Tackling Britain’s low wage economy needs to be at the heart of a progressive economic policy. Around a fifth of the UK workforce is low paid—almost double the level of the 1970s and second only to the United States (with a quarter on low pay) in the global low paid league table.
Although the extent of low pay has been accentuated by the slump, it has much deeper roots. Real wages have certainly fallen through the crisis—by around 7 per cent—but this is broadly in line with the overall fall in output. The real story starts much earlier in the early 1980s when the wage floor began a long term decline. As low pay has become more pervasive, the share of national output going to wages has nosedived from an average of almost 60% in the two post-war decades to 53% in 2007. During the recession the wage share first rose and then fell and is now back to its pre-Crash level.
There are two main policy issues on wages—short term and long term. The first, short term, issue is whether the squeeze on wages has helped prolong and deepen the crisis and whether wage-led recovery would be more sustainable. The answer to both is 'yes'. The key reason for the depth of the recession has been a severe lack of demand. Government and consumer spending and private investment have all been flat or falling, while exports have been slow to respond to devaluation.
The crisis would have been much less severe if there had not been such a large slump in private investment. It is a slump that was entirely unnecessary. The corporate sector, not just in the UK but across the globe, is sitting on record cash reserves. This great glut of unspent cash is the product of the rising profit share of the last thirty years, aggressive cost-cutting during the downturn and the effects on liquidity of Quantitative Easing (QE). It is this cash mountain that helps explain the depth and length of the crisis. The global cash surplus could have launched a sustained recovery, rebuilt ageing infrastructure and created millions of jobs. Instead most of it is lying idle—'dead money' in the phrase of Mark Carney, the Bank of England Governor—causing the paralysis that has unnecessarily prolonged the downturn.
The coalition's economic strategy is built on hope that, with the first real signs of recovery, the private sector will finally ride to the rescue, employing this giant cash mountain to promote an investment boom. This is wishful thinking. Much more likely is a repeat of the post-millennium pattern when similar corporate surpluses led to a surge in high risk financial deal-making, creating a series of asset bubbles in property and business values and sowing the seeds of the 2008 Crash.
There are already signs of the next surge in financial deal-making aimed at inflated immediate returns rather than patient and long term business building. This year has seen a number of attempted multi-billion deals financed by surplus capital, from the £15 billion Liberty Global bid for Virgin Media to the $24 billion attempt to take the Dell PC maker private. Private equity giant the Carlyle Group has $50 billion of 'dry powder' waiting to pounce, while Blackstone has nearly $40 billion. Global hedge-funds are sitting on huge reserves. Mergers and private equity takeovers provide huge windfall gains for the small number of 'marriage brokers' masterminding the deals, which are paid for by the upward transfer of existing, not the creation of new, wealth. These deals account for much of the increased concentration of income over the last two decades and the further enrichment of the global billionaire class.
With a continuation of austerity in public spending, the private sector unlikely to take up the slack and with consumer credit rising more quickly than at any point over the last five years, it is time to adopt an alternative strategy of wage-led growth by steering some of this cash surplus into boosting wages. Such a transfer—even on a modest scale—would be a more robust solution to raising demand than relying on a surge in private investment and would do little to dent corporate profitability. Yet instead of a recovery in wages, the lion’s share of jobs that have been created over the last year have been low paid and temporary, reinforcing Britain’s two-tier workforce.
In the longer run, building a more sustainable economy depends upon a more proportionate distribution of the cake. Over the last 30 years the lion’s share of growth has been colonised by rising profits. There are many explanations for the falling wage and rising profit share.
The official explanation, promoted especially by the OECD, is that it is largely down to technological change and globalisation. Yet the evidence is that these are outweighed by a mix of 'financialisation'—the growing grip of finance on the real economy—and the collapse of labour’s bargaining power. The latter was no accident. As the recently released Cabinet papers for 1983 reveal, Mrs Thatcher once admonished Norman Tebbitt for being too timid on trade union reform, telling him they 'should neglect no opportunity to erode union membership'. Since then, of course, labour’s strength has withered.
According to the still dominant economic orthodoxy, the shift from wages to profits should have boosted investment and productivity. Yet in both the UK and the US, booming profits have been associated with falling investment. This is because the sustained squeeze on wages has created a number of highly damaging economic distortions. It has sucked out demand, encouraged debt-fuelled consumption and raised economic risk. Because labour is cheap, firms have less incentive to invest in training and become more productive, helping to turn the UK into an increasingly low value-added and low-skilled economy.
Mere discussion of the 'distribution question'—how to divide the cake between wages and profits—has been dismissed as heresy by market theorists. 'Of the tendencies that are harmful to sound economics, the most poisonous is to focus on questions of distribution' is how Robert E. Lucas, the Chicago-based Nobel Laureate and principal architect of the pro-market orthodoxy, put it in 2003.
Yet the evidence is overwhelming: an excessive imbalance between these key economic aggregates leads to fragile and unstable economies. The International Labour Organisation has shown that nearly all large economies are 'wage-led' not 'profit-led'. That is, they experience slower growth when wage-demand is suppressed and the profit share is boosted.
Overcoming this imbalance requires a new economic model that returns the wage share closer to its post-war level, with big firms devoting more of their profits to pay. There is now a growing consensus that economies built around poverty wages and huge corporate and private surpluses are unsustainable. Creating 'more economic stability and more sustained economic growth', IMF chief Christine Lagarde declared in January, depends on securing 'a more equal distribution of income'. President Obama has made speech after speech on the need for a higher wage share. 'In the next phase of capitalism', leading Société Générale financier Albert Edwards told his clients last year, 'labour will fight back to take its proper share of the national cake, squeezing profits on a secular basis'.
Putting rhetoric into practice
Yet to date, action has not followed the rhetoric. This is because another side-effect of the Anglo-Saxon economic model has been the building of an entrenched corporate power block, one with the muscle to raise an iron curtain against government or democratic interference and wider economic progress.
In his last job, Mark Carney urged corporate Canada to 'put its dead-money to work'. He was shown the door. UK companies have turned their backs on similar pleas to use their hoarded money to finance a desperately needed investment boom. Lofty rhetoric from Lagarde, Obama and others on the need to tackle inequality has yet to be translated into practical measures.
Slavish submission to the now discredited economic doctrines of the last thirty years has led to a dangerous power imbalance, one in which global leaders appear toothless to engineer the change that majority opinion now accepts is critical to a more robust economic future. The mechanisms that might secure even modest change—boardrooms steering surpluses to productive use, the rich paying their due taxes, moderation in corporate pay and fees, tighter regulations on Wall Street and the City, an end to casino banking —have either not been tried or have been largely thwarted by fierce resistance.
There are plenty of practical policies that could, over a ten year period, rebuild the wage base. A recent study looked at the impact of four medium to long term policy measures aimed at tilting the economy in favour of wages: a slightly more generous minimum wage; a halving of the numbers receiving less than the living wage of £7.45 an hour (outside London); an extension of collective bargaining to cover a half of the workforce currently excluded; and a reduction in unemployment. Together these policies would close a quarter of the current wage gap (the shortfall in the current wage share compared with the post-war era).
None are utopian. They have been achieved in the past and in other countries. Together they would produce a much needed correction. With a majority of the low paid employed by large companies, the impact on costs and competitiveness would be small, while all the evidence shows that higher wages lead to lower staff turnover while acting as a spur to productivity. The balance of bargaining power in the UK is seriously out of line, with less than one in seven private sector workers unionised—one of the lowest in Europe.
There is an alternative economic model that could produce higher living standards, a more equal society and a more robust economy. The obstacles to realising it are a lack of political will and excessive global corporate and financial strength.
The evidence is clear, and widely accepted at the highest levels, that shrinking wage shares create fragile and excessively unequal economies. Until this issue is tackled at a national and global level, the world economy will continue to stumble from crisis to crisis.
Stewart Lansley is a visiting fellow at Bristol University and the author of The Cost of Inequality (2011).