Wages

This post was written by Kevin O’Rourke

I’d say this little piece by Paul Krugman, and the associated note, will end up on lots of undergraduate syllabi. Liquidity traps are boring to teach, until you find yourself in the middle of one. From an Irish point of view, however, the key section is the following:

if some subset of the work force accepts lower wages, it can gain jobs. If workers in the widget industry take a pay cut, this will lead to lower prices of widgets relative to other things, so people will buy more widgets, hence more employment.

The point is that the Irish are just a subset of the Eurozone workforce, and that our GDP is the equivalent of Krugman’s widgets, whose relative price can be reduced. Krugman makes the same point in a follow-up post here. Of course, devaluation would be preferable to wage (and price) cuts: it would avoid the debt deflation and rising real interest rates which Krugman talks about. But it is not an option.

30 Responses to “Wages”

  1. David Locke Says:

    Since when was neo-classical economics on the board of directors. What happens is the company has a good quarter, so the wage savings go into the CEO’s pocket, so no, not another job gets created. The price decline never happened. Instead, it just padded the profit.

    We cut taxes on the promise that new jobs would be created. Look around. It didn’t happen.

    After eight years of neo-classical economics, it should be clear that theory departs reality.

    The real question is how does an economy without jobs work. It’s the future for the few, a reality for the many. But, the few will become fewer and fewer.

  2. Calan Says:

    Wages are only one component of ‘competitiveness’. Irish exports have hardly fallen at all, certainly much smaller than the decline in world-wide trade. So empirically where’s the case for further reductions in wages?

    The current situation in Ireland is characterized by debt deflation, falling wages and prices, huge unemployment.

    Further declines in wages will merely further reduce overall demand and aggravate the deflationary situation.
    How do you know that any putative gains in growth of exports from further wage cuts will be enough to counteract the further decline in aggregate demand?

  3. E65Bn plus economic costs and NO extra lending! Says:

    http://www.irisheconomy.ie/index.php/2009/04/03/public-sector-pay-cuts/#comments

    Interesting to see that only two months after the original pay cut the clamour had started to cut public sector wages again - and has continued ever since.

    Brendan Keenan gave us a truthful view from the establishment in Feb 09 of how they view the Anglo investigation, the collapse of our banking system and the value they put on bank investigations.

    http://www.independent.ie/opinion/analysis/raid-may-be-interesting-but-its-not-that-important-1651857.html

    On the Anglo investigation:

    “There is no doubt about the levels of interest in the shenanigans at Anglo Irish Bank. The arrival of the gardai on the premises looks set to raise the media interest to something approaching hysteria.

    But — whisper it quietly — it is not really all that important.

    We are, after all, talking about alleged breaches of company law; normally a subject on which it would be impossible to excite any public interest at all. In normal circumstances, only shareholders need worry about such arcane matters as directors’ loans, “concert parties” buying shares and the allocation of funds in a company’s accounts”

    On the collapse of our banking system:

    “How much money will Anglo and the other banks lose, and will it be so much as to impose a heavy burden on the taxpayer? The answer depends on how far one thinks property prices will fall, which is why there is no definite answer.

    A more productive question may be whether the Irish banks are in any worse shape than those of other countries — especially Britain and the USA. Increasingly, the answer seems to be “probably not”.

    On the value the establishment put on inquiries and indeed investigations:

    “It also raises the disturbing question as to why Irish banks appear to be suffering a bigger loss of confidence than those of the UK or US.

    This is where the relatively unimportant investigations become important. They add to the general impression that things in Ireland are largely out of control. They make it look — probably unfairly — that Ireland has problems which others do not. In finance, how things look is what matters.

    At home, they may also be contributing to the manifest failure of the public to grasp what is happening, and what we will have to endure to come through it. Quite reasonably, people do not want to endure hardship to rescue villains. Less reasonably, they may come to believe that if the villains are dealt with the hardship will be avoided.”

    To sum up, investigations are destabilising and may lead to people (the ordinary people presumably) thinking that hardship can be avoided.

    If Watergate had happened in Ireland most of the press would have demanded that the investigation be halted as it was damaging and making people think they could avoid their (deserved?) suffering and some opposition politicians would have agreed.

  4. Pat Donnelly Says:

    An Irishman, not R Cantillon, decided that his workers should be overpaid, so that they might be able to buy what they produced in his factory.

    They still make that product, although mpg has declined, but will be out of business at their original location in a few more years as their direct competitors get restructuring benefits and $ from their government.

    Who was he?

  5. Pat Donnelly Says:

    E65Bn plus economic costs and NO extra lending!

    “the manifest failure of the public to grasp what is happening”

    Yes!!!!!!

  6. simpleton Says:

    It’s not that simple. (Is it ever?). Even a Krugman fan such as myself sometimes has to acknowledge the great man is beating a political as opposed to an economic drum. For those interested in this very geeky debate look at

    http://www.marginalrevolution.com/marginalrevolution/2009/12/more-krugman-on-the-minimum-wage.html

  7. Con Says:

    I suggest not getting carried away about the good Q3 GDP numbers and the good export numbers. The QNHS data published a couple of days ago show employment in Industry down by 12,200 (4.7%) quarter-on-quarter, and by 40,200 (14.0%) year-on-year.

    In the early 1990s we worried about jobless growth. If growth is what we have now, it is job-negative growth. What we need is the sort of growth that produces jobs, and lots of them. Which brings us back to the need to strenghten competitiveness.

    Just to be clear, in this context Industry does not include Construction, where the Q3 fall in employment was a comparatively modest, by the standards of the recent past, 9.5% quarter-on quarter.

  8. Michael Hennigan - Finfacts Says:

    @ Calan
    How do you know that any putative gains in growth of exports from further wage cuts will be enough to counteract the further decline in aggregate demand?

    If taxes have to be raised to pay for wage levels which cannot be afforded, demand would also be impacted.

    The issue of costs and exports, has particular relevance where the goal is to develop new markets - - a far from easy task.

    The challenge of creating 160,000 new Irish jobs:
    http://www.finfacts.ie/irishfinancenews/article_1018704.shtml

  9. Ernie Ball Says:

    @simpleton

    Of course if anyone puts forward a view from the left they are being “political.” As for the right-wing view that says wages must be cut and the wealthy can’t afford to pay any more in tax, well that’s just the natural order of things…

    I’m not one of those who believes that “everything is political.” But I do believe that there is a set of political presuppositions behind almost every post on this site.

  10. Concubhar O'Caolai Says:

    Ernie

    I don’t think the main issue re taxes on the wealthy is whether they can afford to pay or not- it’s whether they can be compelled to pay them or whether they will take their wealth elsewhere.

    Given the very high proportion of our national tax revenue contributed by the wealthiest 5%, this is not an issue to be dismissed out of hand.

    After all, earnest hand-wringing and left wing pieties won’t pay for cancer treatment…

  11. simpleton Says:

    @Ernie
    ‘I do believe that there is a set of political presuppositions behind almost every post on this site’.

    No doubt you consider your Nazi jokes to be the exception.

    Did you read the link I posted? If so, what do you think of Viner’s review of the General Theory?

  12. Michael Burke Says:

    Con

    They weren’t even good export numbers, down 3.5% on a year ago compared to flat in H1. It’s just that imports were down far more, -13% yoy.

    The austerity measures were begun over a year ago. You’d expect some effects by now. There is. This is it. Personal consumption down 11% and investment down 40%. All of which means taxes foregone apart from a host of other negative consequences.

    But at least the government didn’t go mad chasing pots of gold like those giddy Germans, French, Dutch, Belgians, Swedes, Americans, Chinese, etc. etc.

  13. Con Says:

    @Michael,
    I should have phrased that a bit differently, ‘though the export numbers are pretty good under current international trade conditions, even if they are not as good as for H1.

    I’m a bit sceptical of the idea that austerity is a dominant factor in the slowdown in consumption and investment. I tend to look first to the effects of the 9% fall in numbers employed, falling prices and falling private sector take-home pay on consumption. Most of the fall in employment can be accounted for by the end of the construction boom, a fall in employment in tradable sectors and multipliers on these.

    I’d imagine that the collapse of the property boom and the drop-off in purchases of investment goods that generally occurs in a recession have made a sizeable contribution to the decline in investment, and I wouldn’t attribute a big role to Irish austerity in either of these.

  14. Spain versus Florida - Paul Krugman Blog - NYTimes.com Says:

    [...] some commenters argued that individual US states or regions are in the same situation as Spain (or Ireland), so there really isn’t any difference.Shouldn’t Florida have its own currency? (I [...]

  15. Cormac Lucey Says:

    Exiting the Euro is an option. It’s just not a very attractive one. And it’s not one that the government can be seen to publicly contemplate. All the more reason then for independent economists to formally examine the pros and cons so that if, in extremis, the exit option has to be considered some ground work will have been done.

  16. Kevin O'Rourke Says:

    If you want to argue that leaving EMU is an option, you have to deal with the arguments raised here

    http://www.voxeu.org/index.php?q=node/729

    and explain how we could leave EMU in such a way as to take the markets by surprise.

    I was sceptical about joining. But EMU is a bit like a roach motel: you can check in but you can’t check out.

  17. Michael Hennigan - Finfacts Says:

    @ Kevin/Cormac

    Yes it does seem like Hotel California and Barry Eichengreen sets out the challenges/obstacles.

    Pub-stool economics always comes to mind when this subject comes up because while the scenario of a short-term fix through a devaluation can seem compelling, how a change would work in practice in a country that has taken more than 40 years to build a motorway between its two main cities, is never outlined.

    David McWilliams bizarrely claims that a 10% devaluation in Jan 1993, triggered the boom — 10%?

    The rise in exports from new FDI entrants like Intel, Dell etc from 1989, explains the spike in exports from 1993, while the devaluation did not result in a rise in exports from Irish owned firms.

    More than 50% of Iceland’s merchandise exports are from its fisheries sector while in the case of Argentina, it got an export benefit from devaluation because its exports are mainly commodities:

    Ireland exiting the euro and the risk of setting the Irish economy on fire

    It is the likes of Intel, Pfizer and Microsoft and other foreign companies, who are responsible for most of Ireland’s exports who would have to see merit in abandoning the world’s second reserve currency.

    A double digit benchmark interest rate like Iceland’s - - triggering demands for pay hikes - - coupled would social turmoil, is a great scenario for a country more dependent on foreign direct investment, than any other developed country.

    There may not be any significant trade benefit from a devaluation while the national debt obligations would jump.

  18. Calan Says:

    “It is the likes of Intel, Pfizer and Microsoft and other foreign companies, who are responsible for most of Ireland’s exports”-

    The case for reducing wages to boost growth through exports to a greater extent than the loss of growth through suppression of demand has not been proven either theoretically or empirically.
    So calls for further reductions in workers’ living standard must be regarded as ideological.

  19. B P Woods Says:

    @ Calan. ‘So calls for further reductions in workers’ living standard must be regarded as ideological.’ Not ideological, just completely cracked daft! Its incredible how seemingly intelligent folk can be so crass - ‘bright shining stupidity’. Thick as two short planks!

    It may have something to do with their economic models. These appear to be based on mathematical (calculus) relationships, which if you are careful with the input variables will always give you the expected outputs you expected. Very clever. Seems to get lots of Prizes.

    Economics in the real world is a human-based activity. The behavioural psychologists have a better handle on human behaviour, so perhaps the economists should ask the psychologists for some tuition. Might improve their predictions.

    I would be more useful if someone would explain the relationship between the incremental increase in credit/debt and faux economic growth since 2002 instead of worrying about our relatively ‘uncompetitive’ status. Competitive for what purpose anyway? Export? Services? What?

    B Peter

  20. Ernie Ball Says:

    @Concubhar O’Caolai

    Let’s see if I understand this. The wealthy can’t be made to pay. Only the relatively poor can be made to pay.

    It’s nonsense and not even very plausible nonsense. All of the worldwide income of US citizens (and green card holders, I believe) is taxable in the US, wherever they may reside. Furthermore, if you renounce your US citizenship for whatever reason, there is an IRS presumption that you are doing it to escape taxation and you are required to file tax returns for 10 years after having renounced. I’m not sure what the penalty for failure to do that is, but it might be arrest upon setting foot in the country.

    If the fiscal crisis is as serious as we’re being told it is, why could Ireland not do the same? Because the governing parties and the technocrats would rather make the poor pay.

    @simpleton

    Happy Hanukkah.

  21. jl Says:

    @ Ernie

    How do the Public Sector fit into you concept of “relatively poor”. Does the data no show that at all parts of the employment spectrum except the top levels they receive moor than their private sector counterparts. Are you arging that the top levels of the public sector should have been exempt from pay cuts. If you are that is at least a logical position albeit inequitable.

    Are you arguing that all SW recipients ahould have been exempt from cuts but the reltively comfortable PS sublect to cuts. Again a logical position with which I would probably find mysself in part agreement.

    Are you arguing for cuts in PS pensioner incomes rather than probably more indebted serving public servants. I doublt you are but I don’t see the logic in exempting some of the wealthiest pensioners in our society from any pain going.

    Are you calling for increases in marginal tax rates on middle income private sector workers to pay for the maintenance of the well heeled better paid breathern in the PS then I think we part company.

    The constant attacks by ICTU on the less well paid, less sheltered workers in the private sector have long since eroded any sympathy.

  22. Ernie Ball Says:

    @jl

    I don’t think anyone has demonstrated that “the data unequivocally show” anything at all about public sector pay. For one thing, it is not at all clear that there are private-sector equivalents for many public-sector posts (e.g., guard, prison officer, soldier, , firefighter).

    Second, does the “data” for the private sector include all bonuses? If not, the comparisons are meaningless.

    Even if I were to accept that the data is unimpeachable and shows there to be some sort of “premium,” we still don’t understand whether there might be very good reasons for that premium. For example, much of that is the result of one simple fact: in the private sector, woman are routinely discriminated against and earn a fraction of what men in the same posts earn while in the public sector (where the workforce is significantly more “feminised”) this is by and large not the case. To assume that the data justify cuts in public service pay may amount to little more than legitimating the sort of private-sector discrimination we should be fighting to eliminate.

    Lastly, many seem to have forgotten that public-sector employees pay tax at the same rates as those in the private sector. So when you ask “are you calling for increases in marginal tax rates on middle income private sector workers to pay for the maintenance of the well-heeled better-padid breathern [sic] in the PS?” you seem to be operating under the assumption that, somehow, private-sector workers alone pay for public-sector salaries. That is an ideological point of view. All workers (in theory) pay tax according to their abilities. This money goes to the state. The state pays public-sector salaries. It makes no sense whatsoever to conclude on that basis that somehow the private sector alone “pay public-sector salaries.” It leads to incoherencies like the conclusion that I somehow pay my own salary since I also pay tax. And when the state gives subsidies to various private-sector entities are we to conclude that the private-sector is giving money to itself?

    All this to say that the fairest way of imposing the pain would’ve been to use the taxation system, which applies to all according to their ability to pay. If PS workers make more as you claim then PS workers would be paying more. Such an approach would have the political advantage of having the entire country making sacrifices together. Correlatively, it would make the constant division of private vs. public that the government and wealthy interests have exploited for the last 12 months impossible. Economists on this site frequently seem blind to such considerations, thinking as they do that the economic view trumps all. It doesn’t.

  23. B P Woods Says:

    @ Pat D. Would that be him of the 4WD - JB?

    B Peter

  24. jl Says:

    @ernie,
    It is a fact that the private sector does pay the wages of the public sector. The taxes paid by the public sector merely reduce the overall bill. At the moment the net public sector pay bill (after taxes paid by the public sector) is paid by a combination of taxes on the private sector and borrowing (paid out of future taxes on the private sector) Thankfully the budget reduced the burden on the private sector but more work remains to be done. I look forward now to the Unions delivering on the reforms promised. After all they had already conceded on the issue of reduced incomes through lay offs. At least that is what we were told by the Taliban.

    Doubt that Simpleton will be happy with you wishing him a happy Hannukah. Do you think his friends in the party might expel him.?

  25. chris johns Says:

    @JL
    As a student of recent history you will no doubt be as amused as I by the reappearance of Derek Hatton aka Ernie.

  26. jl Says:

    @CJ
    I would not compare Ernie to Derek Hatton. Ernie does not have his own radio show & has not made millions in dodgy property deals in Cyprus. Moreover, Ernie is still clearly on the left of the political spectrum while Derek left that behind years ago.

  27. chris johns Says:

    @Jl
    Every journey involves a series of steps. Some are late starters, others are just slow.

  28. jl Says:

    @CJ
    ah yes, that old adage. ” If you are not a socialist in your 20s you have no heart & if you are still a socialist in your 40s you have no brains.”

  29. Geo8rge Says:

    Would cutting the minimum wage raise employment?

    Does the minimum wage exist in the US? Low wage jobs often do not include health insurance, or have health insurance that does not pay claims reliably. It is possible to circumvent the min wage by hiring independent contractors, and other tricks. The large number of illegal aliens leaves tremendous room for mischief. Soldiers in Afghanistan? I can point to piles of possible abuses, both official and unofficial.

  30. Dumpthedummy Says:

    It seems to me that we are suffering from a lack of joined up thinking. Recent changes in the maximun gross allowable income for student grants has meant that some students in the middle of a degree course can find themselves without a grant in the middle of a three or four year course. Given that these students are most likely going to form the basis for any sort of revival in this country, forcing them to leave college or borrow to continue seems to me to be missing the point !

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