What is the problem with wage growth?

The problem with wages growth has been a long running theme of this website, also if we look back it is something which even preceded the credit crunch. Although of course the credit crunch has made it worse. The world of economics has been wrong-footed by this as the Ivory Towers as usual projected that it would be “the same old song” as the Four Tops told us. For example the UK Office for Budget Responsibility projected that wages growth in the UK would be 4.5% now, and if they had known how far that unemployment would fall would presumably have projected it even higher.

A contributor to this has been the concept of full employment. From Investopeadia.

Full employment is an economic situation in which all available labor resources are being used in the most efficient way possible. Full employment embodies the highest amount of skilled and unskilled labor that can be employed within an economy at any given time. Any remaining unemployment is considered to be frictional, structural or voluntary.

There were and amazingly still are concepts such as the “natural rate of unemployment” below which inflation was supposed to rise. The catch has been that as we have seen unemployment rates fall post credit crunch we have seen wages either rise weakly or stagnate. At best wage growth has been lower than expected and at worst we have seen it actually fall. Something has changed.

One factor in this is clearly that the old Ivory Tower way of looking at the labour market through the lens of official unemployment rates is flawed. The concept of “underemployment” has been developed whereby people work fewer hours than they would like or take a lower skilled job. This has become entwined with quite a few issues around the concept of self-employment which is often counted as a type of “full” employment when it is not. Indeed being fully employed is in fact in the UK something you think you are rather than being something properly defined. On this road we start to understand that the clouds have yet again gathered between the elevated heights of the Ivory Towers and the ground zero where the rest of us live and work.

Japan’s problem

Weak wages growth has been one of the features of the “lost decade(s)” for the Japanese economy and accordingly it was one of the objectives of the policies of Prime Minister Shinzo Abe to reverse this. So let us examine today’s data as reported by Reuters.

Japan’s March real wages fell at the fastest pace in almost two years, pressured by meagre nominal pay hikes and a slight rise in consumer prices,

The detail is not good.

Inflation-adjusted real wages dropped 0.8 per cent in March from a year earlier to mark their biggest rate of decline since June 2015, labour ministry data showed on Tuesday (May 9)….In nominal terms, wage earners’ cash earnings fell 0.4 per cent year-on-year in March, also notching the biggest rate of decrease since June 2015.

If we continue the themes expressed above then if we imagined that we were inhabitants of an Ivory Tower we would be projecting fast wage growth. From Japan Macro Advisers.

The demand/supply balance in the Japanese labor market continues to remain tight. The unemployment rate remained steady at 2.8% in March 2017, matching the lowest rate since June 1994. Japan is likely to be at its full employment status, with only frictional unemployment remaining in the labor market.

Full employment with no wage growth and maybe even falls in real wages? Actually this is perhaps even worse for the concept of a natural rate of unemployment.

NAIRU, the Non-Accelerating-Inflation-Rate of Unemployment rate, was considered to lie between 3.5% and 4.5% in Japan.

So wages should be rising and doing so quite quickly whereas in reality they are not rising at all. Indeed contrary to the hype and media reporting they have been falling in the period of Abenomics  as the 103.9 of 2013 has been replaced by the 100.7 of 2016 where 2015 =100. The slight nudge up in 2016 has been replaced by falls so far in 2017.

This from Morgan Stanly only last month already seems like it is from a parallel universe.

Record low unemployment rates are pushing up salaries,

The Bank of Japan regularly tells us that wages will rise next year and Governor Kuroda stated this again only on Friday, but so far next year has never arrived.

Is Japan are forerunner for us and should we be singing along with The Vapors one more time?

I’m turning Japanese, I think I’m turning Japanese, I really think so
Turning Japanese, I think I’m turning Japanese, I really think so

The United States

A month ago US News reported this from US Federal Reserve Chair Janet Yellen.

“With an unemployment rate that stands at 4.5 percent, that’s even a little bit below what most of my colleagues and I would take as a marker of where full employment is,” Yellen said. “I’d say we’re doing pretty well.”

Yet on Friday the Bureau of Labor Statistics told us this.

In April, average hourly earnings for all employees on private nonfarm payrolls rose by 7 cents to $26.19. Over the year, average hourly earnings have risen by 65 cents,
or 2.5 percent.

So we are at what we are told is pretty much full employment and we are below the natural rate of employment ( 5.6% according to the Congressional Budget Office) and yet pay growth is still rather weak. It has been so for a while.

http://www.epi.org?p=117112&view=embed&embed_template=charts_v2013_08_21&embed_date=20170509&onp=75850&utm_source=epi_press&utm_medium=chart_embed&utm_campaign=charts_v2

The other issue is that in spite of us apparently being at full employment the level of wage growth is not a lot above inflation with the US CPI being at 2.4% and the Personal Consumption Expenditure being at 1.8%. Something is not right here and we do perhaps get some more perspective by looking at both the underemployment rate in the US ( 8.6%) and the way that the participation rate has fallen.

The UK

The situation here as I have been pointing out pretty much each time the data is released is very good in terms of the quantity measures as we see falling unemployment and rising employment but poor on the price or wages measure. This has been illustrated somewhat ironically by one of the failures of the Bank of England. Remember when it made an issue of the unemployment rate falling below 7%?

In particular, the MPC intends not to raise Bank Rate from its current level of 0.5% at least until the Labour Force Survey headline measure of the unemployment rate has fallen to a threshold of 7%,

There was a clear implication there that it expected economic changes as we moved below that threshold such as higher wage growth. Of course this was abandoned very quickly as unemployment fell sharply leaving the Bank of England’s spinners and PR people with plenty of work. But with the unemployment rate now well below 7% and indeed being 4.7% then wages should be rising quickly as we are well below the rate at which it was expected by our central banking overlords and masters. Er no, as you see wage growth for total pay was 2.3% back then and is 2.3% now. In terms of exact numbers that is happenstance but in terms of theme and principle it is yet another sign that the economic world has seen ch-ch-changes.

Comment

We are seeing something of a shift in the economic tectonic plates. Some of this is welcome as we see a strong recovery in levels of employment and falls in unemployment. However the other side of this coin is that wage growth is weak and in my home country the UK real wages have in spite of the economic recovery are still short of where they were a decade ago. It was only yesterday when I noted the German housing market getting like us well today it is our labour market which has mimicked theirs! Weak wage growth with low unemployment is rather Germanic and in fact is something we aimed at, well until we got it anyway.

Until now I have left out productivity which is an important factor in real wage growth as we wonder if the switch to a mainly service based  economy has neutered it? But there have been issued here as this morning’s working paper from the ECB indicates and its analysis applies much wider than just in the Euro area.

Higher labour productivity growth is a key factor in raising living standards in advanced economies……..Recent labour productivity growth in the euro area has, however, been low – by both historical and international standards – albeit against the backdrop of a generalised slowdown in global labour productivity growth…………..Over the period 2008-16, annual growth in euro area labour productivity per person employed slowed to an average of around 0.5% (based on a three-year moving average), from an average of around 1.1% over the course of the decade to 2007

 

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23 thoughts on “What is the problem with wage growth?

  1. Hi Shaun,
    Very interesting, as ever. I cannot remember the last time anyone mentioned NAIRU, although it was always a key topic 20-30 years ago and, indeed, did drive interest rate policy. In trying to work out why the link has broken between low unemployment and rising wages, I think that the economic model has simply changed in some ways, such as:
    1. People do not generally have jobs for life and the whole concept that things will always be the same has gone. This, I think, weakens the strength of the employee vis-à-vis the employer;
    2. Companies have simply outsourced work abroad if wages rise domestically;
    3. Freedom of movement in the EU has meant that many low skilled workers in the UK have to compete with people prepared to work for the minimum wage;
    4. The use of strikes in major manufacturing industries has almost disappeared as it became obvious that this just results in job displacement overseas nowadays.
    5. Technology means that many jobs can be done anywhere.
    Overall, my guess is therefore that economists cannot just look at an individual country when thinking about NAIRU, but whether jobs can be filled by cheaper overseas workers abroad (by outsourcing) or domestically (by immigration) or remotely through technology.
    Anyway, I am not an economist and as always stand to be corrected, but I would guess that the above factors must form part of the equation.

    • James, I would totally agree with 2,3 &4 being the cause in the UK. The mnimum wage is now taken by emplyers as the “base wage” where unconstrained supply is presented, against which mere pennies are used to motivate employees to stay. I jusdge that when George Osborne raised the MW he sold it as a generous central govt gift however it seems increasingly the case that under crony capitalism there is no market only externally set prices, interest rates are set low by govt to their distribtion partners, land for housing is set by govt, wages are set by govt, access to transport is administered by govt.

      Getting slightly political, it would seem the shift to conservatism is a call towards control, oversight and a denial of demand triggers.

      It is very clear we need more training, housing, transport, care workers, builders however market signals are being repressed by the centre.

      • Need more affordable and habitable accomodation … don’t hold your breath waiting for market signals to fix housing: UK housing is a cartel benefitting the landed gentry

    • Here is an interesting American link on technology changing employment. http://money.cnn.com/2017/04/12/news/economy/us-economy-big-problem-tyler-cowen/index.html?iid=ob_article_footer They comment on immigrants being the most enterprenuerial. I think their comment on Americans being lazy is dis-ingenious. Why move when the distant wage benefits are taken in overpriced rental costs ?

      If you’re a British employer, good luck in finding reliable (Eg arrive on time, sober) British workers for low skill jobs.

    • Hi James,

      Immigration is a 2 way street, British can go elsewhere. Today I received recruiter spam offering £45K in London. Estimate rent costs over £1500 PCM. Older spam included an offer of EUR 70K in Berlin with rent at 1000 Euro PCM (offers of interviews). I’d guess that Amazon in Gdansk and Intel in Wroslaw would offer good IT salaries combined with modest living costs.

      I’m sceptical about the value of IT outsourcing, outsourcing firms often don’t give a damn about productivity and retain the workshy. Real IT businesses are better at rewarding and retaining their best employees.

  2. It may be that part of the explanation for low wages is the structural shift away from manufacturing to services where wages tend to be lower, thus bringing down the median/ average wage as a whole. The GDP share of manufacturing has gone from 32% to 12% today with a commensurate increase in the service sector.

    Also, as productivity is less in the service sector this may at least partially account for lower productivity generally together with higher employment.

    I am not suggesting that this accounts for all these changes but it may be an important factor.

    • Hi Bob J

      Your reply persuaded me to have another look at the UK data. In March the average weekly total wage was £524 per week. You are right about the manufacturing sector being higher as it was £588 and perhaps more surprisingly so was construction at £620 The financial sector at £710 ( its a bonus month) drags the services numbers higher but then we get the area I guess you were thinking of which is Wholesaling,Retailing, Hotels & Restaurants at £345. Quite a gap isn’t it?

  3. I was nodding so much reading this I started to think I wrote it! The UK hasn’t turned Japanese it’s turned American and I can date exactly when this happened. Raising productivity won’t help raise wages nothing will. Allow me to quote Milton Fraudman, sorry Friedman.

    “There is one and only one social responsibility of business–to use it resources and engage in activities designed to increase its profits so long as it stays within the rules of the game, which is to say, engages in open and free competition without deception or fraud”

    That was the epitaph for capitalism and ushered in neoliberalsm, which is a thing, no matter how hard they deny their own existence. It’s core stupidity is even more stupid than NAIRU. They want rich customers and poor workers. Can anyone spot a tiny flaw in that cunning plan? They tried to get round this using credit which will only work for so long before CRASH!

    • Hi bill40

      What you describe is completely the opposite of the famous phrase of Henry Ford.

      “There is one rule for the industrialist and that is: Make the best quality of goods possible at the lowest cost possible, paying the highest wages possible.”

      Actually he had another good one on the subject according to Brainy Quotes.

      “It is not the employer who pays the wages. Employers only handle the money. It is the customer who pays the wages.”

      • Yes Shaun, I remember reading some of Henry Ford’s words of wisdom when I visited Dearborn, MI. some 35 years ago.
        Henry knew the difference between Efficiency, Utilisation and Productivity; concepts which seem to confuse some non-manufacturing types.

        And then there’s this-
        “It is well enough that people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.”

      • Now that’s what I call capitalism Vol.1. Add in the debt the company owes the nation and the wider responsibilities of all its’ stakeholders and we have a plan. i don’t remember anyone stating the shareholders shall inherit capitalism.

  4. I saw an interview recently regarding the minimum wage in the US and the closing of the gold window by Nixon in 1971, it was estimated that in order for the minimum wage in the US to have kept up with the gold price(which has roughly kept up with the money supply to date-another argument entirely of course) it would be now over $40, in fact the Federal minimum wage is only $7.25-about £5.50, and hasn’t gone up since 2009!!! Many states pay more but the fact that it has completely failed to keep up with general inflation and the growth in the money supply to such a degree is frightening.

    We always hear about the shortages of engineers and scientists in this country and yet their pay is under constant downward pressure, with new posts being regularly advertised at many thousands of pounds less than the previous incumbent received at the company I work for, and it is a trend I see every where.

    Graduate chemist positions being advertised at £20-22,000 p.a, not even enough to start paying back the £30,000 or so in student debt accumulated to obtain said degree, or graduate engineers at £25-30,000 are examples that when questioned elicit the response that “we are paying the market rate”, but who sets the rate? obviously the “market” doesn’t as the shortages described above would result in sharp increases in pay to correct the shortage, so I can only assume the very employers who keep cutting the wages in a relentless downward spiral or refuse to increase them must be responsible, since clearly the shortages of said workers do not result in increases in pay to correct these shortages there must be in my opinion some other forces at work here, and it is this trend that I believe indicates that this financial repression represents the early stages of the return to communism by the back door. Whether it is occurring as result of the failure of capitalism or is the result of another much more devious plan is debatable.

    Everyone will earn nearly the same wage in future, regardless of their job, qualifications, training, responsibility or position, sure they will earn slightly more than the minimum wage, but nowhere near enough to compensate for the years of study and responsibility of the job, and after tax the difference will be minimal or even negative when compared to jobs with no qualifications. And if you don’t work, benefits will pay the same, or in certain current examples for families with large numbers of children or where disabilities are involved, MORE than paid work.

    Enter stage left the Universal Basic Income, or whatever it will be called in order to sell it to a willing electorate.

    • Hi Kevin

      Thanks for the data on wages for graduate chemists which is I agree troubling. It is far from an easy degree and an area where we need people to be as qualified as possible. You mention of “market forces” reminded me of the top of the financial sector where extremely high wages are paid for “top talent” that proves to be nothing like that in any crisis.

      That is before we get to “market forces” for ex-politicians.

      “George Osborne’s earnings from speeches in the United States this autumn have topped £500,000, the latest register of MPs interests shows.

      The events with Wall Street banks, financial firms and a university all took place in New York during a series of trips in October and November while Osborne was still a sitting Conservative MP.

      The former chancellor’s outside earnings in those two months alone are almost seven times higher than his annual salary as a backbench parliamentarian, which is around £74,000.

      The latest three engagements to be declared are £85,396.24 from Citibank for two speeches, £34,109.14 from Black Rock, the investment firm, and £68,125.35 from Centerbridge Partners, a private investment firm.

      Previous registers showed he was paid for another five speeches earning him between £28,000 and £81,000 each.” ( The Guardian last December)

    • Who sets the pay ? That will be the the directors and their “independent” renumeration committees. Directors pay has risen exponentially even when shareholders are losing money. CEO pay to workers pay ratios are sky high.

      lining your own pockets while shareholders lose money – once upon a time that would have been fraud ….

    • It seems there are two things happening at once: holding down the remuneration of “the workers” while the higher echelons everywhere pay themselves more and more so we are returning to a feudal system where the workers support a few “lords”.

    • The UK has never had communism??? Have you considered that if everyone received the same pay, that would encourage people to pursue careers that interested them rather than only being “in it for the money”?

      The only in it for the money attitude breeds clock watchers determined to do the minimum amount of work for the maximum amount of pay which is a very unproductive scheme.

      If they are interested in their work they will happily try harder as they are interested in it in the same way you are with your hobbies. Indeed, it would be beneficial to society if people were paid to pursue their hobbies if it led to products that society could use and costs would be driven down to the level of wages whilst quality would go up as people go the extra mile because they’re interested in what they do.

  5. Great blog as always, Shaun.
    One can see the same kind of low real wage growth in Canada. The April 2017 AHE rate of change was 0.7%, down from an already low 1.1% in March. By contrast, the CPI inflation rate was 1.6% in March, down from 2.0% in February.
    The April 2017 labour force survey update for Canada was covered in an “everything is awesome” by our increasingly politicized Canadian Broadcasting Corporation. It chose to highlight the drop in the unemployment rate to the lowest level since 2008, ignoring the drop in the annual growth rate of AHE and AWE to the lowest rates ever (the rates start in January 1998 in their current format). This is due to service-producing jobs ; the rate of increase for goods-producing jobs is substantially higher, and certainly not a record low. Here is a link to a Globe story on the LFS update
    http://www.theglobeandmail.com/report-on-business/economy/canadas-unemployment-rate-falls-to-65-per-cent-lowest-since-2008/article34905456/
    My comments on the LFS story are provided under the name Slavophile. A lot of commenters point out how immigration and refugee flows into the country have increased considerably, which must put pressure on real wages, especially as business gross fixed capital formation has never properly recovered from the 2015H1 contraction.

    • Sorry, the third sentence in the second paragraph should read: “The April 2017 labour force survey update for Canada was covered in ‘everything is awesome’ fashion by our increasingly politicized Canadian Broadcasting Corporation.” More haste, less speed.

      • Hi Andrew and thank you

        I did not realise how poor the wages situation is in Canada as I note that real wages have gone negative. It only adds to my theme that something has really changed in the world economy. After all we keep being told that there is a recovery…..

        • Shaun, It’s not just changed -it’s crazy. Capital has beaten Labour into a pulp.

          Just a few years ago we were promised a rosy future. We would export our dirty manufacturing jobs and have a highly educated work force employed in lucrative service professions such as Architecture, Design (al a Dyson), Fashion, Engineering, and of course, Financial and Banking services.
          The slogan was “Cool Britannia” featuring ginger Spice in a short Union Jack dress. It was only 20 years ago.

    • Yet more countries with housing bubbles that like the UK, exists alongside a population that is literally living hand to mouth, in the USA a bank survey found 57% of people could not afford an unexpected $500 bill, the Fed found 46% of people could not come up with $400, and more than one in five had an unexpected medical bill in the last year which averaged $2,782!!!

      In Canada, more than half are living within $200 of not being able to meet their bills and debts.

      http://www.zerohedge.com/news/2017-05-09/half-canadians-have-200-or-less-savings

  6. “So we are at what we are told is pretty much full employment and we are below the natural rate of employment ( 5.6% according to the Congressional Budget Office) and yet pay growth is still rather weak. It has been so for a while.”

    This is a very negative perspective Shaun. Instead of choosing nominal wagegrowth levels which is, frankly, useless if you are trying to gauge increasing/decreasing living standards, it would have been helpful if you chose real wage growth or juxtaposed US inflation to nominal wage growth. Allow me to help with that: http://www.usinflationcalculator.com/inflation/historical-inflation-rates/

    It may now be seen that whilst in earlier years since 2010 there has been some negative real wage growth there is now real wage growth of about 1.3% in 2016, 1.9% in 2015, 0.4%v in 2014, 0.5% in 2013, -0.6% in 2012, – 1.2% in 2011 and 0.2% in 2010.

    Therefore, over the last 7 years there has been 2.5% real wage growth. Weak, yes but nonetheless positive and the trend over the last 4 years is positive or 4.1% which is a respectable non inflationary rate of wage growth. Well done the Fed.

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