It does seem that Albrechtsen is prepared to do a quick U-turn if the politics of the day demand it. And right now they demand that she defend Howard’s workplace reforms no matter what she has previously said about the market place and “unscrupulous employers”.

Albrechtsen’s problem is that she is a complete economic illiterate who does not even have a passing knowledge of economic history or the history of economic thought. Commentators who do not possess a basic knowledge of these disciplines are bound to make utter fools of themselves to informed opinion whenever they feel the need to pronounce on economic matters. Two things should be made clear at this point: (a) economic theory and economic history do not support the claims of the unionocracy; (b) the so-called union case obviously rests on the free-rider fallacy.

According to the unionocracy and its media mates those who refuse to join a union are enjoying gains made by unions without contributing in any way. Therefore it is only right and proper that these non-unionists should be made to share some of the burden of improving working conditions and raising wage rates. For this argument to hold water its proponents would have to show that not only are wage rates indeterminate over a significant range along the demand curve, but that in a free labour market wage rates would be kept far below the maximum wage rate, i.e., the point at which further increases in wage rates would create unemployment.

I have explained elsewhere and in some detail why the indeterminacy argument collapses under the weight of economic reasoning (Liberal Party stuffs up its workplace reform arguments against the unions). This leaves us with marginal productivity theory as an explanation of wage rate determination. This theory is basically quite simple. It says that in a free market there will be a tendency for every factor of production to receive the full value of its marginal product. Fortunately we have at hand the truth of this statement. The following chart was derived from Professor Benham’s tables. (The Prosperity of Australia, P. S. King & Son, LTD, Orchard House, Westminster, 1928, pp. 210-211).

The left hand side of the chart measures the unemployment rate while the right hand side shows the ratio of the value of production to the average wage. The bars represent the level of unemployment while the black line plots the ratio which is on right hand side. According to the tenets of marginal productivity theory wage rates that exceed the value of labour’s marginal product will cause unemployment to rise. Therefore, once wage rates exceed the market rate an inverse relationship emerges between the two variables. No wonder Benham felt moved to write that “It would be hard to find a clearer proof of our thesis [that excessive wage rates cause unemployment]”.

Another way of determining the link between unemployment and marginal productivity of labour is to determine the ratio of the real wage to productivity. (By productivity I do not mean labour’s physical output but the value of its output). If the ratio exceeds 1 (100 if indexes are used) then unemployment follows any rise in wage rates. If the ratio falls to 1 or less then unemployment will also fall.

A leftwing myth has grown up around the canard that the classical economists favoured low wages. Even a superficial reading of classical economic literates clearly demonstrates that this was never the case, quite the contrary. Robert Torrens (a name well known to those of us who take an interest in the history of economic thought) publicly stated in a pamphlet addressed “to the electors and inhabitants of Bolton” that “it is of paramount importance, that wages should be permanently high”. (On Wages and Combination, Longman, Rees, Orme, Brown, Green, & Longman, 1834).

Another myth has it that Ricardian economics was the dominant doctrine until the 1870s. In fact, Ricardo’s theory of wages was immediately attacked on publication. As his friend Thomas Malthus stressed:

The principle of demand and supply is the paramount regulator of the prices of labour as well as of commodities, not only temporarily but permanently. (The Works and Correspondence of David Ricardo: Notes on Malthus’s Principles of Political Economy, Liberty Fund Inc., 2004, P. 142).

In a truly remarkable piece of economic thinking, Mountifort Longfield actually showed how capital accumulation raises real wage rates, and in doing this he revealed the important fact that as a country accumulates more and more capital there occurs a shift in earnings from capital to labour. (One will find a similar approach in Samuelson’s Economics, 10th edition, McGraw-Hill Book Company, 1976, p.731). As he put it:

...if a spade makes a man’s work 20 times as efficacious as it would be if unassisted by any instrument, 1/20 only of his work is performed by himself, and the remaining 19/20 must be attributed to capital. And this is the measure of the intensity of the demand for such an instrument. A labourer working for himself would find it for his interest to give up 19/20 of the produce of his labour to the person who would lend him one, if the alternative was that he should turn up the earth with his naked hands; or if he worked for another, his employer might pay a similar sum for the purpose of supplying him with an instrument. But this profit [rate of return] is not paid, because on account of the abundance of capital in the country… (Lectures on Political Economy, Richard Milliken and Son, 1834, p. 195)

What Longfield gave us is a carefully thought out productivity theory of wages. Little wonder that no less a personage than Joseph A. Schumpeter was able to write that Longfield had

overhauled the whole of economic theory and produced a system that would have stood up well in 1890 [also, in my opinion, today]”. (Schumpeter, History of Economic Analysis, Oxford University Press, New York, 1994, p. 465)

Nassau William Senior was a prominent classical economist who needs no introduction to students of the history. He too repudiated Ricardo’s theory that wages were determined by the price of corn, preferring, and correctly so, a productivity theory., stating that

...the extent of the fund for the maintenance of labour depends mainly on the productiveness of labour. (Nassau William Senior, Political Economy, Richard Griffin and Company, 3rd ed. 1851, p. 183).

Let us now refer to Professor Fetter who observed that real wages in England “increased ninety per cent in the thirty years between 1860 and 1891”. He then emphasized that unions could not have been responsible for this increase because in 1900 only about 10 percent of the labour force was unionised: he added, unless union supporters are prepared to argue “that one tenth of the labor supply fixes the value of all”. (Professor Francis A. Fetter, The Principles of Economics with Application to Practical Problems, New York, The Century Co., 1905, p. 130).

Two further examples of how capital accumulation raises real wage rates without the intervention of unions should suffice to hammer my point home. In 1914 the average weekly wage of a maidservant was $3.50: by 1922 it had leapt to about $14, in the meantime the consumer price index rose from 30 to 50. This means that these girls’ real wage rate had at leas doubled in real terms. (1967=100, Handbook of Labor Statistics, US Department of Labor Bureau of Labor Statistics. Also Benjamin M. Anderson, Economics and the Public Welfare, LibertyPress, 1979 first published 1949. p. 87).

In 1947 the wages of unorganised US domestic servants were 2.72 times as high as they were in 1939, while the wage of the highly unionised steel workers had risen by on 1.98 times the 1939 level. (The Impact of the Union in F. A. Hayek’s A Tiger by the Tail: The Keynesian Legacy of Inflation, The Institute of Economic Affairs, 1978). So if unions are the only by which wages can be substantially raised how come domestic servants did so well? (On the question of unions and wages one could do no better than to read William H. Hutt’s The Theory of Idle Resources).

In economics it is the value of the physical product of labour that counts. Should the wage rate (the total cost of labour) exceed that value then unemployment will emerge if the necessary adjustments are not made. It used to be that depressions always involved deflation. This meant that if money wages did not fall real wage rise above the value of labour’s output and hence increase unemployment. This is what happened during the Great Depression. President Hoover believed

... that our immediate duty was to consider the human problem of unemployment and distress; that our second problem was to maintain social order and industrial peace; the third was orderly liquidation and the prevention of panic, and the final readjustment of new concepts of living. He explained that immediate “liquidation” of labor had been the industrial policy of previous depressions; that his every instinct was opposed to both the term and the policy, for labor was not a commodity. It represented human homes. Moreover, from an economic view-point such action would deepen the depression by suddenly reducing purchasing power... (Herbert Hoover, The Memoirs of Herbert Hoover: The Great Depression 1929-1941, The Macmillan Company, 1952, p. 43).

While Hoover was making these comments unemployment was remorselessly rising. When he left office in 1933 unemployment had reached the unprecedented and horrifying level of 25 per cent. Hoover, and the Roosevelt administration that succeeded him, adamantly refused to admit that increasing money wages in an deflationary situation raises unemployment.

Once it is admitted that wages depend on capital accumulation the process of which moves inexorably in favour of labour one is left to wonder what kind of positive role unions can play in raising wage rates? The question answers itself. This brings me to Andrew Bolt of the Herald Sun whose articles on unemployment and subsidies reveal, as in the case of Albrechtsen, an appalling ignorance of even basic economics.

When unemployment figures were released last August showing that the official unemployment rate had dropped to 4.8 per cent, Bolt could scarcely contain himself, declaring as “bull” the ACTU’s warning that industrial relations reform would result in mass sacking (Real IR story is the latest best-seller, 16 August, 2006). Be that as it may, Bolt completely missed the point. The unions’ argument is not that they prevent mass sackings but that without their bargaining power wages would be much lower. It’s time Mr Bolt learnt that an elongated sneer is no substitute for a sound economic argument.

Despite the lessons of history and economics Albrechtsen and Bolt — and they are not the only ones — insist on writing about these matters as if the whole business of the labour market was an arbitrary one that could be easily dealt with by government decree. If the likes of this pair cannot get it right how are the mass of Australians expected to work it out? This is not Bolt’s first dismal foray into the complex field of economics. In 2002 he gave a speech (Reflections on the Outworkers) to the H. R. Nicholls Society in which he once again revealed an embarrassing failure to understand the economic issue at hand.

Last year he once again revealed his economic illiteracy by calling on the government to subsidise ethanol research and production (Herald-Sun, Reap the good oil, 11 August 2006). Now I know he was warned that such subsides would have the effect of distorting the pattern of production by raising the price of grain. Since then corn prices in the US have nearly doubled while the price of tortillas in Mexico have tripled. Yet to the best of my knowledge Mr Bolt has never admitted his error. This is the same Mr Bolt who demands total honesty from greens and politicians — including apologies when necessary.

The economic illiteracy of the likes of Albrechtsen and Bolt underlines why a reasonable knowledge of basic economics, economic history and the history of economic thought is necessary for those who wish to argue about economic issues. The vital importance of these disciplines used to be fully understood by prominent economists, among them Lionel Robbins. This is why I am going to leave the last word to him:

The history of economic thought has a twofold function; to explain the past and to help us to understand the present. By examining the economic theories of the past we can learn to see the problems of earlier times, as it were, through the eyes of their contemporaries. By comparing them with the theories of the present we can realize better the implications and the limitations of the knowledge of our own day. (Chi-Yuen Wu, An Outline of International Price Theories, George Routledge and Sons Limited, 1937, p. xi).

Labour market wars

Gerard Jackson is Brookes’ economics editor

Subscribe to BrookesNews Bulletin