With fewer than 200 days to go until the UK's general election – set for May 7 2015 – the opposition Labour Party, which still has extensive links with the trade union movement, is campaigning to tackle what it calls the country's 'cost of living crisis'.
On Saturday, thousands of people took to the streets of London, Glasgow and Belfast to demand wage increases and protest against austerity. The event, organised by the Trades Union Congress, followed public sector strikes earlier in the week.
Most of the people on the marches were public sector workers opposed to a below-inflation pay offer of 1% from the government. The UK's latest consumer price index stood at 1.2% in September. The TUC's general secretary, Frances O'Grady, said that such a "massive turnout" would send a strong message to the prime minister, David Cameron, and the chancellor of the exchequer, George Osborne.
But look at jobs growth
However, the coalition government argues that it is because of curtailing the level of state expenditure through cutbacks and wage restraint that the overall number of jobs has been protected.
Looking back over successive Osborne budgets one will see that there have been several initiatives to help working families, such as reducing the rate of income tax, raising the thresholds where tax is paid, freezing fuel duty and providing financial assistance to local authorities so as to allow council tax to be frozen.
The TUC believes pay has fallen despite the economic upturn. However, at a time when there are concerns about the future path and magnitude of global economic growth I think it is important to briefly consider how wages are determined.
Let's also compare the reality of the UK with the Eurozone and the US.
Wage rate equilibrium
The interaction of labour demand and labour supply determines the market equilibrium wage. A change in labour demand and/or supply will alter the equilibrium and change wages and employment.
The chart below illustrates that when labour demand increases there will be a rise in both wages and employment:
Source: www.dineshbakshi.com
A fall in labour supply causes upward pressure on wages; however, employment decreases:
Source: www.dineshbakshi.com
When the wage rate is not at the market-clearing level, a situation of dis-equilibrium exists. If wages lie above the equilibrium there is an excess supply of labour; similarly, excess demand will occur when wages are below the equilibrium.
Currently in the UK if one considers the number of unemployed people looking for work and the number of people on part-time contracts that seek full time employment, the excess supply of labour in the UK is around four million people. That will necessarily put a break on wage growth.
I accept that the charts above are an illustration of comparative static analysis that is extremely simplistic. However, this is not the forum for a deeper rooted econometric investigation into the dynamics of wage rate determination and relative wage flexibility.
Even so, I can look at the percentage changes of key labour market and inflationary metrics to provide an argument against the TUC’s demand for wage rises: Source: UK Office for National Statistics, Bureau of Labor Statistics
The data in the chart compare the percentage changes in the metrics of average weekly wages (AWW), labour costs (LC), labour productivity (LP) and consumer prices (CPI) from May 2010 through to June 2014. This covers the four years that the coalition government has been in power and allows for a like-for-like international comparison.
It can be seen that in the three regions the level of CPI change has outstripped wage growth. However, the level of prices over wages is 5.90% in the UK compared to 2.66% in the Eurozone and 10.35% in the US. In fact, the increase in AWW is greatest in the UK.
Let's do the maths: average weekly wages are greater in the UK compared to the Eurozone and the US. Photo: Thinkstock.com
Low productivity
One issue that hardly ever gets a mention by the trade unions in the UK is how efficient or productive labour is. The data reveals that since May 2010, the UK has the lowest level of productivity when compared to the Eurozone and the US. Labour costs have only been kept down because overtime and bonus payments have been reduced.
Britain’s labour costs have dropped below that of the Eurozone process efficiencies and a currency advantage have transformed the UK into a low cost country, compared with many of its European neighbours. When wages and productive costs are factored in, the average hourly cost of employing someone was EUR20.90 in the UK in 2013 compared to EUR27.50 in the Eurozone overall. (Source: Eurostat)
Strength in numbers
This underlines the reason for strong employment growth in the UK in comparison to the Eurozone. In fact, it is on the issue of job creation that the UK and the US stand head and shoulders above the single currency region.
Part of the reason for the strong job creation in the UK is that labour costs overall are no longer an impediment to inward investment. On August 23 the Bank of England's deputy governor, Ben Broadbent, said it was possible that wage growth had adjusted downward to “…a protracted period of low productivity growth …”.
So the unions might be advised to actually look at the reality of international labour markets and consider the reasons why unemployment in the UK at 6% is in line with that in the US at 5.9% as against the 11.5% in the Eurozone.