Australian Economy

Big wage rises would do Australians more harm than good

If that relatively large wage rise was limited to just the 180,000 minimum-wage workers, it could probably be digested by the economy without too much trouble.

The bigger challenge is that about 25 per cent to 30 per cent of the workforce have their pay closely linked to the minimum wage increase, via industry awards and some enterprise bargaining agreements. Not all of these people are low paid.

The Fair Work Commission must be careful about the signal it sends to the broader labour market and the impact on inflation psychology.

Moreover, state governments in NSW and Victoria are preparing to lift their public sector pay caps, up from a modest 2.5 per cent and 1.5 per cent respectively.

New federal Finance Minister Katy Gallagher also says Labor will overturn the Morrison government’s decision to link public sector pay increases to the wage price index and return to enterprise bargaining.

If such a large chunk of the labour market received pay rises of close to 5 per cent, it would spell trouble.

Indexing wages to inflation would risk repeating the mistakes of the 1970s, when an oil price shock – which we are again experiencing – collided with the Whitlam government approving large pay rises.

Stagflation arrived, with inflation surging to 15 per cent in 1974 from 3.5 per cent in 1970, and the jobless rate jumping to 5 per cent by 1975 from just 1.6 per cent.

Hence, the Fair Work Commission must be responsible in weighing up the real cost of living pressures facing employees and the broader macroeconomic consequences of its decision.

Short-term real wage cuts

One compromise may be to give minimum-wage workers a flat dollar increase of about $1 or so an hour on the current $20.33 per hour minimum wage. That would equal about 5 per cent for the 180,000 minimum-wage workers. But the same dollar amount would be less in percentage terms for higher-paid workers.

Would trade unions and workers accept real wage cuts in the short term for workers earning more than the minimum wage?

An across-the-board increase of 5 per cent for about 3 million workers would be dangerous for the labour market and economy over the next few years.

It would entrench inflation above the Reserve Bank’s already high forecast of 5.9 per cent by the end of this year. And then what? Would unions and workers demand an even higher across-the-board wage increase in line with inflation next year?

Risk of US-style wage-price spiral

Interest rates would then need to rise more aggressively to cool the economy, and unemployment would increase over the next few years.

The money market is already pricing in a very aggressive path for the RBA cash rate to 2.6 per cent by December and 3.3 per cent by mid-2023. While difficult to fathom, a wage price spike could deliver such an aggressive monetary policy tightening.

Hence, there is a real danger in mechanically institutionalising wage rises to match the supply-side inflation shock we are experiencing. It would deliver a dangerous wage-price spiral that Commonwealth Bank of Australia chief executive Matt Comyn witnessed when visiting the United States over the past week.

US inflation is above 8 per cent and wages are growing more than 5 per cent.

In the current high inflation environment, wage increases of 3 per cent to 4 per cent for most workers are more responsible and in line with intelligence the RBA’s liaison program is picking up from business.

There should be a shared objective of the government, RBA, business and unions to sustain full employment around the current jobless rate of 3.9 per cent.

The spike in inflation in Australia is mostly being driven by supply-side factors – the soaring global oil price and disruptions to supply chains during the pandemic that are pushing up the cost of building materials such as steel and timber.

But strong domestic demand and loose monetary and fiscal policy are also contributing.

Households can draw on other buffers to ride through the cost of living pressures. Savings rates are at historically high levels. Consumers have amassed more than $200 billion of extra savings during the pandemic, which can be deployed to help cope with the rising price of petrol, energy bills and food.

Moreover, most welfare recipients and pensioners will have their benefits indexed to the inflation rate or average weekly earnings.

To be sure, it is healthy that wage expectations are finally lifting in the tight labour market. Wage growth with a 2 in front of it is too low.

But the Fair Work Commission must be careful about the signal it sends to the broader labour market and the impact it has on inflation psychology.

The commission should adopt the Goldilocks principle by making sure wage increases are neither too hot nor too cold.

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