markets as a Street Wise columnist and mutual funds in her Mutual Funds Maven column

Edited by Beth Belton

Before it's here, it's on the Bloomberg Terminal.