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Why flat wages growth in Australia tells us nothing about the impact of migration on the labour market

One of the important concepts one learns in studying the way firms work with respect to pricing and markups is the distinction between quantity and price adjustment over the course of an economic cycle. When economists talk of supply and demand, they usually refer to price adjustment, where prices adjust up or down when there is an imbalance between these aggregates. Orthodox economics presumes that prices adjust, for example, to eliminate an excess supply, which they apply to the labour market and conclude that the cure for mass unemployment is wage cutting. The problem is that in many circumstances, firms use quantity adjustments long before they contemplate price adjustments, because the former involves lower costs. The Australian Broadcasting Commission (ABC) ran a story from its business reporters today (November 16, 2021) – As migration restarts, will it hold down wages for everyone? – which has also become a feature news segment on its television coverage today. The analysis presented is seriously misleading. It not only fails to characterise the problem properly but buys into a highly contentious debate about whether migration has negative impacts on the labour market prospects for local workers. It behoves analysts to actually construct the problem correctly before they start taking sides in this debate. The ABC article fails in that regard which is disappointing. Their failure also reflects the lack of diversity in opinion they seek these days. They chose to simply rehearse the arguments presented by one pro-migration analysis as if it was definitive rather than seek expert opinion from neutral analysis. But it also demonstrates why understanding the difference between quantity and price adjustment is crucial to getting the conclusions right.

The immigration debate

The debate in Australia about the impacts of migration on employment and wages in Australia is long-standing and won’t go away.

The business lobby all claim that migration is a positive factor because it adds more to demand than supply, but their members also use immigrant labour to undermine trade unions and suppress wages growth.

The trade unions claim the opposite.

Conservative governments support the business lobby, while the Labor Party wax and wane (as usual).

Most mainstream economists side with the business lobby.

However, in a Speech to the Economic Society of Australia (Queensland branch) – The Labour Market and Monetary Policy (July 8, 2021) – the Reserve Bank of Australia governor Phililip Lowe said. the ability of local firms to access cheap foreign labour:

… dilutes the upward pressure on wages in these hotspots and it is possible that there are spillovers to the rest of the labour market. This hiring can also dilute the incentive for businesses to train workers to do the required job.

This is a point I have been making in my own work for some decades now counter to what most of my academic colleagues argue.

It is not a case against migration. Rather it is a case for ensuring there are enough jobs, training and transition for school-to-work opportunities available for all.

Too often, governments have allowed short-term visas to foreign workers to be granted when the local labour is enduring mass unemployment and the governments have been cutting funding to local apprenticeships and vocational training institutions.

That sort of migration definitely damages the prospects of the more disadvantaged local workers.

I wrote about that work in this recent blog post – Restricting population growth is good for local workers (June 22, 2021).

I update some of the graphs from that post below.

The ABC article gets it wrong

The ABC article cited in the introduction is an example of rather crude mainstream analysis, which ignores the proverbial elephant in the room.

It poses the question:

Does mass migration push wages growth lower for everyone?

And in opening its analysis, it gets a first-year microeconomic textbook out and tells the readers:

It seems a simple case of supply and demand: having more of something compared to how much is wanted keeps prices low.

And it uses example about ice-cream shops by the beach competing for trade selling a largely homogenous good at the same ‘competitive’ price.

They then claimed that:

… when COVID-19 forced Australia to shut international borders, it started a test that might kill off the applicability of that basic economic concept when it comes to people.

They get this idea about a ‘natural experiment’ from an economist working for a mainstream economics lobby group – the Committee for Economic Development of Australia (CEDA), which has been strongly pro-migration for decades and firmly neoclassical in its economics (mainstream that is).

The problem for mainstream economists is constructed by the ABC article in this way:

1. The external border closures since March 2020 as the Australia government worked out how to deal with the pandemic has meant that some “500,000 temporary migrants have left the country” and “population growth fell for the first time in a century”.

2. “With the same amount of work to be done, the laws of supply and demand mean wages should have rocketed as employers use higher wages to compete for a much smaller pool of workers”.

3. But wages growth is flat.

4. So, what gives? Why isn’t demand and supply working?

The ABC article quotes CEDA research which concludes that:

We’ve seen the experiment of that in COVID, and in shutting down of our borders, and what impact that has on the labour market, which has been quite negligible.

Wages growth has remained flat but migrants have disappeared, which is the juxtaposition that motivates their conclusion.

Crude to say the least.

Quantity rather than price adjustment

Last Friday (November 12, 2021), the Australian Bureau of Statistics (ABS) published the latest – Overseas Arrivals and Departures, Australia – and we get this stunning graph from the data.

It shows overseas arrivals and departures from September 2011 to October 2021 in millions.

That is the definition of a ‘shock’.

The average arrivals before the pandemic was 1.53 million persons per month, departures 1.51 million per month.

Since April 2020 (after the border closure effect began) the averages are 0.04 million and 0.03 million, respectively for arrivals and departures.

I have

I have also published this graph before in my monthly labour force updates.

It shows Australia’s working age population (Over 15 year olds) from January 2015 to October 2021.

With the external border still largely closed, immigration has shrunk to virtually zero and this has forced employers to work harder to get workers and is one of the reasons unemployment is falling quite quickly, given the circumstances.

And that is the clue to the mystery.

Quantity rather than price adjustment.

In the blog post – Restricting population growth is good for local workers (June 22, 2021) – cited above, I presented the evidence to date on why firms were using quantity adjustment over price adjustment to deal with the vanishing access to external migrants.

I updated the graphs today.

Labour markets exhibit varying responsiveness to demand and supply changes, depending on the context.

In some cases, they will be price adjusting.

In many cases, they will be quantity adjusting.

To understand the difference between these two adjustments, we see that firms typically react to changes in aggregate spending by adjusting only the quantity of output rather than the price and quantity.

Why?

First, firms use mark up pricing principles, whereby they add a profit mark up to their unit costs and face roughly constant unit costs over the output range within which they normally produce.

Typically, they maintain some excess capacity and can thus increase output relatively easily without further investment in productive capacity, which would take time. If they face insufficient capacity relative to demand, firms are likely to raise prices to ration demand which inevitably leads to the loss of customers to competitors.

Second, firms face various costs when adjusting prices and thus only periodically make such adjustments.

It has been said that firms use ‘catalogue pricing’, whereby they make their prices known to their prospective customers through advertising and other means and then are prepared to sell goods and services at those prices irrespective of demand (up to their full productive capacity).

At the end of the current catalogue period, they will then make any necessary adjustments to prices based on expected future demand and any recent and expected movements in unit costs.

When there is no excess capacity left to respond to nominal spending growth, then firms will shift to predominantly price adjustment as a way of rationing the spending growth.

In the real world, these two adjustments are going on all the time but the bias is towards quantity adjusting when there is excess capacity and vice versa.

As the economy approaches full employment, more sectors will be closer to capacity than others, so the different adjustments are spread unevenly across sectors.

How does this help us understand why the ABC article was misleading?

The fact is that when the pandemic struck the economy was nowhere near full employment.

There was massive excess capacity.

The aggregates as at March 2020 were:

1. Unemployment rate – 5.3 per cent (723.2 thousand)

2. Underemployment rate – 8.8 per cent (1205.5 thousand)

3. Broad labour underutilisation rate (unemployment plus underemployment) – 14.1 per cent (1,928.8 thousand).

4. Participation rate – 65.9 per cent compared to August 2019 peak of 66.2.

GDP growth was slowing and the labour market was deteriorating quickly even before the pandemic hit.

So 14.1 per cent of the available local labour supply was not working in one way or another.

Which means that there was a massive pool of labour that local firms could draw on as the external borders shut and the pool of cheap imported labour dried up.

And, all they had to do was offer a job at existing wage rates, for this excess local labour to accept employment.

No wage bidding was necessary.

That is, firms quantity adjusted rather than price adjusted to the shifting conditions.

They covered the ‘shortage’ by accessing the local underutilised worker pool.

The following graphs show definitively the impact that the slowing population growth has had on the ability of the labour market to absorb unemployed workers back into productive employment following a recession.

I went back to the three major cyclical downturns since the modern labour force data series began (February 1978) for Australia.

I then found the employment troughs in those recessions and examined the period of recovery afterwards for 20 months in each instance.

Those periods were:

1. April 1983 to December 1984.

2. July 1991 to March 1993.

3. July 2009 to March 2011.

4. December 2020 to September 2021 – the current period of recovery is shorter obviously. I excluded the October 2021 observation, where the unemployment and rate shot up signalling the end of that period of recovery.

The following graph shows the relationship between monthly employment growth (horizontal axis) and the change in unemployment (vertical axis) for each of these periods, denoted separately by different coloured and shaped markers.

The thick line is a simple linear trend and the simple linear regression is displayed next to each line.

The number next to the x measures the responsiveness of the change in unemployment to the employment growth.

A larger number means the responsiveness is higher.

In each case, the slopes of the lines are negative as one would expect. Rising employment growth reduces unemployment.

But the respective slopes (measured by the number next to the x in each equation) show that the 1982 and 1991 responsiveness was very low.

It took a long time to reduce the unemployment rates (and they never came back down to the full employment levels).

The GFC downturn was different because the fiscal stimulus really prevented Australia from enduring a recession. There was a slowdown and unemployment did rise (as has never returned to the pre-GFC level).

However, the current recovery is very different – the slope of the blue line (and number on the x variable) is several times larger than the 1982 and 1991 recessions.

The major explanatory factor is the record low growth in the working age population as a result of the border closures.

Quantity adjusting.

The next graph shows the same data except that I replaced the change in unemployment with the change in the unemployment rate.

A similar tale, although with the added complexity of cyclical participation adjustment, which I won’t go into here.

Conclusion

The ABC article didn’t take into account the state of the labour market as the pandemic hit.

By suggesting that supply and demand analysis would lead to the conclusion that wages should rise as supply fell, the article assumed that the labour market was ‘on both curves’.

That is technical terminology to depict the neoclassical equilibrium where workers can get as much work as they want at the current wage (that is, they are operating on the ‘supply curve’) and firms can get as many workers as they want at the current wage (that is, they are operating on the ‘demand curve’) and the two curves are intersecting at that current wage.

But that assumes there is no excess labour at the current wage.

Clearly, if there is excess labour than workers are ‘off the supply curve’ because they cannot get the hours of work they desire (the supply curve reflects their desires).

As a consequence the labour market can adjust to a shortage of workers in one area by absorbing the excess of workers elsewhere.

Things might have been different if the economy was already at full employment when the borders closed.

Then price adjustment would have been the only option available to firms.

I hope it gets to that soon and wages rise.

That is enough for today!

(c) Copyright 2021 William Mitchell. All Rights Reserved.

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    This Post Has 4 Comments
    1. Morning Bill,

      I take it this is the mistake Canadian labour market expert David Card made who shared the economics Noble prize this year. When he did his analysis on migration from Cuba to Miami ?

      The word you never hear mentioned in any of these immigration debates is productivity.

      Newsnight the flagship BBC news programme did exactly the same as ABC in Australia. Produced all these charts on a green screen that showed how cheap labour didn’t have any negative effects. Productivity was never mentioned.

      I don’t know about ABC but Newsnight has a revolving door with the City of London. That is where they get their experts from.

      The UK has a productivity problem and how they fixed it in the past is by

      a) Promoting a basic income guarentee

      b) Keep increasing the pension age promoted by the ” we can’t afford it ” story

      c) Allow as much cheap labour into the country as possible

      d) All supported by the OBR. The analysis you destroyed yesterday.

      The devil will be in the detail but finally they are going to introduce a skills based immigration policy. To try and improve productivity.

      The real issue is financial capitalism – big business and the economic rent seekers don’t want to compete. They want to sit from a monopoly perch and extract rent. The job of the government is to make the reluctant players compete and not allow them to create a big 3 or 4 that can work together and manipulate prices.

      Government spending is the devil. Walk this way into my office and I will provide you with a loan instead. We will work together to ensure the public sector is turned into a monopoly. We will generate profits for the new owners, along with interest for the bondholders and me the bank that fund it. We will also charge management fees keep wages low and lay off workers in order to manipulate the prices we charge to access our monopoly to ensure we generate capital gains for the stockholders.

      Neil did a fantastic piece on the trident debate years ago below that summarises a lot of what is going on.

      “What is so revealing about debates over military spending. When the chips are down the numbers become irrelevant. Not one government minister anywhere has ever said that they can’t bomb Baghdad, Bazra or the Balkans because they don’t have the budget.

      Of course that is because the numbers are indeed largely irrelevant for all government spending. In fact the numbers have become a mechanism in debates to avoid talking about the substance of government intervention in the economy — what the government proposes to use real resources for, where it is going to get those real resources from, and what the alternative uses are for those real resources.

      I listened to the parliamentary debate about Trident. and it struck me early on that people were mostly pulling figures out of the air, and that the government had not actually put a figure forward for the monetary cost of Trident. A few MPs actually asked that precise question and didn’t receive an answer.

      That is to be expected, because Trident costs what it costs to produce. Whatever is required to get the job done will be procured and placed at the disposal of the project. The cost, as with any government intervention, has nothing to do with money. If it is available for sale in the government’s denomination, then the government can always purchase it — whether that is missile systems or social housing. And, if it wants to, it can set the price in its own currency — simply by banning or restricting alternative uses of those resources until it gets what it needs. You see this all the time when a country is at war, but people act like Homer Simpson when you suggest it works like this during normal times.

      The cost is, in fact, the people and resources required to create and build the submarines, crew the submarines and the ancillary services and suppliers that feed into the process. The unions representing these workers asked what else these people would be doing instead if Trident was not renewed, and there were very few answers to be had on that point in the debate. MPs opposed to Trident failed to make any reasonable case for alternative used of these skills and real resources.

      Most MPs opposing the motion talked in terms of money, about how the money could be spent on the NHS, social care, or housing. But again the use of figures masked the actual problem. The problem is never finding the money. An index finger and a computer keyboard and a spending bill passed in parliament finds The money.

      The ship builders on the Clyde, or in Barrow don’t get up in the morning and think “today I’ll be a doctor”. The Navy staff don’t decide that they will build houses on a Thursday instead of piloting boats. It’s a ridiculous notion, and one that is rightly dismissed by the unions as hand-waving.

      But it shows how ill-informed our representatives are about the way government spending works. They implicitly rely upon the magic of the tooth fairy – free markets to provide ship builders, navy crew and parts manufacturers with alternative orders and engagements. The tooth fairy assumes that people are mutable between professions at the snap of a finger.

      It was down to Scottish National MPs to make an actual case. The engineers engaged in Trident could perhaps be used to create more wind farms, or renew other Navy vessels instead of Trident. But it didn’t seem to be at the scale or intensity require to replace the whole of the Trident proposal. Certainly I found no comfort in the suggestions, and I doubt the unions would either.

      Those opposing Trident failed to win the argument on that point alone. They really had no alternative plan for the people working in the industries. And that always seems to be the case. When government lays people off, there is never a list of private sector employers sat there with cheque books at the ready. Even outsourcing’s open secret is that it is really a way for government to fire people without getting their hands dirty.

      Government never seems to realise that the only way it can fire people is if they are hired and retained by the private sector. If that doesn’t happen then government just goes from paying people to do something, to paying people to do nothing. Hardly a sensible approach and what a job guarentee program would fix in a heart beat.

      So we have learnt a great deal from this debate:

      1. When the chips are down numbers become irrelevant to a government, because they are largely irrelevant. Government spending is a matter of people and stuff. Always is. Always will be

      2. Numbers are used by those in charge as a way of avoiding the difficult questions relating to real people and alternative uses. Used by ideologues to wave placards and shout slogans to shrink the state.

      3. Government is very willing to deploy vast quantities of people and resources on a huge white elephant project, but refuses to do so on anything more useful to mankind.

      It is time to break down the frame of numbers. It is time to refuse to speak in terms of numbers, and start talking only in terms of people and real resources required to get things done.

      That way we can avoid the nonsense of pretending submarine crew can become surgeons overnight. We can address the actual shortage of skilled staff without believing they will magically pop into being just because you’ve taxed some rich people.

      And we can debate the actual use of the nation’s resources and ask if what people are currently doing is actually the best thing they could be doing. The only constraint on government spending is the skills and real resources we have available. Trade is the same get rid of the numbers and actually look at what people are doing with the real resources instead. What type of real resources we receive from other countries.”

      It amazes me how the bank lobbyists convinced large swathes of the country that when unemployment occurs. There is always a list of private sector employers sat there with cheque books at the ready to employ those who have just lost their livelihoods.

      A similar technique is used to convince children in the tooth fairy.

      Neil continues….

      Financial Stabilisation:

      ” When you move from the JG to the private sector, government spending reduces as the private sector spending increases. This is because your wage is now paid by the private sector, not the government.

      When a private sector firm goes bust, you lose your private sector wage and get a job guarantee wage – which may be lower. That increases government spending as the private sector spending is withdrawn, and nips back any boom wages that may not have been justified since the bust operation failed to push forward productivity.

      Those payments and reductions are spatially targeted precisely where they are required. So you can have an area where private sector employment is increasing. Government spending on JG jobs will reduce in that area. While at the same time, the JG is increasing spending in a weak area elsewhere in the country.

      That’s the financial stabilisation half.

      Expectation Stabilisation

      The JG wage is a fixed living income wage. It never competes on price.

      Because there are people on the JG, working and turning up every day, that is a greater threat to the living wage worker in the private sector – since they can be more easily replaced if they ask for more money.

      However, the worker doesn’t have to put up with sweat shop wages and can move to the JG at will. So Uber et al have to pay a wage that reflects the risk and reward of the job or they won’t get any labour.

      Similarly if a firm tries to raise its prices because they now can’t pay sweat shop wages, then that negates the “non-competitive” protection in the JG and JG labour can be used by social enterprises/local democracy to replace the operation trying to raise its prices.

      The result is that firms that drive quantity expansion by automation are favoured. Firms can shed labour as automation proceeds, safe in the knowledge that the JG will catch those people and make sure they have a job and an income in the area they want to live in.

      Demand stays up and productivity is driven forward, and that is where the higher level wage increases can come from.

      That’s the expectation stabilisation half.

      Which Means…

      JG is a credible threat to both workers and firms. The only degree of freedom left is to do more with less.

      Both the financial half and the expectations half work together to anchor wages and prices.

      Either you have an unemployment buffer doing the stabilisation (as we have now) or you have an employed buffer. The MMT analysis is that the employed buffer is superior, to the extent that it can replace the interest rate targeting mechanism we have now and base rates can be left at 0% permanently.

      Which ensures mortgages remain low. ”

      Which is far superior than keep raising taxes and interest rate targeting to control inflation. Which are like flying over a jungle and carpet bombing a moving target you can’t see.

    2. Thanks I remembered your previous article on stopping Australian immigration during Covid-19 decreased unemployment. Was interested in the difference in analysis between your article and the ABC article.

    3. I’ve read a lot on economics (for a lay person) but I have never seen anyone else ever mention “quantity adjustments”. Yet, it is such a logical point and also clearly a point that is easily confirmed if one looks empirically at firm behavior. Why does no-one, except an MMT professor, mention it? One can only assume that it is an empirical reality which debunks the simplistic supply and demand arguments which orthodox economists are so fond of. It is such a logical point (about reality) that I castigate myself a little for not ever having arrived at it by logical deduction from a little general knowledge of how firms work. But there it is, the logical can be staring us in the face and we can miss it, especially under the barrage of orthodox ideology.

      The mention of catalogue pricing was also an excellent empirical point. Once again, speaking to the empirical, how firms really approach pricing, gives an example that people can understand. Of course, I have heard of “sticky prices” and that seems to be getting at the same idea. But Bill has explained it in terms of an important concrete example with system-wide effects.

      Orthodox economic discourse seems to obscure rather than explain. “Sticky prices” as a term has a generality but it obscures specifics. Orthodox economics seems to want and promote a general model which explains everything (via perfect markets, pure supply and demand etc.) but only by obscuring and even denying specific behaviors in the system like firm behaviors, worker behaviors, government behaviors and so on. It denies institutional and institutionalized behaviors. This results in a denial of what is actually happening (complexly in reality as opposed to in simplistic, idealized, theoretical models) and this then results in denial of real possibilities. The real possibilities include the ability of government to re-determine national allocations of real stuff, to meet crises for example.

      For example, Derek Henry talks above of a quote I think: “What is so revealing about debates over military spending. When the chips are down the numbers become irrelevant. Not one government minister anywhere has ever said that they can’t bomb Baghdad, Bazra or the Balkans because they don’t have the budget.”

      This is so applicable to this debate. Back in the days of the Iraq war (second one I think), the Australian Government suddenly found an extra $500 million, beyond the budget, to bomb parts of Iraq (and to ingratiate Australia to its allies). Yet, right now with climate change accelerating, the Australian government can’t find any money to subsidize a rapid move to renewables. Nor can it find any money for a National Fire Fighting Air Wing (since we are now having super outbreaks of fire thunderstorms about every second or third summer and major bush-fires every year beyond traditional fire seasons). We can find money to bomb people conventionally but we cannot find money to water-bomb selectively to save threatened homes, towns and infrastructure. It’s ridiculous, We fiddle while the world burns. And false economics and false economy enable these egregious mistakes.

    4. Bill,
      This may be off topic a little, but I think it is worth mentioning as I believe sham contracting particularly in the transport industry has a huge negative impact on wages growth.

      I am a self-employed truck driver. If I wanted to employ a driver, by law I am required to pay the driver super and also have a workers compensation policy in place.

      Over the last several years, maybe even longer, there has been a major influx of migrant (visa) drivers becoming truck drivers and many even truck owners (I know many who own fleets of trucks now). The logistics company I contract to, also contracts with dozens of these trucking companies owned by people who have migrated to Australia. Almost all of these companies employ what is termed ‘sham contracting’ (maybe you have heard of Senator Glenn Sterle speak of it?), whereby they employ drivers as sub-contractors, requiring them to have an ABN so that they do not have to pay super or workers comp. They pay them a flat hourly rate of say $21 and nothing else. The owners of these fleets can then offer trucks to logistics companies dirt cheap.

      To illustrate, the size truck I own (w/tailgate), I get paid $47.39/hour. This same size truck used to fetch $55/hour only 5 years ago. These sham contracting companies mentioned above, roll up to logistics companies and offer the exact same size and type truck as mine for $38/hour, The only reason I am still being contracted with this logistics company is because a) I am not ad-hoc, and hence contract exclusive to this company, whereas others are ‘on-call’ types, and b) I provide a better service.

      However,

      Sham contracting is not exclusive to where I live, it is happening everywhere in Australia (and according to people I speak to, it is happening in Canada, UK, US etc). It is happening in every aspect of the freight industry from vans, utes, trucks, semis, you name it. On any given day, I will see more drivers of any vehicle involved in freight being driven by a migrant than not and I’m confident others in the industry will attest to this.

      Whilst I do not understand how they are getting away with it (as the ATO has made it clear on their website this is illegal), I am very sure that this practice is contributing to a decline in bargaining power of truck owners who are not migrants, and if you spend any time on social media trucking groups you will see a lot of complaints about this. The truck I own use to fetch $55/hour only a 5 or so years ago but competition from sham contracting has pushed this down.

      Who knows what other industries this is being employed in, but it is rife in the transport industry, and if the transport industry is the backbone of the economy, then no wonder there is stagnant wages growth.

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