Wages: the collective action problem

Does David Cameron understand the purpose of politics? I ask because of his claim that "it's time Britain had a pay rise."

We must distinguish here between the interests of a specific individual business and the collective interests of all businesses.

It might be in the interest of an individual business to increase pay because doing so might motivate staff and reduce turnover; this is what Cameron meant when he told the BCC: "it's good for you to have happier and more productive staff."

However, it's also possible that higher wages are in businesses' collective interests. This might be because, as wage-led growth advocates say, they would give a net boost to aggregate demand. Or it might be because, as Cameron believes, higher wages would create a feel-good factor and so increase the chances of the re-election of a pro-business government*.

Herein, though, lies the problem. If higher wages were in firms' individual interests, they would already have raised wages. If, on the other hand, they are in firms' collective interests, we have a collective action problem. Even if each individual firm thought that it was in everyone's interests to raise wages, it would not do so for fear that others would not follow with the result that it would have higher costs with no offsetting benefit in the form of higher demand or pro-business public opinion.

In either of these cases, Cameron's speech is pointless. If a pay rise is in firms' individual interests, it would have raised pay already. And if it is in their collective interests, each firm needs more than words to convince them to raise pay. For this reason, serious advocates of higher pay, such as the TUC, have called (pdf) for policy measures to force pay up, such as stronger union rights, full employment policies or a higher minimum wage.

What then, is Cameron doing?

One possibility is that he's just playing the old trick of raindance politics. He's demanding something which might happen anyway - so when it does happen he can claim to have been in control of events.

There is, though, another possibility. Cameron is committing an error which, as I've said before, is a consistent theme of this government - a blindness about the collective action problem.

We see this in its welfare policy. Whilst it is likely that a clampdown on benefits would force any individual benefit recipient** to seek work and possibly get it, this cannot be true to the same extent for all recipients, because labour demand is constrained by the state of the economy.  

We see it too in fiscal policy. It might be rational for you to pay off your credit card, but if we try to pay off "the nation's credit card", the rise in desired saving merely reduces aggregate demand and so deficit reduction proves to be counterproductive.

Which brings me to my initial question. The purpose of politics is to ameliorate problems of collective action: if individual interests always coincided, there'd be no need for politics. A politician who doesn't understand this doesn't grasp the very basics of his profession. Perhaps being Prime Minister is just an ego trip before Mr Cameron begins a serious career.    

* Uncertainty about EU membership and the risk of recession because of overly tight fiscal policy are of course in businesses' interests.

** Is it just me, or does the word "claimant" have ideological undertones?

Comments

[FromArseToElbow]

The term "claimant" is part and parcel of "national insurance" - i.e. you pay your contributions up-front and can then make a claim in the event of misfortune. It has acquired more negative connotations over time (demanding, importunate), but the original sense implied entitlement (a word that has also been demeaned over time).

The term "recipient" is more neutral. You might have a right to receive (e.g. share dividends), or you might be benefiting from the generosity of others ("the dole"). Perhaps the real ideological change over the last 30-odd years is the growing use of the phrase "on benefits", with its echo of "on drugs".

[Icarus Green]

Shinzo Abe has said relatively similar things in the past about pay rises. Its always funny conservative politicians urging their donors to hike pay when everyone knows the sole purpose of conservative political parties is to reduce worker pay. Of course, they can't actually say that out loud and so talk about "structural reforms" or "efficiency measures".

[Dinero]

why not take it at face value. He could simply be giving an idea and a prompt to any business with the cash who are inclined to listen to him. And a something for a employee to reference when discussing pay. Regarding terminologies Benefit always struck me as a odd term. Contradictory and politically confusing that a position deemed to be unfavorable be associated with being Benefitial.

[Neil]

Not sure the point about welfare reduction is correct.

When welfare is reduced employment becomes more attractive, as there is first mover advantage for welfare recipients there will be a shift from welfare into work.

While there may not, initially, be sufficient employment for all those on welfare there will be a net collective benefit in reduced welfare payments and increased output which all things being equal should further increase employment.

This logic cannot apply to wage increases because there is first mover disadvantage so no incentive for the process to start.

[Luis Enrique]

I am looking forward to headlines about Cameron being anti business

[Luke]

Neil,
"When welfare is reduced employment becomes more attractive, as there is first mover advantage for welfare recipients..."

Is that right if there are several unemployed per available job? Person A might decide to continue on current benefits rather than take a job, but at least one of persons B,C and D will presumably go for it. There's no reason to think that A (who is demonstrably less motivated) would be more productive in the job than whichever out of B,C and D has the gumption to apply.

Your point would be right if *all* the unemployed were waiting for wages to rise (or benefits too fall), but is that really true now?

[Jrhopkin]

If welfare reform worked, which it doesn't, it would drive wages down not up.

[Ralph Musgrave]

A pay rise for all employees would boost inflation, which might induce the authorities to cut stimulus, which would raise unemployment. (Though admittedly with inflation below 2% that might not happen).

Anyway, it would be better to cut profits instead of raising wages. That would result in exactly the same REAL pay rise for employees, while obviating the above possible increase in unemployment.

[DavidM]

"If higher wages were in firms' individual interests, they would already have raised wages."

When did Chris start to trust managers? Because this is only true if firms have competent managers that actually know their firms' interests and act in consequence, instead of acting to maximise their own personal utility.

[Andrew Curry]

@David M: to build on your point, Zeynep Ton and HBS colleagues have done a lot of work on the retail sector which shows that companies that pay higher wages as part of a strategy that includes investment in training and increased range of tasks-per-worker get higher productivity and profitability.

But if Walmart has a mental model (a *belief*) that wages are a cost that needs to be squeezed, they won't notice the value foregone through this policy.

https://hbr.org/2006/12/the-high-cost-of-low-wages

http://www.forbes.com/sites/rickungar/2013/04/17/walmart-pays-workers-poorly-and-sinks-while-costco-pays-workers-well-and-sails-proof-that-you-get-what-you-pay-for/

[dan]

I still don't see how collective action is incentivized and thus regulated.

Individual action is incentivized by reward for risk taking. And the level of risk taking behavior can be regulated remarkably well with monetary policy which aims to match available resources with action.

But collective action is not rewarded by risk taking. By definition the reward for the risk taken by collective action is separated from the risk taking.

It seems to me if some economic activity requires collective action monetary policy is by definition a necessary but not sufficient tool to regulate gdp. But what tool makes policy complete? I don't think macro has very much analysis on this.

In this example, we first need to have a measure to test if Cameron is correct that we need a wage increase, and then we need a policy tool that improves the incentives for the collective action to be taken.

I don't think it is enough to say that this is the job of politics any more than it is enough to say that it is the job of corporations to take risk that can capture the related reward. Both are agents who take the action one has a thoroughly analyzed incentive structure, the other doesn't in an macro framework.

Any ways I was delighted to read your post but I always get left with the same question when this topic is raised.

[ChurmRincewind]

I think you're all overloading Cameron's statement.

He's just saying to the electorate "I think you should all have more money" and who w
could disagree with that? As Frances O'Grady said, this is "no more than pre-election mood music".

This is electioneering, not economic policy.

[redpesto]

Businesses or rich people 'receive' tax breaks/cuts while poorer/unemployed people 'claim' benefits?

[reason]

Dan,
I have no idea what you are on about. If the collective action problem is that cars driving where ever continually block or run into each other, than clear and enforced regulations solve the collective action problem. Similar arguments can be made about compulsory warranties and the lemon problem. Not everything relates to risk and individual incentives.