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The payroll tax hike wiped out a year’s worth of wage gains

The good news: Many Americans saw their paychecks get fatter in 2012, as average weekly earnings rose 2.4 percent over the course of the year.

The bad news: The expiration of the payroll tax cut this January will basically wipe away all of last year's gains.

Cardiff Garcia brings us the above chart from Credit Suisse, which notes:

We look at average weekly earnings of all employees on private non-farm payrolls: $818.69 in December. The 2% payroll tax increase clips $16.37 a week from take-home pay. ... That’s the equivalent of losing all the 2012 gain in weekly earnings in one month.

And if you include inflation on top of that, then average weekly earnings actually went down 1.4 percent compared to this time last year.

So how will Americans respond now that their paychecks are shrinking? A new study (pdf) from the Federal Reserve Bank of New York suggests one answer: They'll spend a lot less this year. And that, in turn, could bruise the larger U.S. economy.

The New York Fed's survey data found that the payroll tax cut has been a particularly efficient form of stimulus over the past two years — Americans reported spending between 28 and 43 percent of the savings, far more than they have for previous tax cuts. (Much of the rest was used to pay down debt.)

And most workers expect to cut back on spending significantly now that the payroll tax cut is vanishing. The average household making $50,000 a year will see its payroll taxes rise about $1,000 this year. According to the New York Fed's survey data, that typical household says it will cut back on spending by about $710 this year to make up the difference, with most of the rest coming out of savings.

Will that forecast hold up? That's a little hazier. The New York Fed found that Americans are notoriously bad at predicting how they'll respond to tax changes (most workers had expected to save far more of the original payroll tax cut than they actually did). But for now, Americans are saying they'll keep paying down their debts and spend less this year in response to the tax hike.

Related: More details on the expiration of the payroll tax cut, which both parties supported during the fiscal-cliff negotiations.



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Neil Irwin · January 8, 2013

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