Risks of Slow Wage Growth Rate

The present assignment provides an overview on the risks that slow growth rate in wages pose to the Australian economy. Australia has stable economic performance over the last few years while adjusting to mining investment booms and commodity price of the year 2000. In the present year, the recovery from all these shocks has further advanced in rapid way. Aggregate demand in this nation has also led by huge growth in public investment amidst increase in infrastructure expenditure and business investment but the growth in private consumption has remained subdued. The growth in employment has strengthened over the last few decades, even though the economy is not back at the full employment. In the year 2017, the IMF (International Monetary Fund) stated that growth of wage has been weak and inflation has been below its target level. The present study also focuses on how slow growth rate in wages impacts on the aggregate demand – aggregate supply (AD- AS), inflation and unemployment in the Australian economy.

Recent evidences reflect that wage growth in Australia has declined significantly over the past few years. The size of this decrease in this nation’s wage growth rate has been bigger as compared to other developed nations. It has been opined by Daly and Hobijn (2015) that the present low growth rate in wage has not been unique in this country. There are several factors that influence growth of wage rate in this country. These factors are given as under-

• Low consumer price inflation
• Low workers demand level
• Low growth in total productivity of labor
• The impact on prices of output owing to unwinding of mining boom
• Underemployment
• Spare capacity in labor market

Over the time periods, the wage growth rate in this country usually tends to highlight growth in labor productivity and consumer prices. The workers in this nation expected to have compensation for the price inflation in order to maintain purchasing power of their wages. It has been cited by Carneiro, Guimarães and Portugal (2012) that, low growth rate in wage can be explained by low inflation prediction for the consumer prices. Even after taking into account low inflation expectations, the RBA (Reserve Bank of Australia) found out that wage growth rate has declined to zero. This suggests that inflation accounts for less part of overall decline. In addition, competition in labor services also assures that they attain a share for increase in productivity. Recent facts highlights that the annual growth rate in wages over the past two years in Australia was 2.3% in comparison with 5.4%in preceding few years. Therefore, low labor productivity leads to considerable proportion of declining growth rate in wages.

In the present years, this economy has been facing downturn, which in turn depresses wage growth rate. Even in this downturn, there are several sectors in this country where the employers face few constraints on hiring laborers. However, lesser employers are forced to give higher wages in order to hire laborers. As a result, the average wage growth rate in this economy declines. Furthermore, unwinding of mining boom also brought to an end of increase in output prices for this nation’s businesses. This nation faces huge decline in TOT (terms of trade), thereby leading to low profit margin for entities. This in turn imposes a huge constraint on total capacity of the employers to give higher wages to the laborers. The figure below reflects that since the year 2011, no growth has occurred in average output price level in this country.

Impact of Low Wage Growth Rate on Economic Growth

According to Carneiro, Guimarães and Portugal (2012),shift to service industry also contributes to low growth rate in wage since laborers in this industry work with less capital with respect to those laborers in manufacturing sector.  Recent facts also reflect that the underemployment level in this nation has also influenced the wage growth. () cites that the existence of underemployed laborers dampens wage growth rate provided that they offer extra labor supply and have low bargaining power for achieving higher wages.

The risk that slow wage growth rate poses to the Australian economy are explained below-

Lower inflation and increase in house prices- Low inflation in Australia has been one of the vital risks which are being aggravated by low wage growth (Jacobs and Rush 2015). The RBA states that since wages are biggest component of the business cost, decrease in growth of wage rate contributes to low inflation than expected.  However, the RBA has taken an attempt to lower rate of interest for stimulating inflation. This in turn caused unintended consequences in the economy such as increase in price of houses in Australia.

Lower income-Low growth in wages also poses a risk of decline in disposable income of households, which involves all income attained by consumers. According to OECD data, per capita disposable income of households has not increased since the year 2012. Even the states income growth per capita has been weak by about 2.5% in nominal terms in the year 2016.

Low revenue of government- Low growth in wages as well as household income and subsequent fall in consumer expenditure leads to lower revenue for the government of this nation (Sloman, Norris and Garrett 2013).

Increasing inequality- The ILO(International labor organization) has described that low wage rate also enhances inequality risk, which in turn adversely affects the society. However, sluggish growth in wage negatively affects the community of this nation.

Low wage growth rate influences the aggregate demand – aggregate supply (AD-AS), inflation, unemployment rate and economic growth of the nation (Rios, McConnell and Brue 2013). The impact of low wage growth rate in the Australian economy is explained with the help of these following macroeconomic indicators-

If the workers receive low wages, there will be decrease in consumer expenditure. Low income laborers are likely to have lower marginal propensity to consume However, the consumers will spend lower percentage of their wage in purchasing any product and services. As a result, it will lower the economic growth of the nation.

The AD- AS refers to the aggregate demand – aggregate supply framework that describes output and price level through relationship of aggregate supply and aggregate demand. Low wage growth rate negatively influences the aggregate demand in the economy. The reason behind this is that as the wage growth rate in these nation declines, the consumers total expenditure declines and thereby leads to fall in AD. This is highlighted in the figure given below:    

This above figure shows that fall in AD shifts the AD curve towards the leftward direction from AD1 TO AD2. As a result, the prices of goods also decline from P 1 to P2 and total output also decreases from Y 1 to Y2. Aggregate supply (AS) reflects the planned output when prices as well as average wage rates changes. Decline in wage rate leads to decrease in marginal product of labour (MP_L) and hence every unit of labor produces less output. As less workers are hired at low wages, the total productivity decreases which also causes decline in AS (Pessoa and Van Reenen 2012). This is shown in the figure below:

Impact of Low Wage Growth Rate on the Aggregate Demand – Aggregate Supply (AD-AS) Supply

The above figure reflects that decline in AS shift the As curve towards left from AS1 to AS2 . However, the output declines from Y1to Y2 but the price of goods increases from P1 to P2. However, it is evident from some facts that AD and AS in Australia has been declining owing to fall in wage rate

Wage rates influences the unemployment rate in the nation in indirect way. Low wage rate increase the level of unemployment in the economy. Low wage rate increases the loss of job and thus laborers are less likely to search for more jobs(Daly, Hobijn and Ni 2013). This in turn reduces the job finding rate in the nation and these laborers thereby have lesser alternatives as compared to high paid laborers. Moreover, the labor force participation rate also reduces and hence declines the employment rate in the economy.  As a result, the rate of unemployment in the economy declines owing to low growth rate in wage. Recent study reflects that Australia’s unemployment rate averaged to nearly 6.88% from 1978-2018, which is quite higher than the target level of 5%

From the perspectives of the organization, low growth in wage rate leads to decline its total spending of consumers. Owing to these, the firms lower the prices of goods and services, thereby lowering inflation rate in the economy (Taussig, 2013). However, in this situation where  the total consumer expenditure and the prices of products and services declines, it causes negative inflation or deflation. Thus, deflation can also ripples through the nation for instance it leads to high unemployment and thereby creates worse situation in the economy. It has been evident from the recent study that Australian economy has the longest period of negative inflation. The Australian Bureau of Statistics reveals that the rate of inflation in this nation at present is 1.9%, which reflects that it is below the RBA‘s target level (2%-3%). The figure below reflects occurrence of negative inflation in this country partially due to low growth in wage rate.

Conclusion

From the above study, it can be concluded that slow growth rate in wages poses risk in a country. The Australian economy has been facing several problems due to low wage growth rate such as increase in unemployment, negative inflation, decline in aggregate demand and aggregate supply and so on. However, these macroeconomic indicators reflect that the performance of Australia declines owing to slow wage growth rate in the economy.

References

Carneiro, A., Guimarães, P. and Portugal, P., 2012. Real wages and the business cycle: Accounting for worker, firm, and job title heterogeneity. American Economic Journal: Macroeconomics, 4(2), pp.133-52.

Daly, M.C. and Hobijn, B., 2015. Why is wage growth so slow?. FRBSF Economic Letter, 1.

Daly, M.C., Hobijn, B. and Ni, T., 2013. The path of wage growth and unemployment. FRBSF Economic Letter, 20.

Jacobs, D. and Rush, A., 2015. Why is wage growth so low?. RBA Bulletin, June, pp.9-18.

Keynes, J.M., 2016. General theory of employment, interest and money. Atlantic Publishers & Dist.

Mankiw, N.G., 2014. Principles of macroeconomics. Cengage Learning.

Pessoa, J.P. and Van Reenen, J., 2012. Decoupling of wage growth and productivity growth? Myth and reality. Report to the Resolution Foundation Commission on Living Standards.

Rios, M.C., McConnell, C.R. and Brue, S.L., 2013. Economics: Principles, problems, and policies. McGraw-Hill.

Sloman, J., Norris, K. and Garrett, D., 2013. Principles of economics. Pearson Higher Education AU.

Taussig, F.W., 2013. Principles of economics (Vol. 2). Cosimo, Inc..

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