Unless productivity rises, get used to low wages growth

Employment and Workplace Relations Minister Tony Burke. Picture: NCA NewsWire / Gary Ramage

Low wage growth in the context of low unemployment is a puzzle that has baffled economists for some time. Before the pandemic and after restrictions eased, the rates of unemployment have been relatively low, yet there has been a sluggish response in terms of higher wage growth.

This is not just an Australian phenomenon, meaning we need to look beyond local institutional factors for answers. Employment and Workplace Relations Minister Tony Burke should take note.

But let’s take a look at the Australian wage figures. The preferred measure of change to wages is the wage price index, which factors out changes in the composition of jobs. It’s like the consumer price index.

If we ignore the disruptions caused by the global financial crisis (2008-09), the WPI was growing this century at annual rates of about 3 to 4 per cent until late 2012. At that point WPI growth began to tank, with annual growth rates close to 2 per cent recorded. There were some periods in which the annual WPI growth was well below 2 per cent. (We need to discount the pandemic period to get a true impression.)

But as wage growth was decelerating, the rate of unemployment was falling. In October 2014 the seasonally adjusted rate of unemployment was 6.4 per cent. By February 2019 it was 5 per cent. The latest figure on unemployment is 3.4 per cent, with the overall rate of labour under-utilisation (which takes into account underemployment) at a historic low.

The most recent figure on the WPI shows some tick-up, with annual growth at 2.6 per cent. Private sector wages grew slightly higher at 2.7 per cent, with public sector wages growing at 2.4 per cent. However, with price inflation far exceeding these growth rates – the latest CPI figure was 6.1 per cent – the net effect has been real wages going backwards.

One explanation for the apparent weakening of the link between wage growth and unemployment (or the state of the labour market more generally) relates to how we measure wage growth. There is an argument that using an index fails to take into account some ways the labour market adjusts – through rapid promotions, payment of bonuses, altered employment conditions (longer holidays, for instance) and the like.

In fact, Treasury makes this point in the budget papers by looking at wage growth sourced from the national accounts. Using compensation of employees – the old wages, salaries and supplements series – the most recent figure showed annual growth of 5.5 per cent in the year ending in the March quarter this year.

Another factor that Treasury gives to explain our sluggish wage growth has been the declining rate of job turnover among workers. This in turn led to rising job tenure, with the proportions of workers who had been with their current employer for more than five and 10 years rising. Why this is important is that the easiest way to secure a pay rise is to change jobs and if workers are reluctant to do so this will dampen wage growth. Given the tightness of many occupational labour markets at the moment, this may be about to change.

Trade unions and the Labor government are inclined to place emphasis on institutional features of the labour market to explain why wage growth has been so low. The falling incidence of enterprise agreements is seen as central. Burke refers to these as “leaks” in the system.

It is certainly the case that the proportion of workers covered by enterprise agreements has declined significantly during the past decade, with only 10 per cent of private sector employees now working under such agreements. But just because collective agreements have fallen into disuse doesn’t prevent employers from entering into individual arrangements with workers and increasing their pay in this way.

There is also the issue of whether public sector pay caps have affected overall wage outcomes. Until recently, however, increases to public sector pay have outstripped those in the private sector. Moreover, while public sector pay rises have been relatively low in nominal terms, until recently the rate of inflation was also low. The same can be said for increases to award wages which are set by the annual wage review conducted by the Fair Work Commission.

Low wage growth in the context of low and falling unemployment has been a feature of several developed economies, including the US and Britain. Both these countries have relatively deregulated wage fixing arrangements yet the same phenomenon we see here has occurred there. More recent figures in those countries point to higher wage growth, but in both inflation is also significantly higher.

There is also the issue of the relatively large flows of migrant workers to these countries that alter the balance between supply and demand in particular occupational labour markets. For example, there is evidence in Australia that the relatively large inflow of qualified engineers from overseas has constrained the rate of growth of engineering salaries.

The key factor we need to come back to is productivity, which has grown more slowly here and in other countries. Compared with the heady days of the 1990s, the average annual rate of labour productivity growth is just above 1 per cent per year. On this basis alone we should expect real wages to grow slowly.

Of course, when there is a large number of job openings relative to applicants it’s only a matter of time before employers increase wage offers. But it may be there is a high degree of uncertainty about the future that is making employers reluctant to lock in large pay rises.

Instead they are offering temporary bonuses to retain and attract staff and to restrict substantial pay rises to the most indispensable workers. Being hit by other cost increases, particularly higher energy bills, is also constraining some businesses from offering higher wages.

While it’s commendable that the government wants to see higher real wages, focusing on arcane features of Australia’s industrial relations system is unlikely to help. And lifting public sector pay caps is dangerous if more government borrowing simply leads to higher inflation and interest rates. Without higher productivity we may just have to get used to sluggish wage growth.