If we were all at an auction and a 1961 Ferrari GTO came under the hammer we would likely bid the price up as we would not be able to resist its alluring curves. The item is in low supply and there would be high demand, why then does this economic maxim not prevail when it comes to the labour market. In this piece we look to economists to explain to us why we aren’t all getting paid more in a tight labour market. We will specifically examine a few theories about why wage growth is lagging in developed economies despite high demand.
Ian McCafferty an England Central Bank economist addressed the topic at his Valedictory lecture. He says that it’s too early to decide if the phenomenon we are seeing is permanent or temporary. He believes the following factors can explain the slack wage growth:

  • The fall in unionisation is certainly a factor in explaining this with regards to the UK.
  • The rise of the ‘gig-economy’ leads to short term contracts which gives workers less leverage when negotiating
  • Loss of reference pay rise – companies are using inflation less as a target for pay rises post the low inflationary period we have experienced.
  • The financial crisis has affected our psyche as people now place greater weight on job security rather than wage growth. This is beginning to retreat as voluntary resignations start to pick up.
  • Post-crisis growth normally comes from low productivity jobs so the average wage remains depressed.

We think there are definitely some temporary factors at play here, especially with regards to inflation. As workers begin to get squeezed by higher costs they will certainly begin to assess their options. In a tight labour market employers will have to pay-up or risk losing people.
Whilst we don’t focus on macroeconomics when looking for investments we do find some of its elements interesting. How should an investor use this information? If you were analysing a labour intensive industry like mining you might need to have a view on the costs of labour going forward. The simple (often correct) view tells us that demand and supply tends to dictate over the long run and labour like inflation and interest rates will adjust to the new reality.