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Managing debts, and expectations

By Peter Coy and Jena McGregor

updated 3:02 p.m. ET Nov. 13, 2008

The parallels between the current economic downturn and the Great Depression are often scary. This is the first time since the 1930s that the U.S. has experienced big, extended declines in house prices. And as in the Depression, the financial system is under extreme stress.

But there is one important way in which history is not repeating itself. Average annual earnings of workers fell for several years in the 1930s but have not fallen since. And it looks like they won't fall in 2009, either. Businesses are reporting that they plan to increase pay by roughly 3.5 percent in 2009 for U.S. workers, according to recent surveys by compensation consultants Mercer, Watson Wyatt Worldwide, and Hewitt Associates. Salary increases are crucial because rising wages make it easier for some families to pay their debts.

By penciling in pay hikes, employers are signaling that they don't believe that the U.S. government will flub policy so badly that the country succumbs to another depression. Their plan to raise pay is good for the economy: Lenders will be more likely to make loans if they think families will have the income to pay them back. Households will be less afraid to shop. "Confidence is crucial to limiting the negative effect of the current financial crisis," says International Monetary Fund economist Luca Antonio Ricci.

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The news isn't all good. Pay hikes may fall below current expectations, and while employers are planning to raise pay, they are simultaneously cutting jobs. The jobless rate hit 6.5 percent in October, and many economists think it could reach 8 percent by late 2009. Employers are also looking for less conspicuous ways to save on benefits, such as reducing 401(k) matches or increasing deductibles and co-payments in health plans.

A Watson Wyatt Worldwide survey in mid-October showed that 26 percent of employers were planning layoffs or other reductions in force in the coming 12 months, while 25 percent planned to raise employee contributions for health care. In contrast, only 4 percent were planning to cut salaries. "Firms are cutting workers instead of wages," says Ethan S. Harris, co-head of U.S. economics at Barclays Capital in New York.

By raising pay while cutting jobs, companies can "thin the herd" while giving remaining workers "the big corporate hug they need," says William C. Yoh, CEO and president of Yoh, a unit of Day & Zimmerman Group that supplies high-tech temps. Starbucks recently announced it was cutting jobs but isn't cutting pay or benefits. "We have to take care of our partners [i.e., employees] and keep them engaged," says spokeswoman Tara Darrow.