Why have wages stagnated under the last coalition and conservative governments (and why that might continue under labour)

 

The focus of this blog is what happened to real wages under the last coalition and conservative governments and why. I begin in Figure 1 by showing just how dire were economic outcomes for earnings under these governments. In 2023, the year before the election, real average earnings (that is average earnings using 2019 prices) were the same as they were in 2010, the year the coalition of the conservative and liberal democratic parties took office. As the graph in Figure 1 shows his was true for all workers as well as for those working in the private sector. This failure of earnings to rise over the time of these governments is only part of the problem we need to explain. As Figure 1 shows there was a sharp fall for average weekly earnings for both all workers and for private sector workers from their peak in 2008 to 2014. A fall of 10 per cent for all workers and of 11% for the private sector.

Figure 1

Figure 2

 The pattern shown in Figure 1 is quite different from any pattern for real average earning in the period since the Second World War as we can see in Figure 2. In that Figure I mark the recessions that have occurred since the war, defined as falls in total GDP. There were modest falls in real earnings during  the 1979 and 1991 recessions while there was no effect for the 1981 recession. The picture shown in Figure 2 is of a steady rise in real earnings brought to a rather dramatic end at the time of the financial crisis in 2007/2008.

The data shown in Figure 2 is for all workers as I do not have a long run of data for private sector workers. So, what can explain the fall in earnings for all workers in the period after the financial crisis? To answer that question, we need to step back and ask what does determines real earnings. The answer is the productivity of those workers. In the long run the only way real earnings can rise is if labour is more productive in the sense that labour produces more output per hour. In Figure 3 I show how output (measured as gross value-added) per hour worked has grown since 1970, the first year for which this data is available from the ONS. To ensure we can compare productivity, which is per hour worked, with real earnings I show real hourly earnings also in Figure 3. The pattern for real hourly earnings is virtually identical to that for the weekly earnings Figure shown in Figure 1 and 2.

 

Figure 3  Productivity and Real Hourly Earnings

As with real earning the data show a sharp break in the pattern of productivity growth with, not a fall, but a marked slow down in growth after the financial crisis. Now that can happen in various ways of which the skills the labourer has is one. What I want to focus on here is the amount of capital labour has to work with. The reason for such a focus is that the skills of the workforce change slowly and what we see in Figure 3 is a very marked deceleration in the growth of productivity.

So, our question can be reframed as: Can the pattern of the change in productivity and real hourly earnings be linked to changes in the amount of capital services to labour hours? The ONS provide data for the market sector of the total capital services available and the total hour worked where an allowance is made for what the ONS terms the quality of the labour force. In Figure 4 I show both the ratio of capital services to labour hours from 1970 to 2022 and, again, real hourly earnings until 2023.

It is very clear from the data shown in Figure 4 that the financial crisis, starting in 2007, led to a marked fall in the capital labour ratio coinciding with the fall in real hourly earnings. For both real hourly earnings and the capital labour ratio not only did the steady rise which had occurred in both series from 1970 to 2007 abruptly cease but, by 2022, had not just recovered to the level in 2010. If we want to understand the causes of stagnating real hourly earnings then the failure of the economy to provide a rising volume of capital services for labour is clearly one possible part of the explanation. As a first step to understanding what is going on in the decline in the capital labour ratio, I plot in Figure 5 the volume of capital services and labour hour works separately.

What is striking in Figure 5 is that the patterns of the growth in the services of capital and labour hours have changed markedly in the period after the financial crisis. In the period from 1970 until the financial crisis there were fluctuations in the supply of labour but no trend. The fall in employment in the 1970s and early 1980s were caused by the recessions of 1979 and 1981. In the period after that there was a period of recovery brought to an end by the 1991 recession to be followed by a shallow recovery. The financial crisis did lead to a sharp fall but, from 2010, the start of the coalition government, the supply of labour rose sharply.

Figure 4 The Capital Labour Ratio and Real Hourly Earnings

Figure 5 Labour hours and capital services trends

 

In my last blog entitled ‘The UK’s Employment Miracle Post the Financial Crisis’ I noted that the employment growth, which is summarised in the hours worked shown in Figure 5, included employment growth for both men and women and for full and part time work. What Figure 5 shows is that this growth in employment after 2010 exceeded the growth in capital services. While slowing growth in capital services was part of the reason for the fall in the capital to labour ratio another part was the rapid growth in labour supply.

 

The picture painted by the Figures shown above is one where there were major changes in the patterns of both real earnings and productivity following the financial crisis. The falls in both were unprecedented and in 2015 the level of real earnings reached its lowest point after 2010, the same level as a decade earlier. The referendum to leave the EU in 2016 was held against this backdrop of falling real earnings. If the analysis presented above is correct the EU was not the problem but the real problem was the domestic failure to ensure growth in the amount of capital labour had to work with. Unless that changes the period of stagnating real earning under the coalition and conservative governments will continue under the current labour one.