From the TUC

An increasingly macroeconomic perspective on wages: The Resolution Foundation on the earnings crisis

22 Apr 2015, by in Economics

Review of Securing a pay rise: the path back to shared wage growth, Edited by Gavin Kelly and Conor D’Arcy, The Resolution Foundation

This collection of essays is a very valuable overview of progressive opinion on the earnings crisis, a must read for those engaged in any aspects of the debate. Some of the underlying theory is inevitably technical, but nearly all the material is presented in way that should be readily accessible to the interested observer.

Risking generalising in a manner the Resolution Foundation (RF) has avoided, on balance, there is a shift from a microeconomic to a macroeconomic interpretation.  While productivity is still right up front, “many authors highlight the primacy of productivity growth” (as Gavin Kelly and Matt Whittaker of the RF say in their overview, p. 13), the usual detailed assessment of supply-side explanations for the perceived recent ‘puzzle’ is mercifully absent, and there is less emphasis on the more general analysis of productivity in terms of the usual ‘drivers’. For at least half of the authors, the failures of the labour market are seen as reflecting wider failures of macroeconomic policy or at least the conduct of macroeconomic policy. It is worth stressing one implication: failing to secure decent pay is not the fault of the worker. 

In an important piece, Jared Bernstein (of the US Center on Budget and Policy Priorities and former Chief Economist and Economic Adviser to Vice President Joseph Biden) rallies the troops:

This question of what UK policy-makers can learn from America about the path back to shared wage growth comes at an opportune time. For years, the American wage debate was almost completely monolithic. The problem was universally understood to be a deep skill-deficit among wage earners and the solution was thus training and education. Now, however, in part due to recent developments in US wage trends, the debate is potentially opening up in useful ways.

If there’s a lesson for the UK in all this, and I believe there is, it’s the importance of making that potentiality a reality. (59)

 So for a good number of authors the first priority is to up the game of the macroeconomy, and there are various proposed approaches (all basically compatible, indeed I see more consensus than the editors concede).

John van Reenen (of the LSE) wants to increase public infrastructure spending, his position for many years. Most remarkably of all Chris Giles (the economics editor of the FT) is found proposing that the government should build houses, with all the ‘pays for itself’ trimmings that Keynes saw.

5. Build more houses. With government able to borrow at negative real rates of interest, it should take the lead in borrowing and building houses to rent and for purchase. It should not worry about the public finance aspects of the policy as there will be sufficient income streams to cover borrowing and turn a profit. (70)

(Though this macro initiative is proposed to remedy aspects of the – undoubtedly severe – economic crisis affecting young people, rather than repairing the economy itself.)

Simon-Wren Lewis (Oxford University) vigorously attacks coalition austerity policy, arguing “Part of this fall [in real earnings] – perhaps more than you might think – is a result of a failed macroeconomic policy” (53). Seemingly resigned to the refusal of politicians to back down on austerity, he joins the growing ranks of those arguing for ‘helicopter money’: “creating money and giving it to people to spend” (57) (others include Martin Wolf, Adair Turner and the many distinguished signatories to the recent Positive Money letter to the FT).

For Stephen Machin (of UCL) and Alan Manning (LSE), the authorities are underutilising resources; the natural rate of unemployment has fallen as increased flexibility has lowered earnings growth relative to unemployment, and the unemployment rate is further impaired as a guide to capacity because of the large increase in underemployment. There is therefore room for expansionary policy, which will lead to higher wages as capacity is approached. Paul Gregg (Bath) agrees “getting the macroeconomic basics right is essential. Progression is faster in tight labour markets” (77). Bernstein is most matter-of-fact: “fiscal austerity in demand-deficient economies is the enemy of full employment and thus wage growth” (63). Even John Hawksworth (of PWC) in the course of his examination of options for future (severe) public sector job cuts hints at more flexibility in the public finances than is usually acknowledged; the first option: “Adopt a less tough borrowing target” (189).

Andrew Smithers (Smithers & Co.) is perhaps the outlier, arguing that sharply falling unemployment indicates that demand not “inadequate” (29). But in my view high employment growth does not necessarily mean that demand is strong. Economic growth has been weaker every year after the crisis than before the crisis, and so in terms of overall growth in wages and salaries, higher employment growth is more than offset by lower earnings growth. He sees failed productivity as partly a result of failed investment, but as a result of incentives, with executive pay in particular a drain on productive activity.

Again with a vigorous lead from Bernstein, many authors give prominence to institutional considerations and power relations. (This may seem obvious to some on the left, but in mainstream economics the starting point is that everyone is paid according to their productivity.)

These power relations operate at aggregate level but also to some extent at the various cross-sectional perspectives that are examined through the report.  So Giles’s new-found Keynesianism comes from his recognising that the most severe falls in earnings faced by the young come in spite of their being the most educated generation ever, overturning the relation between earnings and education.  Instead his judgement is that “older generations are using the power of experience to defend their status, pushing all the pain of recent years on younger, more inexperienced people” (68) – ‘all’ is a bit of stretch, but the point is a good one. Gregg sees the young particularly vulnerable to cyclical unemployment which has a cumulatively harmful effect (76). Susan Harkness (Bath) observes that the recent narrowing of the gender pay gap “gives little cause for celebration” (79), with pay levelling down not up. George Bain (the first chair of the Low Pay Commission) reviews the position at the bottom of the income distribution and urges action against low pay more generally (as does Gregg), and Arindrajit Dube (Massachusetts Amherst) looks at the experience of US city minimum wages. 

But for explaining aggregate outcomes, as well as some compositional effects, the authors inevitably touch on “a waning union influence” (14); “The decline of unions also has a part to play in explaining the growth of wage inequality” (van Reenen, 25), also Machin (45) and Manning’s essay.

For years the mantra of flexibility has demanded the containing of trade union power, put most matter-of-factly by John Philpott (the Jobs Economist consultancy) in his discussion of the high and low roads for the labour market: “The overall restructuring has been facilitated by neo-liberal economic policy, notably emasculation of trade union power” (109). This doctrine has been the dominant force in UK labour market policy for the past 40 years, so it is hardly surprising that union influence has “waned”. Plainly the editors of the report are far from neo-liberals, but end up on the fence:

This isn’t about a simple rewinding of the clock. Increased flexibility in the labour market has both advantages and disadvantages so, in seeking to bolster the position of workers, we must be careful not to undermine the dynamism that our jobs market has recently demonstrated. (14)

Has our jobs market really displayed ‘dynamism’? Under the severe duress of austerity, real wage cuts may have permitted an ongoing expansion of jobs, and a disproportionate share of those not good jobs. This is just working people grinning and bearing it. For many of the authors, there was and still is an alternative.

This open-endedness is perhaps indicative of directions in which the work might progress. If these economists are indeed moving towards a more macroeconomic take on wages, then conventional wisdoms derived from a microeconomic perspective must also be reviewed, even ones as sacred as wage flexibility.

The other direction to my mind is demand. As Kelly and Whittaker say, “Sustaining a high level of demand in the economy is certainly a pre-condition” (14). And demand certainly plays a role in many of the contributions discussed above. But they do not go as far as they might: if securing a pay rise is down to demand, it is not down to productivity. Conversely, if there is a productivity puzzle, it can be explained in large part by demand (TUC, 2015).

Finally this leaves the wider question of the longer-standing failure of the economy. Plainly the authors understand that the earnings crisis began ahead of the financial crisis (eg noting only limited wage gains in the early 2000s, 11), but perhaps seeking to keep things manageable there is very limited discussion.

I would hope that in opening up the possibility that macroeconomic policy failings better explain the earnings crisis of recent years, the same approach can be extended to a longer-time horizon. The present crisis comes on top of decades of increasing disadvantage to working people, of lower quality, worse paid and more insecure work, as well as far higher underlying levels of unemployment and underemployment.  These conditions have also not been caused by weak productivity, but by far longer-standing macroeconomic policy and institutional shortcomings.

Perfectly reasonably the authors seek realism and practicality:

But, at their heart lies a common rejection of both sanguine and fatalistic accounts of our future wage prospects. Standing still – due to either a belief that all will be well or a fear that there’s nothing we can do – is not a genuine option. (16)

But this may be wishful thinking, as may be their sense that recovery in real wages is now underway. There is an ongoing intensification of deflationary forces and other fragilities, not least the backdrop of heavy private indebtedness (about which the IMF has just warned). It is surely highly implausible that austerity policies have proved capable of resolving these underlying and far longer-standing fragilities and failures: more likely it has made them worse.