As the treasurer lauds supply-side economics, a once-controversial recovery theory is gaining traction.This is the essence of modern monetary theory – that government budgeting is nothing like household or business budgeting, for the simple reason that government can create money.
The truth about wage stagnation
Budget speeches tend to be boastful presentations, and Scott Morrison’s effort this week was certainly no exception, as he trumpeted a list of indicators of the government’s masterful economic management.
The treasurer’s No. 1 boast related to job creation.
“The Australian Bureau of Statistics figures show that almost a million jobs have been created since we were first elected, as promised [by Tony Abbott],” he said.
On face value that’s a very impressive figure, a million jobs in fewer than five years. But put in demographic context, it is far less so. Since the election of this government, Australia’s population has grown by 1.8 million. At election time in September 2013, the unemployment rate was 5.6 per cent. The unemployment rate today? Also 5.6 per cent.
To be fair, it should be noted the participation rate – the proportion of people in the workforce – has grown slightly, from 64.9 per cent to 65.5. But the overwhelming bulk of that job creation comes down to nothing more than population growth.
The same applies to the other part of the government’s “jobs and growth” sloganeering: Australia’s economic growth appears world-beating until you factor in our world-beating population growth. When you look at Australia’s rate of gross domestic product (GDP) growth in per capita terms, it looks very underwhelming compared with many other developed nations.
Let’s focus on jobs, though. The government’s promises about jobs and wage growth are not only the most dubious part of this year’s budget, but of the government’s whole economic pitch.
Morrison keeps telling us that Australia’s long years of wage stagnation will end soon. And it keeps not happening.
In last year’s budget speech he acknowledged that Australian workers were growing “frustrated at not getting ahead” and at not sharing in “[Australia’s] hard-won growth”.
“It’s been a fair while since most hardworking Australians have had a decent pay rise,” he said. “I believe, though, that we are now moving towards the end of this difficult period.”
Morrison predicted a rebound in wages growth in the year ahead, spurred by the improving world economy and the passage of the first tranche of company tax cuts, for companies up to $50 million in turnover. He was sure then that the benefits would quickly trickle down to workers. But they didn’t.
In this year’s budget speech, he regretted that the gains from a strengthening economy “are yet to reach everyone”.
“This will take more time,” he said.
In his reckoning, it would also take the introduction of more corporate tax cuts. “Full implementation of our enterprise tax plan is needed for our businesses to remain internationally competitive, invest, create more jobs, boost wages and increase trade for smaller businesses.”
Although the passage of the next lot of corporate tax cuts through the parliament looks unlikely, Morrison also promised – again – that meaningful wage increases were imminent.
The budget papers forecast wage growth to pick up from the current 2.1 per cent – a rate barely above inflation – to 2.25 per cent by the June quarter this year. They would then keep growing, to 2.75 per cent next year, then 3.25 per cent in June 2020, then 3.5 per cent in both the 2020/21 and 2021/22 fiscal years.
The forecasts, says eminent independent economist Saul Eslake, “run counter to all the international evidence”.
Before we get to that evidence, though, a bit of background. As Morrison says, over and over again, wage growth follows “the normal rules of supply and demand”.
It’s an entirely orthodox view: as the labour market tightens, employers find it harder to attract workers and have to increase wages.
Economics holds that there is an optimum rate of employment, so-called full employment, although the word “full” doesn’t mean that everyone has a job. It describes the point at which the relative power of employers and employees is roughly equal, where workers are neither underemployed nor underpaid, but where wage demands are not so pressing as to drive unacceptable inflation. More technically, this sweet spot is called the non-accelerating inflation rate of unemployment, or NAIRU.
It has generally been considered that full employment in advanced economies occurs with a base unemployment rate of about 5 per cent, give or take a little. And on that basis, we might expect to be seeing stronger wage growth already, given that the current unemployment rate is only 5.6.
But something seems to have fundamentally changed in the economic system. All across the developed world, countries are experiencing levels of unemployment far below those that used to be considered full employment, without significant wage growth.
Take the United States, for example. Last Friday the US Department of Labor announced that the April jobless rate was just 3.9 per cent. Not since the late 1960s (1966–70) has it been so low for an extended period. But wages, measured in hourly earnings, had gone up just 2.6 per cent during the previous year, not much faster than inflation.
The results were taken by investors as an indication that interest rates would stay lower for longer. The US stock market went higher. The investor class loves low wage growth.
Likewise in Britain. Unemployment there stands at 4.2 per cent, the lowest since the mid 1970s. But wage growth has been flat, just 2.6 per cent according to recent data. In Germany, unemployment is 3.6 per cent and wages growth 0.5. In Japan, unemployment is 2.5 per cent and wage growth 0.8 per cent. In New Zealand, the figures are 4.4 unemployment and barely 1 per cent wage growth.
You get the picture. The old rules that applied to “jobs and growth” changed. Old economics can’t explain it. The so-called Phillips curve, used to graphically plot the relationship between jobs growth, wages and inflation, is no longer a curve but a flat line.
Only one thing is clear: during the past couple of decades, and more particularly since the global financial crisis 10 years ago, the balance of bargaining power shifted radically from workers to employers and shareholders. NAIRU is no longer about 5 per cent, but somewhere much lower.
Around the world a lot of people far more economically qualified than Scott Morrison are at a loss to understand exactly what is behind it. In March, a paper by the Reserve Bank of Australia (RBA) sought to explain why nominal wage growth in advanced economies has been sluggish over the past couple of years, despite tight labour markets.
It suggested cyclically low productivity might have something to do with it, along with “structurally lower employee bargaining power” due to lower rates of unionisation and greater labour market flexibility.
“At the same time,” it said, “automation, technological change, increasing global production integration and offshoring have affected some segments of the labour market”.
This makes workers feel less secure and under more competitive pressure.
The paper reached no firm conclusion about the cause, simply noting that “Wage growth in Canada, the United Kingdom, Sweden, periphery euro area, the United States and Australia” was a great deal lower than their economic models would suggest.
“The unexplained component of wage growth (measured by the residuals of the Phillips curve model) has become persistently and clearly negative; this pattern is evident across most of the economies in the sample.”
Bottom line, the paper was a long-winded way of saying, “We don’t know.”
Last November, RBA governor Philip Lowe noted hourly earnings in Australia were growing at the slowest rate in more than 50 years, as a result of low wage increases and a shift of people out of relatively well-paid mining jobs into lower-paying jobs.
He also noted a mindset in Australia “that the key to higher profits is to reduce costs”. Not investment, not innovation, but cost cutting.
Lowe has implored workers to seek pay rises, and employers to give them.
But why would they? As the international comparisons show, even at 5.6 per cent unemployment Australia remains way above the level at which workers have any significant bargaining power under the new rules of the economic game.
As to what that level is, Saul Eslake is as perplexed as anyone else.
“We know the unemployment rate now needs to be below the traditional full employment rate for longer before wages start to move,” he says. “But no one knows how much below or for how long.”
We do know that the US unemployment rate has been below the current Australian rate since February 2015. The British rate has been lower since November 2014, and Germany’s has been lower since the end of 2011.
“And,” says John Hewson, economics professor and former leader of the Liberal Party, “it’s not just the unemployment rate you have to consider, but the underemployment rate.”
The underemployment rate now is 8.4 per cent. Even the generally optimistic spin placed on the state of the economy in the budget papers included the caveat that “uncertainty around assessments of the degree of spare capacity in the labour market and hence wage pressures …”
We can’t entirely blame the government for this state of affairs. The change is global. But we can question their response and their failure to learn from overseas experience. Both Britain and the US have brought in massive corporate tax cuts, substantially paid for by cuts to government assistance to the disadvantaged.
The theory was that the benefits would trickle down to wages. They didn’t.
“Look at the US,” Hewson says. “They have more than full employment at 3.9 per cent. They have huge corporate liquidity now with the tax cuts. And the corporate sector has responded with a record level of share buybacks and dividend payouts.”
He doesn’t buy the government line that similar huge corporate tax cuts are a necessary precondition for wage growth here.
“Old school economics says this is going to trickle down to increased investment and more employment and higher wages,” he says. “But the bottom line is that old-school economics does not apply in the current circumstances.”
Cutting corporate taxes won’t change things. Nor, as Philip Lowe said in his speech last year, will personal tax cuts solve the problem of stagnant wages.
More ominously for Morrison and the old school, workers are coming to the same realisation. A hundred thousand people marching in the streets of Melbourne this week were testament to that.
This article was first published in the print edition of The Saturday Paper on May 12, 2018 as "Jobs sans growth".
A free press is one you pay for. In the short term, the economic fallout from coronavirus has taken about a third of our revenue. We will survive this crisis, but we need the support of readers. Now is the time to subscribe.