How to Get Higher Wages

This was a note I prepared following a discussion on some troubling statistics. 1 March, 2010.

Keywords: Labour Studies; Statistics;

Suppose you did exactly the same job for the whole of your life. How do you think your wages would increase the same as inflation, or faster?

I cant be sure of the answer for a lifetime but I can tell you it for the period since 1992. On average your wage would increase about the same as inflation. Some years a little faster, some years a little slower but in the long run – well eighteen years – the same.

We know this because when it is compiling its Labour Cost Index Statistics New Zealand asks employers about the wages they pay and the reasons why they rise. From this they can extract what happens to the wages of workers where there is no change in the job specification, and the answer is that typically they rise at the same rate as consumer (and producer) inflation.

This is an astonishing result. Economists usually assume that some of the extra output from capital deepening (more capital per worker) goes to the worker. Drive a bigger bus, and you automatically get a pay rise. Apparently not. We had some theoretical reasons for assuming this, but theory always depends on assumptions. Apparently some do not apply, although we are not sure which. (The critical assumption may be about the degree of substitution between labour and capital, but then again it may not.)

Wages on average do rise. We have always known they rise from the ‘composition’ effect. It is usual for the labour force to expand with skilled jobs (which are high paid) increasing faster than the low-skilled low-paid jobs. That may be some comfort for workers on average – in the long run their pay goes up – but it aint much for the worker who keeps doing the same job. (For much of the 2000s the effect was the other way. As the workforce absorbed less skilled workers from the unemployed and hidden unemployed, there may have been some dilution of overall skills.)

However there is another effect. Recall that the LCI wage series only looks at wages of jobs where there is no change in work practices – the job the worker is doing does the same quality and quantity. So it discounts remuneration rises because the worker’s level of experience increases, or they obtain a new qualification, or they lift their performance, or become more proficient at the job. That means many workers are getting wage rises above the rate of inflation, but they are getting them because they are improving their performance. Sure, it may require more capital – it’s a fat lot of good training to use a computer if the boss does not provide you with one. But it seems that to get a real pay rise the worker has to put in some extra effort, one way or another.

It seems that these real wages (for workers as a whole) rise at about the same as overall productivity. I am not sure what that means. As far as I can see there is no theoretical reason that should happen. Perhaps it is just a coincidence. Perhaps there is something going on which we have not allowed for. A bizarre explanation might be that all the productivity gains of the economy come from worker upskilling and that additional capital does not really contribute to additional output, or it only does that by complementing the additional workers skills. I think that unlikely but we have to think of all possibilities. (Were it true, it would imply – I think – there was little value in investing in infrastructure. Again unlikely.)

What does it imply for labour relations? In a way not much; it simply reinforces what we have been doing. The worker who wants to get on is going to have to improve her or his own work effort. Doing nothing and hoping one will benefit from other’s effort will not be particularly effective (on average). For the workplace it underlines the central role of the program called ‘workplace reform’, that is enabling businesses and workers to organise the workplace to increase worker performance. That’s the way to give them a real wage rise.


This puts economists’ traditional account of wage setting into turmoil. We’ll survive – there is nothing like a good puzzle to bring out the best in a quality economists. So how to go about solving the puzzle? The number of theoretical possibilities are large, so it is hard to progress the theory without empirical research which limits them. (It would be a good idea though to look at some of the criticisms of the neoclassical theory of wage determination by the great economists of the past – I am particularly thinking of Dennis Robertson and Joan Robinson who pointed out the theory was muddled and circular.)

One step would be to investigate the unit records collected for the LCI. Are there any patterns – like what are the chief reasons a worker gets pay rise (above the rate of inflation)? It strikes me that this may be a more powerful data base for understanding remuneration than the LEED one, useful that it is.

And it might lead to an insight on productivity gains (if we can rescue the production function assumptions). Here is a possibility. The difference in the growth rates between the unadjusted LCI wages rises and adjusted LCI wages might be used as a measure as the growth of Labour quality. So we can explain part of the multi-factor productivity growth by the improvement in Labour. I’ve fiddled around with the calculations – you can too – and got some interesting results. But I am not ready to publish them, because I am uncertain about the functions underpinning the exercise.