Economics Wages

Can Falling Wages Be a Good Thing?

Falling wages can be a good thing. Here's why...

James Knight

Guest Writer –  Philosophical Muser

Sonia Sadha does a brilliant job of getting her argument about pensions and risk completely the wrong way round. She tells us that:

“We need to ask hard questions about why young people are being expected to bear increasing amounts of individual risk. The obvious example is pensions. Gone are the days when companies pledged to pay retired workers a guaranteed income for the rest of their lives; today’s workers must, instead, save into an individual pot that must last.”

sonia

I’m sure the irony will be lost on most people associated with The Guardian – but this, of course, from a paper whose columnists continually bleat on about the plight of falling wages. To understand why this view is wrong you need to understand why falling wages are not always the bad sign that most think they are.

But before we get to that, it’s a shame Sonia Sadha doesn’t seem to grasp that pensions have an impact on the price of labour – they are merely deferred labour costs. Whether the pay to pension ratio is 90:10, 80:20 or 70:30, they must still be factored into a businesses running costs.

We are living in a time where firms are forced to pay a minimum wage  (which puts the value of labour out of whack with the price of labour, increasing both unemployment and consumer prices*) and where people are living longer, making pensions prohibitively expensive. The reality is, that more and more employees are unable to produce the work that is required to cover the combined costs to their employer of both their pay and lengthy pension payment plan.

Your pension is delayed pay, which basically means it’s pay that you’re saving away for when you retire. So the only way for many employers to keep up the kind of pension commitments that were common when we didn’t live so long, would be to increase the pension to pay ratio, which would mean cutting pay to increase pension length. And that’s a policy you will never see a Guardian columnist endorse.

What Sonia Sadha sees as the ignominy of apparently “forcing individuals to bear more risk” is really just a simple case of arithmetic.

Why falling wages are a good thing

Now, about falling wages. Falling wages are, in net terms, a good thing for an economy overall. Obviously, they are bad for the people whose wages have fallen – but falling wages are a transfer from workers to employers (and indirectly, to consumers) – there is no net negative externality, it is merely a distributional effect.

But there are several additional positive elements to lower wages. People tend to confuse economic growth and job creation, but most of the real benefits of economic progress come from saving labour, not increasing its cost. Lower wages means it costs less to produce something, which is a similar benefit to finding a new efficiency or a new technological innovation.

On top of technology improving living standards, and consumers having goods and services more cheaply, there is a third positive to falling wages in places like the UK and USA – a boost to our domestic economy (not to mention poorer people in the developing world having more money when homegrown inefficiencies are outsourced). This is connected with the ratio of total labour costs to real output, and how the decreasing wage you need to pay employees to produce one unit of output increases the likelihood of keeping it in this country – another thing that Guardian writers have always claimed to like.

* This is Basic Economics 101 that politicians love to ignore. The supply and demand curves of labour are factors that mustn’t be overlooked because employment and wages are always in a trade-off tension. Price floors, like a state-imposed minimum wage, artificially hold wages higher than their marginal value, which means when economic supply and demand forces are trying to push wages down, something has got to give with a minimum wage law, and it’s usually unemployment and increased prices for consumers.
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2 comments

  1. I found this article interesting, but the question of humanity looms. You say falling wages are ‘obviously bad for the people who’s wages have fallen’, and then do nothing with this point? It is as if the welfare and motivation of the people who supply this labour are being completely cut off at the numbers, as if the workers do not matter. Also, how exactly does the minimum wage put the values and prices of labour ‘out of whack’? Where is your numerical proof? Is a somewhat sustainable living for the workers and labourers less important than generating negative net numbers? You have to remember that workers are not merely economy-running robots. I am interested in your stance on this issue, but more proof and compassion might get you further in your convincing.

  2. Hello,

    I don’t know why you think it may be more compassionate or better for ‘humanity’ to have a state-mandated price floor on wages that makes it illegal for some people to work and others to hire, and less compassionate having a freer society in which individuals have the liberty to work for whoever they like.

    On your point about workers apparently not mattering – remember that workers are also consumers, and falling wages in one subset of the economy means net gains in others. Besides, as a consumer you are always looking for falling wages – it’s a benefit to your consumption, and those benefits spread widely across society.

    On your third question – any price control will inevitably put the supply and demand value out of whack, because prices are the information signals that bring supply and demand closest to equilibrium. I have quite a bit about the minimum wage impact on my side bar in the blog.

    Hope that helps

    Best wishes

    James

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