This is not simply due to the recession; real wages held up well in previous downturns. Instead, at least two other things are going on, as Paul Gregg of the University of Bath described in a paper presented to last week’s Royal Economic Society conference.
One of these, he says, is that the trend increase in real wages stopped in around 2003 – long before the recession. One reason for this is that the entry of China and India into the global economy created a huge supply of cheap labour, as embodied in cheap imports. Also, what capital spending there has been in the last ten years has often been used to replace workers. A recent paper by Martina Bisello of the University of Pisa describes how middling jobs such as routine white-collar work have been lost to automation.
A second factor, says Professor Gregg, is that wages have become more sensitive to unemployment. He estimates that whilst a doubling of unemployment would have cut real wages by seven per cent between 1986 and 2003, it now cuts them by 12 per cent. One reason for this is that unemployed workers are now closer substitutes for employed ones, and so do more to bid down wages. In the 80s,for example, the unemployed tended to be young unskilled workers or older miners and industrial workers, who were unable to compete well for jobs. Today, the dichotomy between the jobless and the employed is less sharp.
It’s not just the unemployed who are competing for jobs, though. So too are retired folk who have seen their incomes fall because of low interest rates; home-makers who want to top up their spouse’s precarious income; and benefit claimants who are “incentivized” to seek work. This competition also forces down wages.
Jennifer Smith of the University of Warwick highlights another factor. She points out that the rate of job creation has fallen; that unemployment hasn’t risen more than it has is due to a low rate of job destruction, rather than to job creation. This too can reduce real wage growth, if new jobs pay well and “zombie jobs” badly – especially if the latter require workers to take pay cuts to keep them.
Paradoxically, immigration, which is often blamed for the weak labour market, is pretty much the only thing that isn’t depressing average real wages.
This is not good news for equity investors. Falling real wages don’t necessarily mean rising real profits. Instead, because lower real wages have been accompanied by falling productivity, the economic pie has shrunk, hurting everyone.
Instead, this poses a problem. These forces depressing real wages are unlikely to disappear any time soon. And if real wages don’t grow, it’s unlikely consumer spending can rise far. Indeed, it’s possible that consumer spending will remain weak even when real wages do rise, simply because it is only then that people will have the income to pay off their debts.
With fiscal austerity set to last for years, and our main trading partner likely to remain weak even if it does pull out of recession, this means that the economy can fire only on one cylinder – that of corporate spending. The vigour of the recovery will depend pretty much entirely upon companies’ willingness to spend – upon their real or perceived investment opportunities. Luckily, there are tentative signs of an improvement here.
But there’s also reason to worry. History shows that large falls in people’s living standards often provoke a political backlash, and sometimes this is more populist than intelligent.
