The dark side of wage growth

Real wages are probably rising. The ONS estimates that nominal wages rose 1.9% in the year to February - though there's a big sampling error - whilst CPI inflation then was 1.7%. This, though, might have a downside.

I say this because a plausible reason for the growth in real wages is that productivity has finally begun to rise; total hours worked rose 0.4% in the three months ending February, but the NIESR estimates that GDP grew 0.9% then, implying productivity growth of 0.5%.

However, for a given rate of GDP growth, higher productivity growth means lower jobs growth.

What we might be seeing, therefore, is a shift in the way workers are benefiting from recovery. Until recently, we've seen employment grow rapidly but real wages fall. If real wages rise, this balance might shift.

In 2010-13, it was often said that one contributor to falling unemployment and weak productivity was that workers were pricing themselves into work by taking pay cuts. If real wages rise, this process would go into reverse.

This would be perfectly normal. The last two recoveries saw employment fall but real wages rise.

For example, in the 80s recovery, GDP troughed in 1981Q1 but employment continued to fall until 1983Q2, and did not return to its 1981Q1 level until 1986. In the 90s recession, GDP bottomed out in 1991Q2, but employment didn't trough until 1993Q1 and didn't return to its 1991Q2 level until 1997. In both periods real wages rose.

This tendency for recoveries to raise real wages rather than employment might reflect "insider" power; workers have power to push for wage rises, to the detriment of job creation. Or it might reflect rent-sharing; employers who enjoy rising productivity don't need to hire extra workers but do share the benefits of higher productivity with existing employees. Or it might reflect a mismatch between the skills successful firms need and those the unemployed have - so that firms prefer to work existing staff harder and pay them more rather than take on less-suitable new staff.

Whatever the reason, it could be that, if we do see genuinely higher wages, it might be because we're shifting to a more normal type of recovery - a jobless(ish) one.

Let's do some simple maths. To reduce unemployment from its current 2.24m to one million over the next five years would require the creation of something like 2.7m jobs; this is because of population growth plus the fact that many jobs are filled not by the unemployed by the economically inactive. To create this many jobs with 2% per year productivity growth requires real GDP growth of 3.7% a year for the next five years. That's more than a percentage point a year more than the OBR expects.

Mass unemployment, then, might be here to stay.

Another thing: You might object that higher real wages will create "wage-led growth" which will create jobs. I'm not sure. For one thing, they'll leak into higher tax payments. And for another, it's possible (contra the OBR) workers will use the gains to pay down debt. What we do know is that the early phases of the 80s and 90s recoveries did not see employment rise in this way.

Comments

[Boffy]

There was an important and interesting point mentioned on CNBC. If you take out "Bonuses" from the figure, wages rose by only 1.4%, which is still less than the rigged inflation figure.

In other words, the City bankers and their bonuses continue to have a significant effect on the economy!

[Ben]

Boffy this is spot on.

[Dave Timoney]

When a consensus develops that a recovery has arrived, some employers will initiate wage rises for their more valuable staff as a precaution against itchy feet, so this may in part reflect employer expectations, particularly in high-churn sectors like banking.

[gastro george]

Re bonuses, it would also be interesting to see wage rates by decile, even the median, rather than only seeing average wages.