Comparing Federal and Private Sector Compensation

By Biggs, Andrew; Richwine, Jason | AEI Paper & Studies, March 4, 2011 | Go to article overview

Comparing Federal and Private Sector Compensation


Biggs, Andrew, Richwine, Jason, AEI Paper & Studies


Introduction

The seemingly excessive compensation of public sector employees was a major political issue during the 2010 election campaign, and the new Congress is now considering reforming the federal pay system. It is essential that lawmakers, political commentators, and voters know whether and to what extent federal workers are paid more than what they could earn in the private sector. Partisans on both sides of this issue have been given to extreme and unsupported claims. Politicians and journalists have exaggerated the federal-private pay disparity by comparing raw salary figures without taking into account the above-average skills of federal workers. Defenders of federal pay, particularly public sector unions, have claimed in turn that federal workers are underpaid and described evidence to the contrary as "lies" and "scapegoating." (1)

In response to both sides, we offer this careful analysis of federal compensation. Drawing on three decades of academic research, the latest Census Bureau micro data, official government reports, and standard economic tools, we document the extent to which federal workers are "overpaid" by private sector standards. We conclude that the total federal pay premium--combining cash wages, fringe benefits, and job security--is approximately 39 percent, or nearly $60 billion annually.

Cash Wages

Federal salaries are significantly higher on average than private sector salaries, but this kind of comparison is simplistic and misleading. Since federal workers have more skills and experience on average than private workers, we would expect federal salaries to be higher. The relevant question is whether federal workers earn more than comparable private sector workers.

The standard method in the academic literature for making apples-to-apples wage comparisons is regression analysis, which allows economists to control for the "human capital"--that is, the earnings-related skills and personal characteristics--of workers in each sector. The Congressional Budget Office has termed the human capital approach "the dominant theory of wage determination in the field of economics," (2) and for good reason. Similar methods have been utilized for studies of the union pay premium and discrimination by race or gender. This basic approach is familiar to and accepted by nearly every trained economist. If federal salaries are still higher after controlling for a large set of earnings-related differences, then federal workers earn a wage premium--that is, they are overpaid relative to what they could earn in the private sector.

For over three decades, academic economists have run regressions with various specifications to estimate the federal premium. Though they have used different datasets with different control variables covering different time periods, their results have been largely consistent. The typical finding is a federal salary premium in the range of 10 to 20 percent, meaning a federal worker receives $1.10 to $1.20 for every $1.00 earned by a comparably-skilled private worker. (3)

Last year we employed the standard regression methodology using 2009 wage data from the Current Population Survey (CPS), a monthly survey run by the Census Bureau. As reported in the Wall Street Journal, we found a 12 percent federal premium for 2009, right in line with other economists' estimates. (4)

Data and Methods. For this larger study of federal compensation, we decided to average wage estimates over the past five years, meaning the 2006 through 2010 editions of the CPS. The five-year average is more representative of recent trends in federal pay, and the larger sample size allows us to use a more detailed set of control variables.

We used the Annual Demographic Supplement of the CPS, which contains information on annual earnings. The analysis is limited to adult civilians working full-time for a wage or a salary during the whole previous year. …

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