Plain Sense Economics

In Principles of Microeconomics this week we talked about labor markets and how wages should rise as worker productivity rises. In Principles of Macroeconomics this week we talked about the concept of “sticky wages” – where, in the short run employers adjust their production/output when demand falls, but don’t immediately adjust wages downward.

This article in the March 2, 2009 edition of The New Yorker, by James Surowiecki, does a nice job of explaining both of these phenomena.

A quick excerpt from the the lead…

It’s harder and harder to find and keep a job, but if you’ve got one you may well be making more than you did twelve months ago.

We can think about labor as a market, where workers “supply” their time and expertise, and employers “buy” that time and expertise. If workers become more productive they are more attractive to employers and the demand for labor shifts to the right (increases). If nothing else changes (fat chance of that!) then an increase or shift in demand should result in higher wages. The article explains how, due to a number of factors, worker productivity has been rising at a nice clip – resulting in higher wages.

Now, if we look around us at rising unemployment and laid off workers seeking any kind of employment at almost any wage, it would be reasonable to expect that wages would start falling. After all there is an abundance of available, potential workers, so why wouldn’t wages decrease? They do, over time, but not right away. This is the “sticky wages” phenomenon. Some times there are structural reasons that wages stay the same. This might include a negotiated union contract, or a heavily bureaucratized wage and salary structure (think schools or public government employees, or sometimes hospitals). To add to that is at least some empathy on the part of the employer – trying to do the right thing for their work force in hard times. Surowiecki also notes employer concerns about adverse selection, where the employer fears losing their most productive employees as a result of a wage cut.

Eventually wages do start falling in hard times, along with prices. This change isn’t immediate, but with a prolonged recession it is inevitable.