Productivity, wages and labor markets
Gerard Jackson
Labor reforms have once again come under attack. Keith Hancock and Joe Isaac basically argue that not only did labor reforms fail to lift productivity it is even questionable whether there was even a productivity surge during the 1990s. (The Australian, Statistics prove reforms aren't so successful, 24 November 2004)
What lies behind Hancock and Isaac's article is a deep hostility to free labour markets, of which they apparently know nothing. Putting that aside for the moment, there is nothing new in their views. Professor John Quiggin ploughed the same field sometime ago.
Using ABS data Professor Quiggin argued that total factor productivity (TFP) grew by 1.3 per cent in the 1970s, 0.3 in the 1980s and 1.7 per cent in the 1990s (The Australian Financial Review, 14 January 1999). Though Quiggin readily admitted that the productivity data for the 1990s had to be qualified because it began in a recession, he stressed that the rise in TFP is "dramatic only in comparison with the first decade of micro-economic reform, the 1980s."
He blamed the virtual absence of capital productivity during the 1980s on financial deregulation and speculators like Skase, Bond and Holmes a Court. (I'll return to this nonsense later.)
He also admitted that labour productivity per hour rose significantly but tried to downplay this improvement by using "anecdotal evidence" to suggest that we are just working harder. (There really is no pleasing the likes Quiggin.) From this he made the absurd deduction that benefits from working harder involved a transfer of income from workers to employers. This is just plain socialist claptrap.
TFP simply adds up the contributions that factors of production are thought to have made to output. It is basically an accounting method. A simple example will suffice to illustrate the reasoning behind the idea.
The increase in total output is 10 per cent and labor's share of GDP is 70 per cent while that of capital is 30 per cent. If the supply of labour has risen by 6 per cent in the same period its contribution will be 70 per cent of 6 per cent which equals 4.2 per cent.
By the same reasoning, if the supply of capital increased by 10 per cent then its contribution would be 3 per cent. Thus the combined contribution of labour and capital to output is 7.2. The residual of 2.8 per cent is treated by economists the result of technical progress and considered an exogenous factor.
The Austrian view attacks the very notion of TFP. As far as the Austrian school is concerned, capital is the ultimate source of productivity increases. It is capital that is the source of increasing productivity, which in turn is fuelled by savings. Therefore any so-called residual is due to understating output from increased investment.*
Austrians take the argument several steps further by emphasising the importance of the heterogeneous nature of capital and the fundament fact that it forms a complex production structure. In addition, not only does the increasing specialisation of capital keep diminishing returns at bay capital goods also embody technical progress. In plain English, TFP is a statistical fiction and ultimately it is only increased investment in better machines that raises productivity.
Quiggin argued that hourly productivity rose because people were working harder and that capitalists were reaping the benefit, a view that smacks of the discredited Marxist exploitation theory of labour.
However, Quiggin's assertion does not withstand economic analysis. First, to work harder means that machines need to be worked more intensely, i.e., they need to be speeded up. Anyone who has worked with factory machinery can tell you that this is seldom the case.
In many instances it would literally lower the quality of the product, even destroying it in some processes. Moreover, it raises the question why these capitalists did not increase output sooner.
Second, Quiggin seems to be suggesting that workers are being exploited by capitalists who have forced wage rates below the value of their marginal product. But if this were the case then labour shortages would have emerged and wage rates would be rising as firms compete against each other for labour.
That the increase in productivity may be largely due to more efficient labour and capital combinations is not something that Quiggin — or Hancock and Isaac — appears willing to consider. Perhaps this is because it would demonstrate the vast superiority of the market over the job-destroying regulatory framework he favours.
He referred to the Morgan and Banks finding based on a survey of more that 1000 employees who claimed they were working harder and longer. Most of those who work longer hours are in managerial or professional positions and longer hours of work have tended to be the norm for these groups.
Another fact that Quiggin overlooked is that the average hours of work were down about 36 per week. Furthermore, overpricing labour will see some firms, depending on the circumstances, substituting over-time and part-time staff for the full-time staff they can no longer afford to hire.
Quiggin just couldn't help himself. He had to blame the activities of phony entrepreneurs like Skase, Bond, etc., on financial deregulation rather than the Labor Government's totally irresponsible monetary policy that caused money supply to explode by up to 25 per cent at one stage.
This criminal neglect of monetary policy created the masses of malinvestments and the kind of 'entrepreneurs' he complained about, not financial deregulation. Strange as this might appear, I don't remember him ever complaining at the time about those vulgar Keynesian policies, though he still doesn't hesitate to complain about the consequences.
The essence of labor reform is that it will allow more efficient labor and capital combinations to be formed while allowing labor markets to clear. Nevertheless, I must stress that labor reform per se cannot bring about a continuous increase in productivity: only a continuously expanding capital structure can achieve that.
*Maurice Fitzgerald Scott, Oxford University lecturer arrived at the same conclusion, though he is no Austrian. A New View of Economic Growth, Clarendon Press Oxford 1998.
Gerard Jackson is Brookes' economics editor
BrookesNews.Com
Monday 29 November 2004