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Table of Contents

ECODATE

Volume 36 Issue 1 2022

ECODATE

Volume 36, Issue 1, 2022

How many people must be in jobs before wages go up?

Jolene Manford, Education consultant

The Phillips curve – more ‘fairy dust’ than ‘magical point’

Employment has rebounded quicker than anyone expected after the effects of COVID-19. Unemployment in Australia is now at its lowest since the GFC and the Reserve Bank of Australia is forecasting it to drop even further. But wages aren’t following suit. Meanwhile, inflation is rising. The Phillips curve assumes a relationship between unemployment, wages and inflation. It assumes a magical point where unemployment falls and wages rise, driven by inflation. But theory doesn’t always translate to reality, with many countries deciding not to use the curve for economic forecasting and labelling it outdated and irrelevant. Is it time Australia also confesses the Phillips curve is less magical point and more fairy dust?

Unemployment – can we reach a record low?

The most accurate measure of employment is often considered the proportion of the population aged 15 and over in work. In December 2021, Australia’s unemployment rate was reported at 4.16 per cent. This was only slightly higher than the historic low of 3.98 per cent in February 2008, just before the start of the GFC and when the mining boom was at its peak (the only time unemployment in Australia had dropped below 4 per cent since the 1970s recession). 

The 4.16 per cent unemployment level in December was a drop from a month earlier. According to labour economist for the Australian Bureau of Statistics, Bjorn Jarvis, this is because a record number of jobs (almost 65,000) were advertised between November and December, and many of those roles were filled. At the time, there was one job advertised for every 1.7 unemployed job seekers. In comparison, there was only one job for every three unemployed job seekers pre-COVID-19. If half the job vacancies currently advertised were filled by unemployed people, Australia’s unemployment rate would fall to 2.7 per cent. Therefore, it is not surprising that the Prime Minister and Reserve Bank Governor expect Australia’s unemployment to fall below 4 per cent in 2022.

Jobs galore – but it’s not smooth sailing

Chief economist at the Regional Australian Institute, Dr Kim Houghton, emphasises that the overall driver of these low unemployment numbers and rapid increase in job advertising is because the closing of international borders has drastically diminished the total size of the employment pool. Unemployment levels are not even across Australia, however. There is a lot of variation across regions, with some still at 7-8 per cent unemployment, and others (particularly in regional Australia) with unemployment under 2 per cent. 

A limited pool of job seekers creates challenges for employers. But for many inland rural locations, chronically small pools of job seekers are incredibly challenging and impact current employees; it ultimately means there is no room for employees to retire or leave the workforce. 

Figure 1: Job seekers may have their pick of jobs, but it’s not all good news 

Supply and demand – surely wages go up?

When something is in short supply, it’s meant to go up in price. But the current labour shortage isn’t triggering the basic rules of supply and demand. In fact, wage growth has been at its weakest in almost 100 years – an average annual increase of only 2.1 per cent. Wages are lagging well behind consumer prices, and real wages (accounting for inflation) are actually dropping.

Cost of living – at crisis point

According to the Australian Bureau of Statistics, last year consumer prices rose 3.5 per cent and wages just 2.3 per cent. Much of that pressure has been felt at the pump (a tank that used to cost $60 to fill, now costs more like $80). Food, power, other utilities, and daily expenses are also becoming increasingly difficult to afford.  

People on a full-time income are even struggling. According to Australian Council of Trade Unions president Michele O’Neil, in 2021, workers earning the average income of $68,000 effectively had a pay cut of $832.  

The situation is even direr for people who need to rely on government support payments. Tim Kennedy, national secretary for the United Workers Union, believes that the wage system in Australia is broken. He describes the wage system as an economic crisis, and the pandemic exacerbated already existing inequalities in Australia. Kennedy also maintains that the wage situation is not by accident but by design. Unless Australian workers are given the capacity to obtain a fair share in wages, then more people will fall back into unnecessary poverty. Chief executive of the Australian Council of Social Services, Cassandra Goldie, adds that we face a homelessness and housing affordability crisis as more people struggle to pay increasing rents. 

Price increases have surpassed the minor raises negotiated in the diminutive enterprise bargaining that is taking place. Compared to the 1970s and even a decade ago, we see a lot less negotiation of pay and conditions at both enterprise and industry level, with fewer wage strikes, union activity, and collective bargaining. Our desire for flexibility is partly responsible. Our work lives have shifted from standard 9-5 jobs to a mishmash of part-time work, casual work, and gigs. This flexibility means less secure employment, which has eroded workers’ bargaining power and weakened workers’ voices.

Figure 2: Almost record levels of unemployment, but workers are effectively getting pay cuts

Phillips Curve – a touchy topic

The Phillips curve is an economic model that assumes a relationship between unemployment, wages and inflation. The model is based on the premise that economic growth comes from inflation, and the reverse – with economic growth comes inflation, which should lead to more jobs and less unemployment.

The concept was named after New Zealand economist William Phillips, who spent most of his academic career as a professor of economics at the London School of Economics. The Phillips curve was first described in 1958 and is his best-known contribution to economics.

Figure 3: The Phillips Curve assumes that more people in jobs means higher inflation and higher wages in broad terms. Source: Economic Investigations

The magic point, but no miracles

The Phillips Curve assumes an estimated point of unemployment at which wages will rise. In other words, economists can predict a precise level or lowest rate of unemployment possible without causing wages to grow and inflation to rise.

Figure 4: The Phillips Curve assumes a predictable level of unemployment at which wages will rise. This point is the non-accelerating inflation rate of unemployment (or NAIRU). Source: Jim Stanford

This is called the non-accelerating inflation rate of unemployment (or NAIRU). The curve itself acknowledges that there isn’t a steep increase in wages as unemployment nears the estimated magic NAIRU. It accepts that the rise in wages will be gradual – hence the term ‘curve’ – and this gradual rise in wages allows policymakers time to guide the economy to a point on the Phillips Curve where wage growth is consistent with RBA’s inflation target. 

The Australian Government and the Royal Bank of Australia ascribe to the Phillips Curve (and NAIRU) concept, and it shapes Australia’s fiscal and monetary policies. Treasury recently calculated the NAIRU at 4.5-5 per cent.

Curved view of reality – a repeat of stagflation?

Theories don’t always translate to reality. The problem with the Phillips Curve is that the concept has been disproven. In the 1970s, the economy experienced ‘stagflation’ – there were high levels of both inflation and unemployment. The levels of unemployment and wages we are currently seeing would also disprove the concept. In fact, the Phillips Curve has been flattening since 2013 as the relationship between unemployment and wages is weakening.  

Many countries don’t ascribe to the concept as they believe there is no automatic relationship between unemployment and wages, and NAIRU is impossible to measure. The Phillips Curve has become a point of controversy among economists globally.

Workers are at the mercy of policymakers

Of course, a magical point along an economic curve does not determine how much people get paid. The market plays a big role, but ultimately people still make the decisions. There may be an economic pie, but how it gets distributed is still decided by government policies. 

These policies are critical. They distribute income across different groups of people with different occupations. They determine whether that distribution looks equitable or whether the incomes of some groups are increased while the incomes of others are not. While it seems like a job-seekers market, the reality is not as rosy. The gap between the minimum wage and the average wage has been widening over time, and income distribution is not fair. Average income earners struggle with everyday costs, but those on lower incomes feel the strain even more.

Figure 5: Low unemployment has not strengthened workers’ voices and wage-boosting policies are needed 

The reality is less about a particular point along an economic curve for low-income earners, and they have reached a point where deliberate wage-boosting policies are needed to win higher wages. Higher wages would not only take the pressure off household finances, but it would encourage consumer spending, which is better for the economy broadly. 

Perhaps it is time Australia accepts that the infamous Phillips Curve and NAIRU concepts are disconnected from reality. Everyday people are living in an uncertain economy, and for them, the point with the most certainty is the crisis point – which best describes the current situation.

Student activities

1. In your own words, define CPI and describe how high CPI might affect your everyday life, even if you are unemployed.

2. Define nominal wages.

3. Explain some of the limitations of defining unemployment the way that it is defined in this article.

4. Provide three reasons why current job vacancies may not necessarily be filled by people who are currently unemployed.

5. Research and plot on a line graph, the unemployment rates in Australia for each month starting from around one year before the COVID-19 through to now, and clearly show COVID-19 as an event.

6. Research CPI in Australia across the same time period and plot CPI in Australia on the same graph. In your own words try to explain the relationship between unemployment and CPI.

7. On a graph, plot the minimum wage and the average wage in Australia over the past 50 years.

8. Explain the different types of collective bargaining.

9. List and describe at least three challenges of extremely low unemployment on either small business owners, large companies, or government organisations.

10. Explain at least two advantages of more Australians paying tax instead of claiming JobSeeker.

11. In your own words, describe the impact that immigration and returning to freedom of movement might have on the Australian economy in terms of unemployment, wages and inflation. State whether your answer reflects the Phillips curve theory.

12. Select either ‘casual employment’ or ‘union membership’ as a topic and research how statistics have changed in Australia over the last 50 years.

Sources

Convery, S. 2022. ‘Even those on full-time incomes are struggling, while things are even tougher for people on government support payments.’ The Guardian.

Hannam, P. 2022. ‘Australia’s unemployment rate drops to lowest point in more than 13 years.’ The Guardian.

Martin, P. 2022. ‘Unemployment below 3% is possible – if Australia budgets for it.’ The Conversation.

May, N. 2022. ‘Unemployment drops in regional Australia but ballooning vacancies forecast bigger issues.’ The Guardian.

Stanford, J. 2022. ‘Why there’s no magic jobless rate to increase Australians wages.’ The Conversation.

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