Monday, 23 January 2012

(I) What has happened to incomes since the crash?

Paul Sweeney: This is the first of five posts examining trends in living standards in the past, present and the likely future. As we explore the polarization of incomes between the top and bottom, it is apparent that the fat cats are getting fatter. The phenomenon of the “squeezed middle” will also be examined. We will find considerable evidence that that the middle classes are indeed being squeezed in the Western countries. It will be seen that the younger generations in Ireland today are the first since WW2 which may not see its living standards exceed those of their parents - unless there is change. Finally, some remedies will be examined which might reduce income polarisation and make society more secure, equal, stable and dynamic.

Part 1 What has happened to Incomes Since the Crash?

The previous government tried to reduce workers’ incomes to improve “competitiveness”. Because there could be no devaluation, as we are in a single currency area, the Eurozone, it tried an experiment in Internal Devaluation. Unlike a regular devaluation of a currency where virtually everyone, bar exporters, suffers somewhat equally, only employees would suffer under the Green Party/ Fianna Fail plan. Happily, it will be seen that this strategy failed.

Had it worked, the recession would be even worse. It would have sucked more demand out of the economy. It would also have been inequitable, transferring part of employees’ incomes to employers. And with demand down, most employers would not have re-invested the surplus.

Irish domestic demand has plummeted by 25 per cent in just four years, leading to many closures and job losses. Irish wages of the 1.5 million employees (of whom over one-fifth only work part time) totaled €68bn last year, down from a peak of €75.5bn in 2008. And it will be even less this year. Most of the decline was due to the fall in employment and in hours worked.

The biggest hit on living standards since the Crash of 2008 has been on the vast numbers – over 300,000 - who lost their jobs; followed by many who are discouraged workers and would like to work; and the many who are under-employed. The crisis has also engendered great insecurity.

Since the Crash of four years ago, the incomes of most remaining workers – well over one million employees - have not fallen, but have been stable. A key reason why there has not been more anger on the streets against the Austerity Programmes over the last three years is this fact - that the incomes of the vast majority workers who retained their jobs and that was most of them, have been reasonably stable since beginning of the Crash of 2008, and for some, incomes actually rose slightly in real terms.

This stability in incomes followed a massive rise in incomes during the previous two decades. Disposable incomes doubled in the 20 years of Irish Social Partnership from 1987.

The 20 year boom included a superb economic performance during the Celtic Tiger period which morphed into the bubble during the McCreevy/Cowan era. There were four phases, (each lasting seven years) of the Celtic Tiger Era. The first seven years was “Takeoff”, with social solidarity but “jobless growth” from 1987 to 1993.

Between 1994 to 2000 inclusive, Ireland’s economy performed extraordinarily well. This was the real “Celtic Tiger” phase of sustainable growth and progress.

The “False Boom” / “Bubble” period was the next seven years, 2001 to 2007. It was the ideology of ultra free-market economics which led to the Bust worldwide and especially in Ireland, where McCreevy implemented these ideas in an extreme fashion, with tax-shifting, direct tax cuts, deregulation, no regulation and privatisation.

We are now in the fourth phase which is “Bust and Recovery”. This may be another seven years period 2008 to 2014. However, if we - our government, employers, unions and all do not get it right and if the EU does not pull its act together, the Recovery part will take longer. Today, seven years looks too short. It now seems that Ireland is highly unlikely to recover to our 2007 levels of national income until around 2018-21.

Recovery certainly does not look as if it is happening, due a) to the inability of the EU to act, b) to the continuing worldwide recession and c) the severity of the Austerity programme at home.

Irish living standards doubled in the first three phases of the Tiger years, in less than 20 years. This was a remarkable improvement in living standards for average workers. This doubling of incomes was unique worldwide, particularly as it coincided with a doubling in employment too. It must be noted that incomes continued to rise during the Bubble period 2001 to 2007.

What has happened to incomes since the crash in 2008? The weekly incomes of all workers saw no change since the beginning of the Crash in Q1 2008 to Q3, 2011 (CSO). However, as there was deflation - prices fell in part of this period - most workers had a small real rise in incomes. Hourly earnings rose by a little more in the period, giving a real rise in the period of almost four years.

The figures vary if different categories of workers and different periods are taken, but overall, the average employee saw no fall in real incomes from the beginning of 2008 when the Crash began. For some workers, in the export and other dynamic sectors, there have been small wage rises of around 2 per cent.

This relative stability in real incomes since the Crash of 2008 is one factor contributing to the explanation of why there has been no rioting in Ireland. It has also been extremely important in ensuing that the terrible collapse in domestic demand – of one quarter in less than four years – was not worse. This is because averagely paid workers generally spend most of their incomes.

Labour market experts know that nominal wages and salaries are like a ratchet. They go up or stay still, but seldom fall. They only fall in very exceptional circumstances.

The real losers are those who have lost their jobs. A total of 352,000 lost employment between Q1, 2008 and Q3 2011. This includes many self-employed who have also lost their work, with many now substantially underemployed. Other big losers are all public servants who had their earnings reduced by an average of 14 per cent.

If we now move to the division of the national cake, National Income, we see that there has been a major shift in the share of the national cake, worldwide. This shift has been from labour to capital over the past two decades.

While Ireland has seen a partial reversal of this trend in the past few years, with a shift in some more national income back to employees, their share is still well below that in most countries. However, at 63 per cent in 2011, labour’s share of national income in Ireland is below that of Germany (68.3%), UK (71.3%), or even the US (64.3%).

Some Irish economists actually argue that shifting income from employees to employers will improve Irish “competitiveness”. They have argued for cutting wages in the hope that firms will then make more money which means they become more profitable, and then they may invest. But why would any firm invest when the biggest problem facing them is the huge fall in domestic demand?

Most importantly, this “wage competitiveness” argument ignores the real driver of increased incomes for all, which is productivity. Merely shifting national income from the 1.5 million employees in Ireland to employers, particularly when the employees’ share is low compared to most other countries, is both regressive and will not work.

Productivity is the key to continuing economic success, provided its rewards are shared equitably. After falls in productivity, it is rising rapidly having risen by a substantial 5 per cent last year, on top of rises in previous years. The fall in Irish unit labour costs has been around 15 per cent over the past four years compared to under 6 per cent in the Eurozone. The decline of low productivity sectors like construction and services (including the public) has contributed, as has the growth in the high sectors such as the foreign owned export sector. The lower wage rises here than in Europe in recent years have also contributed (to a lesser degree than the decline of low productivity sectors) to the improvement in unit labour costs. Thus unit labour costs here have fallen very substantially compared to competitors since 2008. But, where are the jobs?

While Irish wages have risen over the past twenty years, total labour costs are 12th in OECD, at $49,830 a year, well below Germany and Belgium at over $61,000 and UK at over $59,000. Irish productivity suffered during the boom, but has since recovered. It is amongst the highest in the world. Ireland’s public service was already small by international standards before the crash and the current reform should improve overall productivity.

However, it will be seen that there is the chilling prospect that the majority of Irish workers may not see any rise in their living standards or real incomes for a decade or more. Prolonged stagnation in earnings could also happen here. It has already begun. It has happened in the USA. The American Dream is dead. US workers have seen no real increase in earnings since 1975. The middle class was squeezed in many developed countries over the past decade and a half. Ireland was an exception to this trend. More recently, wages have stagnated in Germany for a decade till recently (one key reason for the lack of demand there).

In the next post, it will be seen that rises in Irish living standards may be ending, even after recovery. This is because of major external trends. Our young may be the first post-war generation not to achieve a higher standard of living than their parents.


Shoe said...

Thats an interesting point, but I think it misses a small few things:

1. the biggest losers are not so much those who lost jobs or had wages cut, but those who never had jobs at all. Our high welfare replacement rates means that anybody who previously earned less than than 35k would have a very high replacement rate, which disincentivises them to look for work especially in a hostile market. However younger people coming into the job market for the first time are hit by massive welfare rate cuts AND the vanishing of entry level work. They cannot replace earnings as successive governments have cut their cash payments and they frequently don't qualify for the additional "perks" like rent supplement or medical cards because of parental incomes. The "losers" so are not so much the 30-40 somethings but the under 25s.

2. Job losses have been catastrophic, I agree, but we know that a hard core 20% of those who are laid off do go on to find work. Certain sectors have seen a lot of "churn" and changes to their business models: IT is a perfect example. I was laid off alongside 30 or so colleagues 2 years ago and a surprising number, including myself, have not just done significantly better, but made massive gains in income. However some of this has come at the expense of security as for some of us, its been a move to contracting that made the difference. However its hard to complain about a 70% income rise in under 2 years.

3. The one group who I admit will suffer more than any other are low skilled manual labourers who were dependent on the construction sector, as they often entered not because of good pay and opportunities but lack of barriers to entry (for example poor literacy was less problematic for such workers, but would be a huge barrier to any kind of work now). A similar situation exists for low skilled migrants with poor language skills who face similar barriers.

Lastly, a lot of those who have not lost income may actually end up benefiting if they wind up paying less for housing over time - but that is yet to happen and dependent on credit.

paul sweeney said...

Interesting comments and well done on the 70% pay rise! But as you say yourself it is an insecure life. If I read into it that you are young, you do need a reasonable level of job security if you are "settle down" or just have the feeling of security, which all need. You are one of the "precariat" which is a growing group in most western societies though not all. Our societies are wealthy enough and competitive enough not to have to generate insecurity among its workers.

We could debate who is worst hit by the recession - young who never had jobs or those who had and have debts and lost their jobs and so on...