Home > Crazy Loons, Wages > Minimum Wage, Maximum Derp

Minimum Wage, Maximum Derp

For me one of the most important lessons for British economic policymakers over the last six years should be to fear the interaction of micro with macro, supply-side policies with demand-side policies.

I do not think it is a merely a co-incidence that the worst fall in nominal demand since the 1920s occurred at the same time as a supply-side shock (collapse) in 2008.  All recessions in British history have been driven by tight money aimed at lowering inflation. Was this time different?  It’s not obvious why… CPI rate, September 2008?  5.2%.

And I do not think it is merely a co-incidence that the worst recovery in demand on record has occurred at the same time as inflation has sometimes hovered, sometimes soared above the inflation target.  CPI rate, September 2011?  This is during the time when the Darling/Osborne austerity drive “sucked demand out of the economy.”  That CPI rate in September 2011 was, again, 5.2%.

Here is MPC hawk Martin Weale writing this week:

If wage growth picks up more rapidly than I expect, it will be an indication of inflationary pressure in the economy and Bank rate will need to rise sooner. If wage growth remains subdued, Bank rate should rise more slowly. Because the future is uncertain, we cannot make any promises about where Bank rate will be in a year or two years.

Raising the minimum wage by 3% at a time when hourly wage inflation is 1-2% at best, and is one of the indicators preventing the Bank from screwing up the demand side again… that would surely be an incredibly foolish gamble.

What, exactly, have policymakers learnt from six years of negative supply shocks and disastrous demand-side outcomes?  Have we even learnt anything about wages, nominal shocks and employment?  It does not appear so.

So sure, let’s try another supply shock.  Maybe we’ll get “lucky” and the labour market tightens enough this year that hourly wages pick up, so that a 3% NMW raise doesn’t hurt many more people.  Maybe.

Here is the Low Employment Commission report for 2008 (before the recession):

3.18  The decline in the labour market position of young people has been general across the UK. The proportion of young people not in FTE aged 16–21 who were in employment fell in almost all regions between 1998 and 2007, unlike those aged 22 and over who saw their employment share increase in all areas of the UK except London. However, by European standards, young people’s labour market position in the UK is relatively strong.

Good one!  Our labour market may be doing badly, but just look at Spain!  Those guys are really screwed.  They continue:

Given that employment in the UK has been at record levels, it is difficult to explain why young people have not done better in the labour market. Two significant developments in the labour market in recent years have been the increase in the number of people of pension age becoming economically active and the arrival of predominantly young migrant workers from the European Union accession countries.

It’s “difficult to explain”… right.  A total mystery.  I can’t think what might have caused it, so let’s blame immigrants and old people, those are surely the most “significant developments” in the British labour market in the years to 2008.  If anybody does have any better ideas about what happened, be sure to write to Card, Krueger, Dube, etc.

A Mystery Event in the UK Labour Market.  Source: ONS YBVK

A Mystery Event in the UK Labour Market. Source: ONS YBVK

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Categories: Crazy Loons, Wages
  1. W. Peden
    February 27, 2014 at 17:33

    Great post. 25% youth unemployment after 15 years of Great Moderation economics was a disaster.

    The recent minimum wage rise also proves that the depoliticization of the minimum wage couldn’t last. I doubt that George Osborne, not the most left-wing person in the UK, will be the last major politician to try to use the minimum wage as a political stick.

    The point on the relationship between supply-side problems and recessions is a good one, but I would give two possible exceptions to your historical generalizations: the falls in RGDP in 1975 and 1980. In 1975, NGDP was actually growing around its fastest rate in our history (and faster than in 1974, when the recession was at least partly demand-side) and real output contracted, obviously due to the oil crisis. In 1980, NGDP growth was about the same as in 1979, but the combination of the oil crisis and a major reduction in hidden unemployment as the nationalized industries were brutally rationalized resulted in 1980 being one of the most contractionary years in the post-war period. (It wasn’t until 1981 that NGDP and inflation fell.)

    I agree that “it can happen again”. If anything, I think that the state of macroeconomic debate in this country is worse than in 2008, and wouldn’t be surprised to see intentional and explicit monetary tightening and fiscal stimulus (assuming Labour wins in 2015) in the same year. Higher interest rates to get down inflation and fiscal stimulus to boost growth; makes total sense in the current climate of debate…

    • February 27, 2014 at 20:09

      Thanks! I nearly wrote “demand-side recession” there, but then the claim felt like a tautology; I take the point of course.

      It is unusual to hear 1980 described a supply-side recession. We need to write up a market monetarist history of British macro! It’s interesting how little common ground there is on macroeconomic events long past, let alone of this year or next.
      Was unemployment in the mid-80s a demand-side issue? Was the Lawson boom “unsustainable”? etc etc.

      I’m not sure where the UK macro debate will go but you are right it has gone downhill. Balls’ endorsement last year of “monetary activism” appeared to be a capitulation. He appears to have stopped repetitively calling for public works to create jobs (IMF! £10bn borrowing! IMF!). I think we’ll see more “supply-side fiscalism”: “investing for growth” by raising productivity with more roads and bridges, etc.

      • W. Peden
        February 27, 2014 at 22:25

        Edward Nelson has some interesting things to say about the early 1980s recession in his brilliant paper “The UK’s Rocky Road to Stability” from 2005 and the relationship between structural changes and the natural rate of unemployment in that period.

        I’d say that the mid-80s levels of unemployment were mostly due to a wide variety of structural issues, although it’s worth noting that even in 1986 it was only five years after a large shift in the NGDP growth trend from the double-digit growth of the 1970s to single-digit growth through most of the 1980s.

        The Lawson boom is another good little puzzle. In 1983-1986, the NGDP trend was steady (if not falling) and the growth of that period seems attributable to structural changes, with a genuine labour productivity boom. On the other hand, there was a definite demand-driven boom in 1987-1988, and the mid-to-late-80s NGDP growth rates would always tend towards higher inflation over time as the spare capacity was lost (even a 7.5% NGDP growth is fairly inflationary as a trend, and that was about as slow as NGDP growth got).

        On the other hand, the rise in NGDP in the 1980s wasn’t enough to explain the huge housing boom in that period, and as with all such booms it’s very hard to say what the causes were. I don’t know, anyway- the UK has had housing booms in periods of rising NGDP, falling NGDP, stable NGDP… Whatever the causes are, they presumably must be structural.

  2. W. Peden
    February 27, 2014 at 17:33

    On the upside, that chart makes the claim that there is no relation between the minimum wage and youth unemployment very hard to defend.

  1. March 3, 2014 at 04:34
  2. March 3, 2014 at 04:45
  3. March 6, 2014 at 21:55

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