Magazine article International Productivity Monitor

Executive Summary

Magazine article International Productivity Monitor

Executive Summary

Article excerpt

In the long run, the most direct mechanism by which labour productivity affects living standards is through real wages, that is, wages adjusted for changes in the cost of living. Economic theory holds that at the aggregate level the growth of real wages are determined by labour productivity growth, a relationship mediated by the labour's share of output and labour's terms of trade (the price of output relative to the price of goods that workers consume). Neither increases in the labour share nor labour's terms of trade are likely to be a sustainable way of raising real wages because they fluctuate within fairly narrow bands. Only labour productivity growth can raise living standards in the long run. If short- and medium-term changes in the labour share or labour's terms of trade mean that Canadians are not benefitting from higher labour productivity in the form of higher real wages, then why should they support policies to increase labour productivity growth?

The release of data from the 2006 Census has sparked debate over the causes and consequences of the finding that median earnings of individuals working full time on a fullyear basis barely increased between 1980 and 2005. Adjusting for inflation, annual earnings increased from $41,348 to $41,401 (in 2005 constant dollars), a mere $53 over 25 years. Over the same time period, labour productivity in Canada rose 37.4 per cent. If median real earnings had grown at the same rate as labour productivity, the median Canadian full-time full-year worker would have earned $56,826 in 2005, considerably more than the actual $41,401. These facts do raise an interesting and important question that this report seeks to answer: what accounts for the divergence between the growth of labour productivity and the growth of real wages?

Framework and Measurement

Economic theory offers a useful toolkit for analyzing the relationship between labour productivity and real wages. In a simple economic model, the relationship between labour productivity growth and the growth of product wages (labour compensation per hour worked, deflated with an output price deflator) is mediated by changes in the share of national income going to labour. If the labour share remains constant, growth in labour productivity should be reflected proportionally in growth in product wages. The relationship between labour productivity growth and the growth of consumption wages (wages deflated with the consumer price index) is mediated not only by changes in the labour share, but also by changes in the relative prices of output and consumption goods, that is, labour's terms of trade.

Yet, the relationship between labour productivity and real wages is fraught with conceptual, definitional and measurement issues. The theoretical relationship between real wages and labour productivity is a relationship between the total compensation paid to labour and labour productivity. Therefore, when comparing the growth of real wages and labour productivity, it is important that the measure of wages be exhaustive, which means it should particularly include supplementary labour income which encompasses employer contributions to pension plans (private or public), supplementary health benefits, employment insurance (EI) and worker's compensation. Since 1961, supplementary labour income has become increasingly important for Canadian workers, rising from 5 per cent of labour income in 1961 to 13 per cent in 2007.

Since growth in both labour productivity and real wages are real, that is, inflationadjusted concepts, how current-dollar or nominal estimates of labour compensation are converted into constant-dollar or real values is a significant issue. The growth of consumption wages (nominal wages deflated by the CPI or another consumption deflator) is more directly relevant to living standards than the growth of product wages (nominal wages deflated by the GDP deflator, but is less directly linked to labour productivity growth because of the effects of the terms of trade for labour, that is, the differences between the prices for the goods that workers produce (overall GDP) and the goods that they consume (the basket used to construct the CPI). …

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