Economic logic vs. politics

Published in Insights, The New Zealand Initiative’s newsletter, 14 May 2021

A worker producing $30 worth of widgets per hour but receiving a salary of $40 per hour would soon lose his job. No employer would subsidise their employees like that.

The only chance for the worker to keep his job and receive $40 per hour would be to increase his output to $40 per hour.

Where wages exceed productivity, jobs disappear. This economic logic is so strong, it is almost a truism.

Yet no matter how solid the logic, political temptations run much stronger. A case in point are the so-called ‘Fair Pay Agreements’ (FPAs).

The idea behind FPAs is simple. By allowing employees to negotiate together with employers across an industry, they shall gain higher wages.

There is only one problem. In the long run, wages can only rise with productivity increases. See above.

New Zealand’s system of workplace relations goes back to 1991. That was when the Employment Contracts Act was introduced. It allowed direct negotiations between companies and their employees.

Since then, labour productivity and wages have been largely tracking each other. Which is to say that New Zealand’s system of workplace relations works.

New Zealand workers got paid according to their output and unemployment was low. The Initiative documented this in our 2019 report Work in Progress.

Which makes you wonder what is the point of FPAs?

The answer is, there is no point other than a political one. Introducing collective bargaining gives New Zealand’s trade unions a new lease of life.

Following the 1991 legislation, unions had lost much of the reason for their existence. Subsequent wage developments also demonstrated that employees did not need unions to benefit from productivity improvements.

The Government’s plan to introduce FPAs is both pointless and disruptive. Pointless because it cannot succeed in boosting wages. And disruptive because it introduces new conflict lines into perfectly functional labour markets.

Economists disagree on many things but not on the link between productivity and wages. As Ludwig von Mises wrote almost a century ago, “There is only one thing that can raise wages: a rise in the general productivity of labour.”

FPAs are a display of economic irrationality. They would hurt everyone apart from the unions.

If the Government cared for higher wages, it should focus its efforts on improving New Zealand’s productivity. Empowering unions will achieve the opposite.