The Political Economy of Full Employment - Essay Example

Critically Evaluate Name A Report Submitted Institution Course Date: The following essay is a critical evaluation of a statement, which states, “The wages policy adopted by the ALP Federal Government is a hybrid of theoretical approaches and aims at benefiting the interests of both employers and earners of wages and salaries”. The purpose of the essay is to reveal supportive research showing how the approach used by the government has achieved its objectives. After the elections of the labor government under Robert Hawke in 1983, the Australian Labor Party developed an accord in economic and social policy between it, the confederation of labor and Australian Council of Trade Unions. The accord was one of the fundamental planks in the party’s platform as it was a historic agreement that would be the key to national reconciliation and recovery. The accord originated after the demise of the previous Whitlam government, which was the first Federal Labor government since 1949 to run into deep economic problems due to failures of reaching an agreement with trade unions on a wage and price policy and worldwide inflationary pressures. During the economic recession in Australia, the accord proved to be beneficial as it attempted to solve problems arising from high inflation and unemployment by establishing stability in prices and wages as well as reducing the number of industrial disputes. Among the essential features that helped the government in the recovery process was the return of a centralized wage determination system through the Arbitration Commission and the Australian Conciliation, and the governments support in maintaining wage levels through a system of full cost of living adjustments. The ALP government recognized that, for policies based on income and wages to work, within a policy framework, directly measures towards income and wealth redistributing. This applies to the less well off and alleviating unemployment, thus a greater understanding of the economy’s complexity, by the key participants, who are the government, employers and trade unions would be required for the policy strategy to realize its full potential (Richardson 1999, p. 82). In doing so, the ALP government developed and adopted wage policies that consisted of several theoretical approaches to wage setting. The current approach in wage setting applied by the ALP government incorporates the combination of the neoclassical theory and the institutional theory. The incorporation of the theoretical approach in wage setting is done under the principle of wage fixation, which provides wage justice to employees while ensuring the wage increase does not yield added impetus to unemployment or inflation. The essay will now examine the two theories and show their significance in practicality as well as achieving their objectives. The neoclassical wage theory The neoclassical wage theory is a derivative of the concept of supply of, and demand for labor. According to this theory, labor’s supply is based on an individual’s utility function where both leisure and consumption are traded off to maximize utility. Cahuc and Zylberberg (2004, p. 9) argue that the properties of an individual’s supply of labor results from the combination of the income effect and substitution effect, which leads to a nonmonotonic relationship wages and individual supply of labor. The demand for labor, being that it is one of the factors of production, is seen in a wider context. A firm or business chooses a combination of inputs, including labor, which minimizes production cost and maximizes profit output. Given the supply of labor and the demand for labor, wage is determined as the price that brings the two forces into equilibrium. The theory assumes that, in a competitive environment, homogenous jobs and workers receive equal wages and salaries, workers move easily and quickly between competing jobs with small differences in wage rates and characteristics, and unemployed workers choose to be voluntarily unemployed. The basic idea behind this theory is that income is earned through goods and services production and that the productive factor’s value contributes to the total value of the product. Neoclassical economics base their arguments on a perfect competitive model where there is a simultaneous determination of prices and quantities in all commodity markets. When the market is in equilibrium position, wage levels correspond to the marginal productivity of labor, whereas, wage disparities result from the differential rates of investments in human capital due to education, training or by the operation of an efficient wage criteria. Neoclassical economists argue that the equilibrium position produces optimal outcomes in terms of welfare and efficiency for the economy with economic interference prescribed as results of suboptimal outcomes (Richardson 1999, p. 114). The economy in the neoclassical world is a self -adjusting mechanism that does not need institutional arrangements to ensure comparability and fare wages. Wage fixing tribunals and trade unions have no place or space in this world as they are viewed as impediments to the market’s operation, and hence a primary source of low investment, unemployment and poor productivity growth (Hancock 1981, p. 186). Through this approach, the Australian government underpins trade unions bargaining power and responds to unemployment through minimum wage regulation and comparability. In the modern context, this approach is viewed to be unsuccessful in reducing wages across the board apart for the vulnerable groups in the workforce such as young people, women and non-standard employees. In the Australian context, this approach is based on the premise that the country’s economic future lies in low wage competition rather than in a high productivity path, high skill, focusing on value adding, knowledge based services and manufacturers. The ALP government views trade unions as well as wage fixing tribunals as market impediments as they set the minimum wage standards at variance with the market outcome. This has led to their restriction and abolition as they are portrayed as inimical to the interest of workers that they are supposed to be protecting. Institutional wage theory Institutional wage theory bases wage determination as a function of psychological determinants and social institutions. Veblen’s anthropological, economic work (Spindler 2002, p. 20) explain that wage is an incident to the relation the employer and the employed, and it is set by social and historical standards with the view of equity and reciprocity. Economists such as Adam Smith, Karl Marx and David Ricardo understood that the basic nature of the relationship in employment in capitalistic economies was characterized by domination and subordination in the production process. This led to the development of industrial relations, which recognized the legitimacy of unions as organizations that limited competition among employees and redressed the power imbalance with employers. In addition, these economists demonstrated theoretically the relationship between profits and wages by distinguishing wages as not only a cost but an income for the workers. The analysis of wages based on the notion of subsistence wage by Ricardo and irreducible minimum by Smith influenced the formulation of Australia’s basic wage through the Conciliation and Arbitration Court in 1907 that was governed by the needs of employees and the capacity of employers to pay (Kruger and Summers 1988). Institutional economics recognize that a minimum wage contains both benefits and costs to the parties involved. Its rationale for a minimum wage law is that employees and workers suffer an inequality of bargaining power since imperfect labour market conditions and lopsided distribution of rights and resources put employers in a dominant position in wage bargaining. With inequality of the bargaining power in place, the market competition cannot fully protect the conditions of labor as well as wages. Thus, a countervailing institutional mechanism must be developed so as to promote effectiveness and equity in the labor market with the aim of protecting labor and balancing social outcomes (Horvat 1999, p. 258). The second rationale identified by institutional economics for minimum wage is that it promotes full employment and macroeconomic stability. Although the argument had been ignored entirely in the modern debate on minimum wages, the 2008-2009 economic depression that emerged, gave microeconomic dimension of minimum wage, a new relevance and life. Economists supporting the institutional theory argue that a minimum wage boosts employment by augmenting household aggregate demand and income, prevents unfavorable competition in the labor market and ruinous deflation, and maintains a better balance between production and expenditure by counteracting greater inequality in income and promoting the broad-based sharing of productivity output (Marx 1891). Application of the neoclassical and institutional approach in the Australian Labour Market At any point in time given the capital stock, technology and the supply of labor, there is associated average labor productivity and an average real wage, which generates a full employment. For example, if the economy is at full employment, there is a balance between the labor productivity and the real wage. If wages increase, without an increase in labor productivity, firm’s profitability would decrease causing unemployment due to the laid off workers. During the 1950s and the 1960s, the Australian labour market had strong trade unions together with centralized wage fixing systems, which enabled the labor market to operate efficiently. At this time, the Australian government adopted wage fixing policies that incorporated the principles of the neoclassical approach. At the time, the approach deemed beneficial as there was an underlying rate of unemployment that was consistent with full employment and it maintained the balance between real wages and average labor production (Arestis1995). During the 1970s, the Australian labour market seized to be efficient as the level of real wages accelerated without an accompanying rise in the rate of technological change. The increase resulted into a major imbalance between the real wage and the labor productivity level. This, in turn, led to firms reducing their employment level so as to increase their labor productivity. The high level of unemployment forced the government to change its wage fixing policies. The Australian Labor Party adopted a strictly centralized wage fixing system, which robbed unions their function of fighting for wage increase for their members (Rimmer 1985, p. 241). The policy did not last for a long time as trade unions became disillusioned with the policy. In 1990, the Labor government emphasized on new policies that shifted wage bargaining to enterprise level, weakened the role of trade unions and deregulated the labor market. Through the new policy, the government applied both the neoclassical and the institutional theory. Influence of the hybrid of theoretical approaches on the Australian wage policy Card explains that (1988, p. 148) Australia’s new wage policy is based on two crucial propositions. First, most of the policy advisers believe that Incase of any real wage labor productivity imbalance, free workings of the labor market should correct the imbalance. In the case, of an efficient and well working labour market, any imbalance, as a result of change in the real wage-labour productivity, would be considered a transitory problem. For example, if the real wages in an efficient labor market are too high to result in unemployment, the unemployed would exert pressure in the market for real wage to reduce and restore full employment. In case, the labor market would be unable to restore full employment, there would be further deregulation in the labour market so as to increase efficiency. Through this proposition wage, fixing would be done using the neoclassical approach. The second proposition puts emphasis on limited enterprise bargaining as a method through which unions and firms could increase labour productivity, firm’s ability to pay wage increase and protect workers from inequities of the labor market. In addition, the FLP formulated the minimum wage in which a worker should be paid while approving supplementary payments through the Australian Conciliation and Arbitration commission. This proposition is influenced by the institutional wage theory approach, which argues that wages and efforts of workers do not directly connect. It is evident that the hybrid theoretical approach in wage setting has achieved many of its aims and immediate targets in maintaining a stable Australian labor market. The policy has weakened the power of unions, promoted enterprise bargaining and caused the centralized wage fixing system to be abandoned, except for safety net adjustments. Although there is a limitation in the success of changing the underlying unemployment rate, the rate of labor productivity growth is on the rise and has returned the growth rates to reflect that which was typical during the pre 1975 period. The high labor and productivity growth rate, has in turn allowed a monetary policy regime that is loser, and a faster economic growth. References List Arestis, P 1995, The political economy of full employment: conservatism, corporatism, and institutional change, Aldershot, Hants, England, E. Elgar Pub. Cahuc, P & Zylberberg, A 2004, Labor economics, Cambridge, Mass, MIT Press. Card, D 1988, Unexpected Inflation, Real Wages, and Employment Determination in Union Contracts, Cambridge, Mass, National Bureau of Economic Research. Hancock, KJ 1981, Incomes policy in Australia, Sydney, Harcourt Brace Jovanovich. Horvat, B 1999, The theory of international trade: an alternative approach, New York, St. Martin's Press. Kruger, A & Summers, L 1988, ‘Efficiency wages and inter-industry wage structure,’ Econometrica, vol. 56, no. 2, pp. 259-293. Marx, K 1844, Economic and Philosophic Manuscript, London, viewed 27 Aug 2012, . Marx, K 1891, ‘Theory of Wages quoting -pamphlet Neue Rheinische Zietung’, Economic Theories, viewed 27 Aug 2012, < www.economictheories.org/2008/12/karl-marx-theory- ofwages.html>. Richardson, S 1999, Reshaping the labour market: regulation, efficiency and equality in Australia, United Kingdom, Cambridge University Press. Rimmer, M 1985, Incomes policy in Australia, 1975-1985, Kensington N.S.W, Australian Graduate School of Management, University of New South Wales. Spindler, M 2002, Veblen and modern America: revolutionary iconoclast, London, Pluto Press. Read More