Brian Easton says instead of allowing labour issues to remain swallowed up within MBIE, the Government should consolidate labour policy management into one Ministry

This is a re-post of an article originally published on pundit.co.nz. It is here with permission.

For over a century in New Zealand, there was a separate Department of Labour, which was eventually amalgamated into the vast miscellaneous department, the Ministry of Business, Innovation and Employment (MBIE).

Today, there is no Minister of Labour, while the portfolios of workplace relations and safety and of immigration are held by different ministers, despite migration being an integral part of the labour market. There is no proper labour market research program (although there has been some excellent work done in the consultancy sector, but it is contractual and depends on the whims of funders who are rarely focused on a comprehensive overview – even if they had the funding). The impressive ‘Labour Employment and Work in New Zealand’ biennial conference, in which for a quarter of a century researchers from many disciplines – economics, geography, industrial relations, sociology – came together, no longer happens.

The change represents a mind shift. It is common in economics today to assume the labour market works much like any other competitive market, while it's assumed that unions do not need special attention since the passing of the Employment Contracts Act in 1991.

The idea of a competitive market is taught in Econ101. It involves many buyers and sellers (who can easily enter and exit the market) with a reasonably well-defined ‘equilibrium’ market price which applies to most transactions. (If any transaction gets too far out of line, there are various competitive mechanisms which over time move it to the equilibrium price, or vice versa.) Prices are set by market interactions, not by a few (or single) businesses. Thus, the supply and demand curves introduced in Econ101 reasonably reflect reality, once a market settles down. The underlying conclusion is known as the ‘Law of One Price’.

As economic students progress, they learn that many markets are not so simple. They are introduced to terms like ‘monopoly’ and ‘oligopoly’, where businesses have power to set market prices. They may learn that we have a Commerce Commission to restrain the power. The teacher may even mention ‘monopsony’, a term introduced by Joan Robinson (the worst case of a significant economist not getting a Nobel award in economics) to cover where the buyer has the economic power (and which the Commerce Commission has identified in relation to supermarkets which screw suppliers). I doubt most teachers bother much with where there is a monopsonist facing a monopoly; once the example would have been a union selling labour and a business buying it.

Can labour markets with weak unions be treated as (roughly) competitive and left to themselves? That question really needs to be settled by evidence – but there ain't much in New Zealand. There is, however, in the US, a lot of which is summarised in American economist Arindrajit Dube’s The Wage Standard: What’s Wrong in the Labor Market and How to Fix It. American labour economists have made ingenious use of databases collected for other purposes to present stunning evidence that the law of one price frequently does not apply there in labour markets.

For example, Walmart and Target are both large chains competing in the US retail sector. Yet Target pays its workers roughly 25% more than Walmart. In a competitive market, Target ought to be losing market share to Walmart because of its higher labour costs, or Walmart ought to be unable to recruit sufficient workers because it is not paying enough. That is not how it actually happens.

Before you argue that the Walmart labour force is less competent, Dube gives the following example based on records which track workers’ behaviour. Twins Marta and Petra were working at the same corner store earning $14 an hour (in US dollars). Presumably, they had similar job roles and work histories. They each find a new job. Marta goes to Walmart at $14.25 an hour, Petra to Target at $16 an hour. Each is doing the same job, with the same characteristics and yet there is a marked difference in their pay.

I’ve reported only a single study. There are many others. Each may be problematic, but collectively they suggest that the standard model for labour markets does not apply. Its supply and demand curves are fuzzy, which leaves a lot of room for other factors to influence wages. Dube summarises the research’s conclusion as ‘Your pay is not just about who you are – it is also about where you work’. This raises an important issue of something taught in Econ101, assumed in more advanced courses and usually assumed in the public discussion. It is said that a worker’s wage rate equals their ‘marginal product’ – how much they add to the economy. That sounds plausible, but how do we know? British economist Joan Robinson pointed out that the justification tends to be circular. We assume that the equality is true, build a model based on it, and then use the model to prove the assumption.

Further up the pay-scale, we say that managers are entitled to higher remuneration – their margins above average wages have been increasing in recent years – because of their higher productivity. How do we know? Well, their high pay reflects their higher productivity. Can you now see the circularity? You don’t think Elon Musk has actually added a trillion dollars to Gross Domestic Product (GDP)? Those who are well remunerated like the marginal theory because it seems to say how important they are (and how clever, thereby justifying their expounding on things on which they have no expertise – e.g. Musk).

It is true at lower levels. When, say, nurses demand high pay to reflect their ‘worth’, we cannot tell what they are worth by rational economic analysis. If they get a 10% increase in their remuneration, that does not mean their productivity is boosted by 10%. As an economist, I find these ‘worth’ arguments, which are riddled through wage setting, very perplexing. 

Dube’s book argues that the US minimum wage should be increased. You may like that policy or not. What his book really shows is that minimum wages can be increased, to some extent, without necessarily generating economic stress such as higher prices. You should read the book, not for its policy prescriptions, but to appreciate the enormous gap between Econ101 economics and the reality of an actual labour market. (And this column has not even addressed the importance of migration in the NZ market. Another time.)

Which leads me to one policy recommendation. Rather than leave labour issues lost in MBIE, we should consolidate labour policy management in a single ‘Ministry of Labour’ (with a decent research budget). I was surprised that the Ardern-Hipkins Government never did this. (It did split housing out of MBIE.) Perhaps that indicates it was in an Econ101 mindset.

*Brian Easton, an independent scholar, is an economist, social statistician, public policy analyst and historian. He was the Listener economic columnist from 1978 to 2014. This is a re-post of an article originally published on pundit.co.nz. It is here with permission.