Boris Johnson’s vision for a high-wage economy is built on shaky foundations
The prime minister is right to point out Britain’s dismal record on pay. But his plan for driving up wages is an economic fantasy
In his speech at the Conservative Party conference this week, Boris Johnson declared war on the UK’s “broken” economic model. After a decade of stagnating wages, he pledged to transform the UK into a “high-wage, high-skill, high-productivity economy”.
The prime minister is right to point out Britain’s dismal record on pay. Real average weekly earnings – earnings after inflation is taken into account – are barely any higher today than they were in 2008. Following the global financial crisis, real wages suffered their longest sustained decline on record, and have begun to slowly regain ground only in recent years. For those at the lower end of the income distribution, who rely on benefits to support earnings, the situation is even worse: before the pandemic hit, real incomes for the lowest income households were no higher than in 2001-02, thanks to years of sustained welfare cuts.
In one sense, the prime minister’s assault on the UK’s economic performance is somewhat surprising. After all, it is his own Conservative Party that has been directly responsible for economic policy for the past decade. For years, Tory leaders have told us that their ‘long-term economic plan’ is working and that theirs is the only party that can be trusted with the economy. But now we are being told that the UK's economic model is in fact "broken".
More than anything else, it is the austerity imposed by Johnson’s predecessors that is the main culprit of the UK’s economic malaise. A wealth of empirical research has shown that it stifled productivity, held down wages and suffocated economic growth – leading some of even its most vocal advocates to acknowledge that it was a mistake. But instead of taking responsibility for the UK’s lost decade, the prime minister sought to blame Britain’s dire economic performance on a familiar bogeyman: “uncontrolled immigration”.
Following the prime minister’s success in curbing immigration after Brexit, he wants the country to believe that an unprecedented wage boom is just around the corner. At first glance, the official data would appear to support Johnson’s optimism. According to the Office for National Statistics (ONS), the annual growth of average weekly earnings is at a 20-year high. However, the UK’s statistical body is clear that the COVID-19 pandemic has meant that these figures present a misleading picture, for two main reasons.
The first is the impact of so-called ‘base effects’: because the UK experienced a dramatic decline in wages at the start of the pandemic, wages today are being compared to a very low baseline, resulting in artificially high wage growth. As a result, many headline economic statistics are likely to report double-digit 12-month percentage growth in coming months – not because the economy is really booming, but because the comparison will be with an historically low base period from a year ago.
The second reason is to do with ‘compositional effects’: the pandemic has resulted in significant job losses, most of which have been concentrated among lower-paid jobs. When the proportion of the workforce in low-paid jobs shrinks, average wages automatically increase – even without pay rises elsewhere. This mathematical quirk has further artificially inflated wage-growth figures. According to recent analysis from the Bank of England, underlying pay growth, after adjusting for both of these factors, is 3.3% – much lower than the official figure of 7.2% recorded in the official data in the three months to May, and nothing exceptional by historical standards.
The picture varies widely across different sectors, however. It is true that acute labour shortages in certain key sectors such as haulage – caused in part by new immigration restrictions as well as the COVID-19 pandemic – is forcing employers to offer higher pay for occupations like truck drivers. But these shortages are also having a negative knock-on impact on the wider economy, evidenced by long queues at petrol stations and empty supermarket shelves. The government’s gamble is that the current supply chain chaos is a price worth paying for the UK's transition to a “high-wage, high-skill economy”. But to say this is a risky strategy is a dramatic understatement, as it is based on a well-trodden economic fallacy.
If this is the government’s big idea for transforming the UK economy, we are in deep trouble
Labour shortages can and often do lead to pay rises for certain jobs in the short term. But because these rises are not due to an increase in the economy’s productive capacity or a general increase in labour's relative bargaining power (which would mean higher wages would come at the expense of lower profits), the likely result is that these will be passed on in the form of higher prices, leaving others worse off. With the price of essentials such as energy already soaring, further price increases will squeeze the poorest the hardest.
Moreover, the idea that lower immigration will boost wages rests on the assumption that the amount of work available in the economy is fixed. When the labour supply decreases via lower immigration, wages should rise, the argument goes, as there are now fewer workers competing for a fixed amount of work (and vice versa). But this ignores the fact that when migrants earn money, they spend it on goods and services, which in turn creates new demand and new jobs. Immigrants add to labour demand as well as labour supply, which means that overall the impact on employment and wages is broadly neutral.
In other words, the impact of lower migration on wages is a zero-sum game: pay may rise in some parts of the economy, but this will be largely offset by higher prices and lower overall output elsewhere. If reducing the labour supply really did provide a magical route to prosperity, economic policy would be spectacularly easy. If this really is the government’s big idea for transforming the UK economy, then we are in deep trouble.
Raising incomes is a noble aim. But if the government wanted to do this, there are far more effective ways of going about it. To start with, it could reverse its decision to cut Universal Credit and take more than £1,000 a year away from six million of the UK’s poorest households. It could end the pay freeze it imposed on public-sector workers after they had worked so heroically throughout the pandemic. It could increase the minimum wage to £15 an hour and abolish zero-hours contracts. It could invest directly in creating a new wave of high-paid, high-skilled green jobs to accelerate the net zero transition. And it could scrap some of the most restrictive trade union laws in Europe.
Instead of presenting a serious economic plan, the government is reverse engineering a new economic ideology to justify a crisis of its own making. That might be good politics, but it’s terrible economics. And it will be those who can afford it least who will suffer the most.
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