Well, it\’s one way of getting wage costs down

Woah. We\’re used to Mervyn King\’s monthly letter to explain the latest inflationary overshoot by now — but this, this is still quite something. CPI inflation rose to 5.2 per cent in September, a 0.7 percentage point increase on the month before and equal to the previous record level set in September 2008. RPI inflation, meanwhile, stood at 5.6 per cent, its highest since June 1991. And so the cost of living is shooting up, while growth and wages stall. It\’s a particularly poisonous brew.

It\’s also one way of setting the country up for future growth.

Imagine, just imagine, that your analysis of what ails the UK economy is low productivity. Low productivity of labour that is.

There are certainly those who do say that this is the problem: half the TUC for example. They then say that what is needed is more education, more training and more investment to raise the productivity of labour.

But there\’s another way to achieve the same trick.

For productivity of labour is the relationship between the cost of labour and the value of what that labour produces. So, if through inflation one increases the value of production (in nominal terms, of course, for we\’re talking about inflation, not relative price changes across goods) and at the same time reduces the cost of the labour (in real terms, as wage rises fall behind general inflation) one is increasing labour productivity.

Which is just great, in end result if not in the experiencing of it. For lower labour costs/higher labour productivity mean that the goods and services made here are cheaper in the export market.

Think this is really appalling? Well, it\’s pretty much what the Germans did from the late 90s to the crash. They didn\’t use inflation to do it, true, but they did deliberately hold wages down in order to boost labour productivity and thus potential export success.

Worked pretty well too, eh?

18 thoughts on “Well, it\’s one way of getting wage costs down”

  1. Keynesian error; aggregate statistics fallacy; you can’t do a universal correction of wages (or any prices) since they all have to change by different amounts to get the market back into balance.

    “Statistics are not levers”.

    Also, it’s quite funny that they’re still clinging to the imaginary “cost push” inflation in the increasingly desperate explanations for this disaster. It is all a resounding vindication of the Austrian Analysis, is it not?

  2. At last, someone not a socialist who agrees with me!

    The choice seems to be between reducing labour costs through devaluation and general inflation or reducing labour costs through wage reductions and increasing unemployment.

    A 6% reduction in living standards is much much more preferable to a 100% reduction in living standards.

  3. @Rob Fisher – we care about exports so that foreigners clean our toilets rather than either us cleaning our own toilets or us cleaning foreigners toilets – etc, think all crap work, chinese assembling fan heater for four quid a day, Indians serving our as yet never employed gap year types their bhang lassis and banana pancakes, Poles toiling in our fields – if we don’t export then they don’t work for us and we have to do our own crap work. And they do it REALLY CHEAP also – so we export so that we don’t have to do crap work and our money buys us more.

  4. In other words: economic growth through reducing the value of the unit in which you measure economic growth.

    It had its greatest expression in the modern era in Zimbabwe. It was truly paradise for socialists and liberals alike. Economic growth was in the millions of percent per annum, all were absolutely equal, all were multi-billionaires, and no one had to do any work!

  5. But surely the whole “devalue so as to export your way back to health” thing can only work if other countries are happy to see the value of their currencies rise relative to sterling? And right now, every major country is either trashing their currency in an effort to keep exports up (USA, China, Japan, Switzerland, Brazil et al) or, in Germany’s case, living with the euro because it’s a weaker currency for their exporters to live with than if they had the DMark back.

    Where will this devaluation race take us? I agree with Ian B: lets have no more of this monetarist/Keynesian nonsense.

  6. Ian B (#1), presumably workers who are already competitive (or who aren’t very uncompetitive) could be given payrises to counter (or partly counter) inflation, so rebalancing the market as you suggest.

    But is inflation really a better way of doing this than pay cuts, or is it just that we don’t have the managerial guts to do pay cuts?

  7. Labour productivity is output per worker per hour or some similar measure, I think you are talking about unit labour costs.

  8. Cat-skinning: yesterday evening, for the first time ever, I saw a TV advert for holidaymaking in Switzerland.

  9. The whole problem with this way of thinking is the belief that there is a “wage level” like the imaginary “price level” P, and it can be driven up and down. There isn’t. Wages don’t go up and down in lockstep any more than prices do.

    Worse, and Keynesians very much recognise this too, wages and prices are variously sticky. There are people on fixed contracts. There are the self employed, and retailers in general, who all have trouble in many cases raising their prices to counter inflation, especially as there is no clear metric of inflation. (Does anyone believe the government figures?).

    Prices in a recession are actually tyring to the right thing, which is to reduce- a “deflation”. Meanwhile, the State is totally fucking things up by forcing up some prices that are not sticky. All you get is total fucking chaos.

    I am sorry for the sweary, but it is really getting so tiresome watching people talk about the economy like it’s a big machine with half a dozen dials and some meters where you can read off these aggregate values and make an adjustment to dial X and change the reading on meter Y.


  10. Why do you not believe the govt inflation figures? By how much are they wrong?

    I remember once someone saying that inflation had been undermeasured by 5% every year for decades. If that is the case then we’ve been in a recession for decades too, which seems not to fit other facts.

  11. @IanB, trouble is in a lot of places there is a wage level. When Tim refers to the German thing, that only worked because over 50% of the (west) German workforce has their salary tied to some national bargaining arrangement or other – an arrangement on which the government exerts considerable (though far from absolute) influence. Even many people (such as myself) who work in companies that adheres to a “Tarif” and are personally exempted from it, find it affects our pay – in many cases putting an effective ceiling on what you can bargain for. It’s generally the case that companies with a “Tarif” pay better than those without. They are mostly larger companies, thus considered better and more stable employers, and as they account for a huge slice of the workforce there is little prospect of the other companies seriously bidding wages up.

    What we currently have is only partly liberal free-market capitalism, thus there are in practice more dials amenable to government twiddling. The market capitalism bit serves often merely to inform the government of the likely resistance that will meet their twiddling. In the case of Germany, not a lot.

  12. JamesV, that isn’t the same thing as the idea that the economy has a “wage level” or “price level” or any other damned level. Using the machine metaphor, the mental model that macro-believers have is that the dial is connected to all the wages (for example) and you turn it up and the wages all go up, and you turn it down an the wages all go down.

    Instead, it’s connected randomly (and the connections change at random too) so that you turn it up and some wages go up and some wages go down, and then you put it back where it was and the wages don’t go back to where they were, and the result is simply greater instability. But you have no idea what will happen, and only after some time can you even know what did happen.

    There is no Macroeconomics as currently believed. There are macroscopic effects, yes. And you can collect statistics and believe in them, if you like. But the best you can do is make generalised statements about the economy. You cannot control it or predict it, except in truly drastic cases (if all the potatoes are killed by a disease, the potato economy will collapse). The vain hope is that there is simply some margin of error that can be reduced by greater statistical collection and better theories. It isn’t true. Such a hope is a mirage.

    It is like, interest rates. You can predict that manipulating interest rates by central command will have various (destabilising) effects. You can predict that holding them too low will cause over-investment[1] and thus malinvestment and thus some kind of “bubble”. But you cannot predict where the bubble will arise, how big it will be, when it will pop or how bad the pop will be, or who will be put out of work or which businesses will collapse or who will make a killing getting out just before the pop. It just cannot be done.

    There aren’t any dials and levers and meters in the currently believed sense. Everyone has a theory of which lever to pull in which direction and what the meters should be connected to, and they’re all wrong. Because the theory itself is a mirage. We cannot start on the road to a properly functioning economy until that is generally accepted. That’s all there is to it.

    [1] There is a persistent widespread belief, even among liberals, that “investment” is always doubleplus good and the more there is the better it is. That isn’t true either. An economy can have too much investment, and that is what a bubble is.

  13. I don’t agree you can’t control the economy. It’s very easy to do things that make things worse. Printing lots of money is a classic example. It’s always made things worse, in every historical example, excluding the present one (and that has yet to run its course).

    I do agree that the government should not try to control the economy – at least not very much. Please note my acknowledgement that, for example, the German government has spent at least 10 years consciously suppressing wages is not an endorsement of the tactic! After all, it’s my wages being suppressed as well!

    In Germany, wages are a big dial that the government can turn up or down – it can at least pull very hard in one direction or another. Sure, there will be reactions to that, not only through increased or decreased consumer spending, but increased or decreased investment based on whether people perceive labour to be more or less expensive as a result of the twiddling. Government cannot magic investment money or spending money out of thin air, but they do try to maintain some balance by twiddling of that wage knob. Again, this is just reality, not an endorsement. I fully accept the point about overinvestment.

    The government only has this leverage because western Germany (to this day nothing of any economic consequence happens in the east) is so heavily unionised, and as a result even non-union companies, and non-union employees in union companies have their pay set to a large extent by national or regional collective bargaining deals. For greatly ironic historical reasons, the east is not heavily unionised (naturally enough the workers’ paradise banned trade unions) and wage levels (also labour unit productivity) remain drastically lower than in the west.

  14. “Wages and prices are variously sticky.”

    Yes. But empirically, the most important ones of these (salaried wages and house prices) are vastly more sticky downwards than upwards. Given that wage cuts and house price falls are both necessary, inflation is the least awful way to do them. Meanwhile, other goods and services are sticky in ways that are mostly symmetrical.

  15. Given that wage cuts and house price falls are both necessary, inflation is the least awful way to do them.

    I accept that inflation is the easier choice politically, but is it the least awful? If we are uncompetitive, is it not better that we are confronted with that reality in the most direct way possible? Which approach is more likely to alter peoples expectations and behaviour?

  16. Pissing about with macroeconomics is a hell of a lot easier than altering people’s expectations and behaviour, particularly over a 5-year rather than a 25-year period. By all means do both, but don’t expect the latter to work in a timescale under which we can sanely predict anything…

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