WS 2006/07 1 U. van SuntumKonjunktur und Beschäftigung 10. Wages and Employment Neoclassical theory: rise in real wage without productivity increase =>

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1 WS 2006/07 1 U. van SuntumKonjunktur und Beschäftigung 10. Wages and Employment Neoclassical theory: rise in real wage without productivity increase => Employment declines Purchasing power argument => rise in wages generates new commodity demand Literature: Ulrich van Suntum, Kaufkrafttheorie des Lohnes, in: Das Wirtschaftsstudium (wisu) 26.Jg (1997), S. 71-77... G. Dieckheuer, Makroökonomik, Kap. 7.6.4. U van Suntum, Lecture KuB 1

2 WS 2006/07 2 U. van SuntumKonjunktur und Beschäftigung Neoclassical theory of employment KuB 8.1 2 U van Suntum, Lecture KuB 2

3 WS 2006/07 3 U. van SuntumKonjunktur und Beschäftigung U van Suntum, Lecture KuB 3

4 WS 2006/07 4 U. van SuntumKonjunktur und Beschäftigung Labor supply curve => Higher wage may lead to declining labor supply Demand for leisure as a function of real wage rate U van Suntum, Lecture KuB 4

5 WS 2006/07 5 U. van SuntumKonjunktur und Beschäftigung KuB 8.1 5 Labor market equilibrium in neoclassical theory U van Suntum, Lecture KuB 5

6 WS 2006/07 6 U. van SuntumKonjunktur und Beschäftigung Reasons for unemployment temporary Business cycle Season (e.g. construction industry) [technological progress] *) [external shocks (oil crisis, earth quake] *) persisting frictions mismatch Lack of capital minimum wages natural rate of unemployment *) controversal U van Suntum, Lecture KuB 6

7 WS 2006/07 7 U. van Suntum Labor demand Labor supply Example: lack of capital N w/p employedunemployed Subsistance- level U van Suntum, Lecture KuB 7

8 WS 2006/07 8 U. van Suntum Labor demand Labor supply Example: minimum wage N w/p employedunemployed official wage U van Suntum, Lecture KuB 8

9 WS 2006/07 9 U. van Suntum Labor demand Labor supply Example: business cycle induced unemployment N w/p employedunemployed Official wage U van Suntum, Lecture KuB 9

10 WS 2006/07 10 U. van Suntum Mismatch and the Beveridge-Kurve Unemployment rate vacancies rate (open jobs/working population) 45 o move on the curve: business cycle shift of the curve: mismatch U van Suntum, Lecture KuB 10

11 WS 2006/07 11 U. van Suntum U van Suntum, Lecture KuB 11 Source: SVR, Expertise Herausforderungen des demografischen Wandels, 2011, p. 100

12 WS 2006/07 12 U. van Suntum Indices of wage policy (I) (see SVR, Jahresgutachten 2002/04, Anhang IV) 1. Wage share: LQ = W/Y 2. Adjusted wage share: LQ ber = W/Y * E/N E 1991 /N 1991 (E = active population = employed N + self-employed S) 3. Share of income from working: AEQ = W/Y * E/N AEQ = (W/N) * E Y = w * E Y W = wages wN Y = nominal income = W * E N * Y (W/Y) const => [(wN)/Y] const => [w/(Y/N)] const U van Suntum, Lecture KuB 12 Arbeitseinkommensquote SVR.xls

13 WS 2006/07 13 U. van Suntum 4. nominal labor unit costs 5. real labor unit costs: Wage share (W/Y) related to distributional issues Labor unit costs related to competitiveness nominal labor unit costs closely related to inflation Real labor costs more related to employment issues Indices of wage policy (II) (see U. Van Suntum, Löhne, Wechselkurse und Beschäftigung. Zur Aussagekraft von Lohnstückkosten und realen Wechselkursen als Beurteilungsmaßstab für die nationale Lohnpolitik. Zeitschrift für Wirtschaftspolitik, 46. Jg. (1997), S. 23-50) U van Suntum, Lecture KuB 13 Lohnstückkosten SVR empirisch.xls

14 WS 2006/07 14 U. van Suntum Neoclassical production function A N N* U van Suntum, Lecture KuB 14

15 WS 2006/07 15 U. van Suntum N* Technological progress or rising capital intensity: => Either rise in wages or in employment N N U van Suntum, Lecture KuB 15

16 WS 2006/07 16 U. van Suntum Wage increase without technological progress N spurious productivity increase: move at the N d -curve genuine productivity increase: shift of N d -curve SVR : wage rise only with genuine productivity increase and only with full-employment in the initial situation U van Suntum, Vorlesung KuB 16

17 WS 2006/07 17 U. van SuntumKonjunktur und Beschäftigung Why do wages deviate from equilibrium level? Insider-Outsider-approach: unions maximize utility of insiders transactions costs lead to wage gap in favor of insiders Outsiders lose both motivation and abilities Efficiency wages Reduce shirking (Shapiro/Stiglitz 1984) Increase costs of being sacked (Salo 1979, Schlicht 1978) Tighten commitment to firm (Akerlof 1982) U van Suntum, Lecture KuB 17

18 WS 2006/07 18 U. van SuntumKonjunktur und Beschäftigung Why unions enforce wages above equilibrium level See T. Apolte, Th. (2004), Arbeitsmarktökonomik, in: Th. Apolte u.a., Vahlens Kompendium der Wirtschaftstheorie und Wirtschaftspolitik, Bd. 2, 9. A., München 2005 KuB 8.1 18 Unions maximize expected value of worker`s income: => Indifference curve: employment vs. wage rate: U van Suntum, Lecture KuB 18

19 WS 2006/07 19 U. van Suntum Max E(Y) s.t. labor demand curve: (w/p)max = prohibitive wage; b < 0 dN * /dTR < 0 dE * (Y)/dTR > 0 dN * /dN s = 0 dE * (Y)/dN s < 0 U van Suntum, Lecture KuB 19

20 WS 2006/07 20 U. van Suntum => voluntary acceptance of unemployment AL by unions: full employment U van Suntum, Lecture KuB 20

21 WS 2006/07 21 U. van SuntumKonjunktur und Beschäftigung Rising TR increases E(Y) * but decreases N * w/p N Labor Demand Originally highest achievable indifference curve (e.g. E =100) New indifference curve E(Y) = 100 (after rise in TR) new highest achievable indifference curve E(Y) > 100 (after rise in TR) NsNs U van Suntum, Lecture KuB 21

22 WS 2006/07 22 U. van Suntum Rising labor demand increases E(Y) *,N * and (w/p) w/p N Labor demand NsNs Wage setting curve LS U van Suntum, Lecture KuB 22

23 WS 2006/07 23 U. van SuntumKonjunktur und Beschäftigung => Rising labor supply decreases E(Y) but does not change N * and w/p w/p N labor demand Originally highest achievable Indifference curve E(Y) = 100 NsNs New indifference curve E(Y) = 100 no longer achievable New highest achievable Indifference curve E(Y) < 100 U van Suntum, Lecture KuB 23

24 WS 2006/07 24 U. van Suntum *) see also Apolte, Th. (2004), Arbeitsmarktökonomik, in: Th. Apolte u.a., Vahlens Kompendium der Wirtschaftstheorie und Wirtschaftspolitik, Bd. 2, 9. A., München 2005 Wage differential in favour of insiders:*) Dismissal costs Recruiting costs U van Suntum, Lecture KuB 24

25 WS 2006/07 25 U. van SuntumKonjunktur und Beschäftigung Profit maximization requires: With equal productivity we have: U van Suntum, Lecture KuB 25

26 WS 2006/07 26 U. van SuntumKonjunktur und Beschäftigung N*N* Persistence of Unemployment N*N* wIwI wIwI Negative demand shock leads to dismissals Recovery leads to rising wages of insiders U van Suntum, Lecture KuB 26

27 WS 2006/07 27 U. van SuntumKonjunktur und Beschäftigung Minimum wages and unemployment benefits (Source: UvS, Die unsichtbare Hand, 4th. dd. Berlin 2011) Poverty trapoutsiders employed productivity fixed wage unemployment benefit Employed in ascending order of productivity U van Suntum, Lecture KuB 27

28 WS 2006/07 28 U. van Suntum 28 Purchasing power theory of wages (see U. van Suntum, Kaufkrafttheorie des Lohnes. In: Das Wirtschaftsstudium, 26.Jg.(1997)1, S. 71-78) Rise in wages comes at expense of profits However, saving rate of workers is lower Does this also increase labor demand? U van Suntum, Lecture KuB 28

29 WS 2006/07 29 U. van Suntum 29 Suppose a Kaldorian saving function (N. Kaldor, Review of Economic Research 1956/57): 0 < s w < s Q < 1 U van Suntum, Lecture KuB 29

30 WS 2006/07 30 U. van Suntum 30 Average saving rate is sum of class-rates, weighted by their income share Redistribution in favor of class with lower saving rate increases consumption 01 s swsw sQsQ U van Suntum, Lecture KuB 30

31 WS 2006/07 31 Lower saving rate rotates IS-curve counterclockwise i Y S I I = I(i) S = s o Y I planned = S planned IS-curve II IV III I S = s 1 Y U van Suntum, Lecture KuB 31

32 WS 2006/07 32 Scenario I: Keynesian Rationing i p Y real LM IS(w 0 ) N w/p Y s (w 0 ) NsNs NdNd Y v w0w0 Y real (N) The purchasing power mechanism works, but could be substituted by fiscal policy w1w1 IS(w 1 ) YdYd w/p * YsYs U van Suntum, Lecture KuB 32

33 WS 2006/07 33 Scenario II: Neoclassical unemployment i p Y real LM(p 0 ) IS(w 0 ) N w/p Y s (w 0 ) NsNs NdNd Y v w0w0 Y real (N) The purchasing power mechanism worsens the problem w1w1 IS(w 1 ) YdYd LM(p 1 ) Y s (w 1 ) U van Suntum, Lecture KuB 33 p0p0 p1p1

34 WS 2006/07 34 Konjunkturstützung durch höhere Löhne? Kaufkrafttheorie der Löhne empirisch nicht bestätigt © U.van Suntum, CAWM

35 WS 2006/07 35 Empirie in Deutschland widerspricht Kaufkrafttheorie der Löhne © U.van Suntum, CAWM

36 WS 2006/07 36 Criticism of the purchasing power theorem Model: rationing does not restrict expansion of a single firm dY/dN > w/p => strong incentives to increase investment and output lack of demand in open economy? Policy: strategy is risky (change to neoclassical unemployment) stimulus of investment would increase commodity supply as well empirical evidence does not support the theory U van Suntum, Lecture KuB 36

37 WS 2006/07 37 U. van Suntum Lerning goals/questions What are possible reasons for unemployment? What is the Beveridge curve? Explain the difference between genuine and spurious productivity growth What are efficiency wages? Explain the insider-outsider-problem Explain the purchasing power theory of wages Which important indices of wage policy do you know? U van Suntum, Lecture KuB 37