Osborne’s Budget: The National Living Wage
Osborne’s Emergency Budget has called for the
implementation of a National Living Wage. This would increase wages from the
current rate of £6.50 an hour, up to £7.20 by April 2016, and then further
increasing to £9 by 2020. Those on the Minimum Wage would stand to see their
salaries increase by an estimated £4 000 p.a. Furthermore, 2.5 million
employees are expected to see their salaries increase by £5 000 by 2020 as a
result of this National Living Wage.
Undoubtedly, one of the motivations behind
the National Living Wage was to increase the incentives for people to work. Coupled with the proposal to cut
tax credits, this should help to encourage and push people into employment because the benefit of working would be higher.
The Adam Smith Institute has argued that the
Minimum Wage is greater than the
Living Wage would be after tax has been deduced. Therefore, the Chancellor was
correct in increasing the Personal Income Allowance from £6 500 to £11 000 by
2016, ensuring that the lowest paid would increase their disposable incomes,
and thus their standard of living.
By setting a National Living Wage and cutting
tax credits lower-paid workers would have a greater income, thus increasing the incentive to find employment.
This is compounded by the fact that the personal allowance will increase to £11
000 in April next year. Moreover, those with higher-incomes would also stand to
benefit as they would be paying less taxes, as a result of the reduction in tax
credits and government spending overall.
More unemployment?
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| Figure 2: The Market for Labour |
Greater efficiency
On the other hand, a higher National Living
Wage may increase the efficiency and productivity of businesses, something
which has failed to emerge in England following the ‘Great Recession’. A large
increase in redundancies would paint a negative image of businesses. This would
be especially true for those businesses in retail, where 79pc of workers would
see their wages increase from next April. Although benefiting employees, this
would force retailers to decide between increasing the efficiency of their
businesses and cutting their workforce in order to maintain high revenues.
However, should retailers decide to reduce the size of the workforce
drastically, this would undoubtedly be covered by the media, thus possibly influencing
the public’s spending habits, and thus harming the revenue of retailers who
dismiss a large proportion of their workforce. Indeed, although retailers
stated anonymously in a survey that they would make redundancies following the
implementation of a National Living Wage, this was perhaps an incentive for the
Chancellor to rethink his Budget, rather than a true reflection of their views.
Indeed, after the introduction of the Minimum Wage, the expected unemployment did not occur. Therefore, it seems unlikely that employment
would ensue following the implementation of a National Living Wage.
Indeed, these retailers may adopt strategies
to try to increase the efficiency of their services, rather than increasing
redundancies. For example, supermarkets are likely to improve their delivery
services, stocking and organisation in order to increase efficiency, and thus
productivity. Furthermore, the workers receiving the higher wages are also
likely to increase their productivity. This is highlighted by the ‘Efficiency Wage Theory’. The Living
Wage Foundation has summarised that employers have estimated that by
implementing the (voluntary) living
wage, absenteeism was reduced by 25pc because workers have a greater incentive
to work as they knew they are being paid a ‘fair’ amount. Therefore, it could
be argued that a similar effect would occur following the Living Wage law. Furthermore,
a higher wage may ensure that workers work harder because the opportunity cost
of not working is higher, due to the larger monetary difference of working and
not working. Therefore, despite the fact that companies are paying each member
of staff more money, they are receiving greater productivity gains through a
relatively greater increase in output per worker. An example of such
productivity gains is from Henry Ford’s motor company; after 1914 Ford decided
to increase his workers’ wages to $5 a day in 1914, turnover decreased, there
was a reduction in absenteeism and so productivity increased. Moreover, with
higher wages workers would be motivated to work harder, thus increasing the
quality of customers’ experiences in shops. Therefore, the public would benefit
from a higher national living wage, as it is likely that there would be
improvements in the speed of deliveries, stocking and organisation of
supermarkets and department stores, for example. Therefore, a National Living
Wage may lead to increased revenue, rather
than a decrease in revenue. Thus, a higher living wage would not only directly benefit
workers, but it could also benefit business and the public at large.
However, the ‘Efficiency Wage Theory’ cannot
necessarily be used as an argument for setting a higher National Living Wage.
It may increase productivity due to the aforementioned reasons, but as the
National Living Wage becomes the ‘norm’,
so to speak, it wouldn’t help to maintain
worker satisfaction, and thus worker productivity as the wage would still be
the lowest on offer. Moreover, the motivation behind the
‘Efficiency Wage Theory’ was not to explore why workers work harder when paid
more, but why workers work less when their wages are cut. Indeed, Akerloff and
Yellen state that firms should not cut wages even when unemployment is high
because “workers withdraw effort as their actual wage falls short of their fair
wage” and so workers are the cause of persistent unemployment. Although this is
just the ‘opposite’, this does not mean that the reasoning can be applied.
Studies by Kahneman have highlighted that “losses
loom larger than gains” and this can also be applied in this context. Due
to the fact that “we dislike losses more than we like gains”, workers are more
likely to decrease their productivity when wages are cut, rather than increase,
their productivity when their wages increase. Thus, the ‘Efficiency Wage
Theory’ cannot provide adequate grounds to explain that productivity would
increase if wages are increased.
Furthermore, campaigners for the Living Wage
are implying that firms have not already
considered increasing wages in order to increase productivity. However, it
does seem unlikely that firms, who are essentially profit-maximising, have
failed to consider this and that campaigners have more knowledge in this field.
In addition, a higher wage may in fact reduce incentives for workers to move to
high-paying, and so higher-skilled jobs.
Employment in the long run?
Although some may still remain sceptical, and
believe that the National Living Wage would increase unemployment in the short
run, there is a good argument for believing that employment would increase in
the future. Increasing the wages of low-paid workers would result in increased
spending by consumers, because low-paid workers have a high propensity to
consume. This would feed through the circular flow of income, and thus, through
the multiplier effect, and so would
help to increase jobs in other sectors of the economy, such as retail, estate
agents and other services.
North South Divide
On the other hand, a National Living Wage may
not be a feasible proposal. The cost of living is higher in the South-East than
in the North, and so a ‘one-size-fits-all’
lower bound wage may not be the most feasible proposal. Indeed, following
the National Minimum Wage, the Living Wage Foundation was formed in 2001 to
lobby for a higher minimum wage for Londoners, who face higher Council Tax and
transport costs. Nevertheless, a National Living Wage could serve to reduce the
North South divide as employees would receive similar wages, thus converging
spending patterns, and thus prices.
Inflation and the Living Wage
Moreover, a National Living Wage may also be
beneficial on the macroeconomic level. Recent reports have highlighted that the
UK’s inflation rate was -0.1pc at the
end of October 2015, as measured by
the CPI. Therefore, an increase in wages would increase the costs to businesses,
and, if businesses passed on these costs to consumers, it would lead to the level of prices increasing for
consumers. Indeed, Whitbread plc
stated that due to these higher costs, which are expected to total £15 million, customers would experience
price increases in Costa, Beefeater and Premier Inn. This should help to
encourage spending immediately in some sectors of the economy, as consumers
realise that prices would increase in the future, thus decreasing the potential
for a deflationary spiral at present.
However, this also raises the issue of
whether the National Living Wage would meet its aim of ensuring that workers
have a decent standard of living, as products may rise at a greater rate than
workers’ wages rise. Thus the effects of the Living Wage may be in conflict with its aims, leading to a
decrease, or stagnation, in the standard of living. However, these effects
would depend on business’ ability to pass on these costs to consumers, as
businesses are in a very competitive market. Indeed, Costa faces high competition from Starbucks, whilst Premier Inn faces
competition from Travelodge, reducing Whitbread’s ability to pass on the
increase in wages to consumers.
The Living Wage
Therefore, the Living Wage should increase
productivity in the economy as it should stimulate firms to make more
cost-saving measures. Although a large increase in unemployment may ensue, this
is unlikely, as it would damage the reputation of the firm. Moreover, as the
opportunity cost of not working would be higher, an increase in the Living Wage
would stimulate more people to look for jobs. However, the ‘Efficiency Wage
Theory’ is not a suitable argument in this scenario because as the Living Wage
becomes the ‘norm’, workers will not be motivated by this increase in pay. Although
shops may pass on their increase in costs to consumers, this may help to combat
deflation, which seems to be creeping into the UK’s economy. Therefore, both
through higher wages and inflation this should increase consumer spending
through the multiplier effect and so stimulate the economy.
Daniel Kahneman, 'Thinking, Fast and Slow', (Penguin, 2012)
http://marginalrevolution.com/marginalrevolution/2015/04/the-false-prophets-of-efficiency-wages.html
