Justin Wolfers wrote a very good article in the New York Times on the so called relationship between wage growth and the level of unemployment. Recent unemployment data from the USA has shown that it has fallen faster that what was anticipated – figures have fallen 1% in the past three years to 5.9%. However what is unusual about this is that the economics textbooks say that lower unemployment leads to faster wage growth and this has not been evident – see graph below. Wages tend to increase when:
1. Workers feel they have job security
2. When there is lower unemployment companies feel they need to pay better wages to attract the best workers
Ultimately when there is wage growth these extra cost pressures feed through into higher inflation something that has not been prevalent in the US economy. The key variable in this situation is how much spare capacity is in the labour market. When unemployment gets near to its natural rate this puts pressure on prices. Any central bank would be very cautious to further stimulate growth when unemployment is close to the natural rate of unemployment – NRU. The issue is that the Federal Reserve are not entirely convinced that they know what the NRU is – their current estimate is 5.5%. How can we explain that the lack of wage pressure is evident when the economy is about to run out of spare capacity? There are a couple of explanations:
1. The unemployment rate is giving us a false signal, and there are millions more workers waiting to return to the labour market than suggested by the official statistics. That is, the jobless will return when the jobs return.
2. The natural rate is really much lower than most economists estimate. After all, at the end of the Clinton administration, unemployment was below 4 percent, while inflation remained low and stable.
Business will only feel it necessary to increase prices if wage growth is greater than inflation and the rate of productivity growth. With the Fed Reserve targeting inflation of 2% and productivity growth at approximately 1-2% the economy is out of spare capacity when wage growth is between 3-4%. This suggest that there is currently spare capacity.
A telling graph below showing how the wages of different sectors have been affected by GFC. As you would expect the car industry and the manufacturing sector saw a decrease in wages but those in the financial sector have benefited from a rise in their pay.
In early August this year fast-food workers across the US staged a walkout in protest about their levels of pay – they were demanding an increase from $7.25 (Federal Minimum Wage) to $15 an hour. Under the current minimum wage a worker’s income is $15,000 per annum which is below poverty level pay. Although the minimum wage has increased it is still below its peak in 1968 when it was worth approximately $10.70 an hour in today’s dollars. As well as the low pay, workers in the fast food industry get few benefits and also prospects for full-time work are limited. Add to that a weak job market and ultimately bargaining position, the prospects for these workers look bleak. Although this low pay has been prevalent for many years why is it that is has become such a political issue?
Why are older workers in fast-food and retail jobs?
Historically these part-time jobs have been filled by students or parents looking for work to supplement the family income. However with the downturn in the US economy and increasing unemployment, many in the labour force have had no choice but to try and pick-up any available work. This includes major income earners for families and today low-wage workers provide up to 46% of their family’s income. This is in contrast to forty years ago where there was no expectation that fast-food or retail jobs would provide the living wage as they were not the jobs that the main breadwinner in the household was employed in. In the 1980s profitable companies like Ford, General Motors and other manufacturing industries were big employers in the US economy. Workers were well paid and also had the benefit of pension plans and medical cover. However globalisation and the drive for lower costs have seen a number of US firms looking to locate overseas in countries such as Mexico and China.
The above is a brief extract from an article published in this month’s econoMAX – click below to subscribe to econoMAX the online magazine of Tutor2u. Each month there are 8 articles of around 600 words on current economic issues.
I found this graph in New Zealand Association of Economists publication entitled “Asymmetric Information”. It shows the effects of immigration policy and considers the broader effects of immigration – not just the simple fact that immigration increases the size of the labour force and therefore puts downward pressure on wages. It suggests that immigration shifts the aggregate demand curve to the right and this can increase inflationary pressure which ultimately raises wages. There is also the chance that this could lead to an outward migration of domestic workers as their jobs are taken by those coming into the country. Below is an extract from the article:
The model shows the flow of immigrants in the centre of the diagram, and the well-recognised downward impact on domestic wages through increased supply. The extent to which increased supply of immigrants can impact domestic wages depends on the occupational attainment of immigrants, and the extent to which immigrants are substitutes for domestic labour.
The left-hand side of the diagram shows the added effect of immigration, with an upward effect on domestic wages through increased demand for goods and services and new job creation. This effect can explain why wage decreases may not result after an influx of immigrants. In addition, a feedback loop is shown on the right-hand side, which shows that if downward pressure on wages is created, outward migration of immigrant or domestic workforce would have an increasing feedback effect on wages. The out-migration part of the diagram is pertinent to New Zealand due to its geographic and institutional proximity to Australia.
Just covering the labour market with my A2 class and New Zealand at present gives some good examples of labour market imperfections. You would think with the commencement of the major rebuild in Christchurch would have positive effects on the New Zealand labour market. Economists had forecast unemployment to drop below 6% at the end of 2012 however the December quarter had the rate at 6.9%. The Westpac Economic Overview came up with some reasons as to why employers have been reluctant to take on more labour.
1. Employers are increasing the hours that labour is working rather than taking more on. After the GFC a lot of employers kept labour but reduced their working hours so when the economy starts to grow there is a tendency for them to increase the working hours rather than employing new staff.
2. There has a lack of geographical mobility as workers have been reluctant to move away from areas of New Zealand that have weak growth to those that require more labour – eg. Canterbury. Since late 2010 job vacancies in Christchurch have increased dramatically and employers have found it increasingly difficult to find labour = wages have risen faster in Canterbury than most of New Zealand. The RBNZ reported that this two-speed labour market is suffering from the lowest matching efficiency – the speed with which job vacancies and additions to the labour force translate into jobs. This implies higher wages and higher unemployment than normal.
3. The high NZ$ make imported capital cheaper and there has been an increase in a firms’ intentions to invest in plant and equipment (form overseas) but a reluctance to spend money on new buildings or labour.
US workers need to work 5 minutes
Germans – 7 minutes
Czech Republic – 7 minutes
Australia – 12 minutes
UK – 14 minutes
Mexico – 15 minutes
Philippines – 38 minutes
India – 54 minutes
World average – 20 minutes
Growing adult populations and rising living standards mean that beer consumption in emerging markets is booming. Drinkers there drank two-thirds of the world’s beer in 2011. By 2016, it will be 72%.
Former IMF Chief Economist and the person who saw the financial crisis coming, Raghuram Rajan, has argued that inequality caused the crisis and the US government helped in the process. Since the days of the Reagan Administration wages of the working class American have been falling behind. Reagan, as with Thatcher in the UK, introduced pro market reforms in the 1980’s but recent presidents have addressed the problem of stagnant wages by making access to mortgage finance a lot easier.
In 2007 – 23.5% of all American income went to the top 1% of earners – the highest percentage since 1929. Research has shown that the behaviour of the richest 20% has affected the spending of the bottom 80% – the more the rich spend the more the lower incomes want to keep up with them. It is commonly know as ‘trickle-down consumption’.
Less equitable distribution of wealth can boost demand for government borrowing to provide for the lower income. In the last decade this borrowing would have occurred with financial globalisation that allowed many governments to rack up debt cheaply. It seems that the ease of credit drives inequality.