It's been a long time since Australian workers saw big pay increases and that's unlikely to change anytime soon

Ian Waldie/Getty Images
  • Australian wages growth has been sluggish for several years, even with a reduction in unemployment.
  • Part of this is explained by still-elevated levels of unemployed and underemployed workers despite strong employment growth.
  • The Australian economy hasn’t grown fast enough to reduce the pool of available workers to choose from.
  • One way to speed up this progress would be to run the economy a little hotter with additional fiscal or monetary stimulus.

If you’re looking for evidence that Australian wages are picking up, be prepared for disappointment, says ANZ Bank.

Despite unemployment recently falling to the lowest level since 2011, indicating that labour market conditions are tightening as the pool of available workers diminishes, it says annual growth in wages likely stalled in the first three months of the year.

“Following a 0.5% rise in the December quarter last year, we expect to see an increase of 0.6% in the March quarter which would maintain annual growth at 2.3%,” said Catherine Birch, Senior Economist at ANZ, referring to the release of Australia’s Wage Price Index (WPI) next Wednesday.

The WPI measures changes in hourly pay rates, excluding bonus payments.

Birch expects sluggish wage growth will persist throughout this year, or even slow, depending on outlook for unemployment.

“We are forecasting a gradual pick-up in wage growth to 2.4% by the December quarter,” she said.

“This is dependent on our expectation that the unemployment rate will track sideways at around 5%.”

“Any rise in the unemployment rate would stifle the slow progress that wage growth has made over the past couple of years.”

For those who have been in the workforce for while, especially those who were grinding away prior to the financial crisis, the notion that wage growth can be so weak when unemployment is, compared to other periods, relatively low, might come as a surprise.

However, as this chart from ANZ shows, the relationship between unemployment and wage growth has changed this decade, especially in recent years.

ANZ Bank

While it looks like something Mr. Squiggle came up with during a bad day at the office, it delivers a powerful message.

Whereas lower unemployment used to lead to higher wage growth, and vice versus, the relationship, known as the Phllips curve, has broken down over the past five years.

Unemployment has fallen but wage growth has remained weak, as Birch explains.

“Earlier this decade, an unemployment rate of around 5% was associated with wage growth of close to 4%, according to the Phillips curve,” she said.

“This relationship has changed drastically — the unemployment rate is back at 5% but wage growth is only 2.3%.”

So if low unemployment isn’t enough to boost wage growth meaningfully, what is?

Birch believe it’s elevated levels of underemployment that’s behind Australia’s low wage conundrum.

“We believe that a structurally higher underemployment rate is to blame. This has resulted in the unemployment rate becoming less reflective of spare capacity in the labour market,” she said.

“As underemployed workers are those that are actively looking and available to work more hours, they tend to be part-time workers.”

“Underemployed workers may be more likely to accept additional hours at their current wage rate, rather than push for a pay rise, restraining overall wage growth.”

This chart suggests Birch may well be on the money. It’s similar to the one presented above, only this one swaps out the unemployment rate for Australia’s underemployment rate.

ANZ Bank

Compared to prior periods, underemployment is high, fitting with the sluggishness in wage growth in recent years.

While there have been any number of reasons rolled out to explain why wage growth is so weak — lower union membership, technological advancements, globalisation, structural changes in the workforce, weak global inflation and strong immigration just to name a few — one major factor has been that economic growth has been sluggish.

And while it’s grown fast enough to generate plenty of jobs but not enough to make any substantial headway in reducing the proportion of unemployed and underemployed workers in the labor force.

Until that changes, Birch believes it will be a long time until wages are growing anywhere near the levels seen before the GFC.

“For wage growth to continue to improve, and for it to get anywhere near the long-run average over the longer-term, we see a sustained, material decline in the underemployment rate as the key requirement.”

Should wage pressures not pickup in the years ahead, it will make it difficult for the RBA to lift inflation back towards the midpoint of it’s 2-3% target.

Previously, RBA governor Philip Lowe suggested wages would need to grow around 3.5% per annum, coupled with a modest improvement in labour productivity, to get inflation back to this level and keep it there.

With underlying inflation measures currently growing at an annual rate of 1.6% or lower, and with wage growth only slightly faster at 2.3% per annum, such a scenario is looking a fair way off, and that’s putting it mildly.

While income tax cuts and a modest increase in real, inflation adjusted wage growth, will help to boost disposable income in the period ahead, whether that will be spent or save remains debatable given current weakness in the housing market.

If household spending doesn’t improve, it’s unlikely that economic growth will either given it accounts for just under 60% of GDP. And if economic growth remains sluggish, further progress in reducing unemployed and underemployed is also likely to glacial.

In order to speed this process up, the economy could do with a little additional stimulus, be it in the form of easier monetary or fiscal policy.

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