Does Collective Bargaining Cause Wage Inflation?
Industrial relationships have always been a complicated subject. Since the Industrial Revolution the relations of employers and employees were a subject of arising conflicts over working conditions, pay systems and wages. Poverty, high level of unemployment and lack of labour legislation pushed people into competition for working places consequently lowering the wages and holding the improvement of working conditions (Weber, 1961). However soon after Industrial Revolution first trade unions appeared. Those were associations of workers formed to assert their rights. They eased industrial relationships serving an intermediary between workers and employers. The primary purpose of such unions was maintaining rights and interests of labour force concerning the wages, working day length and conditions (Freeman and Pelletier, 1990). Negotiations concerning rights of employees, pay systems and working conditions which trade unions sign with employers are commonly known as collective bargaining (Stewart, 1987).
The term collective bargaining was first introduced by Sidney and Beatrice Webb during the late nineteenth century. They define it as a method whereby trade unions could maintain and improve their members’ terms and conditions of employment (Webb/Webb, 1920). Collective bargaining can also be defined as an institutionalised system of negotiation in which certain decisions affecting employment are decided within specialised, joint employer-trade union negotiating committees (Palmer, 1983). Trade unions and collective bargaining became a mean for workers to unite in the single task of elimination of competition between individual workers in a sphere of employment, therefore allowing keeping pay rates up. However this is not only the mean to influence labour market. Collective bargaining is often seen as stabilizing mechanism of relations between organisations, employers and trade unions. It serves not only as a method to determine pay rates and conditions, but also a mean to regulate conflicts between employers and labourers. These two aspects of collective bargaining are referred to as substantive terms and procedural terms. Substantive terms define pay rates, hour rates, holidays and other materialistic terms. Procedural terms define negotiation procedures to handle disputes over interpretation of substantive terms (Salamon, 2000).
Even though collective bargaining may be useful for workers in terms of protecting their rights and ensuring reasonable wages, it often can lead to negative outcomes.
In 1970’s in Britain trade unions were excessively exercising their powers in wage formation. Industrial actions were often practiced meaning to reduce productivity in a workplace. This lead to significant decrease in British economics and governmental actions were required to stop unions’ power to organise such industrial actions. Conservative government which came to office in 1979 needed to pay significant attention to industrial relations legislation as a mean to benefit country’s economy in a whole. Fundamental changes in the legal position of trade unions were required which would have affected the conduct of collective bargaining. Government understood that improvements in industrial relation were required for economic recovery of Great Britain. The government’s view was that trade unions have exercised their power in ways which negatively affected labour costs, productivity and jobs (Brown, Wadhwani, 1990). Really, trade unions tended to defend the interests of people they represented pushing up the wages without regard that their actions actually result in the increase of unemployment. Workers outside the unions were not interested in applying for jobs paid law in comparison to the wages produced by the actions of trade unions, preferring to use unemployment benefits (Hayek, 1973). Government was interested in legislation that would minimize the power of trade unions to increase wages so British government took actions to issue legislative acts decreasing the power of trade unions and resulting in decrease of wage inflation. Such legislative policy has been known for considerable success in benefiting country’s economy, yet it hasn’t yield the decrease in wage inflation as much as it was expected to. Wages inflation remained up to 7.5 per cent yearly from 1981 to 1989 (Brown, Wadhwani, 1990).
It would be reasonable to ask why increase in pays should be prosecuted by government. In fact rise in wages can be viewed from two perspectives. The first view is one of the worker, member of a trade union and one of the participants of collective bargaining negotiations, who is interested in increasing the earnings. However those negotiations are signed by two sides. The other side is an organisation (several organisations) which uses the labour force. For them increase in wages is a matter of wage inflation. The term ‘wage inflation’ came broadly into use in late 50’s when public became concerned with this issue. This term describes an increase in wages and other employment costs in excess of gains in output per working hour. Wage inflation is sometimes accompanied by price inflation, however only in certain conditions. Wage inflation importance in forming price inflation depends on the importance of labour costs in sales, trends in other costs and strength of demand. Whenever labour costs account for small percentage of the sales price its importance in forming creating price inflation is relatively small. However if labour costs is a large part of production costs then wage inflation will also push the price inflation.
For example many economists argue that inflation that occurred in Canada in 1970’s was also a product of wage-push (Green, 1976; Barber and McCallum, 1982). Ambitious working class empowered by the formation of trade unions which could affect labour management decisions demanded higher wages. This resulted in the short run in raise of cost production. Economists explain that in international economy, which allows foreign markets intrude in national economy, rising prices and wages will finally result in unemployment because market share will be lost to foreign producers (Smith, 1988). Effects of wage and price inflation however can be somehow regulated by government. If government is unwilling to tolerate unemployment it can use such measures as stimulating aggregate demand therefore validating the wage increases and price inflation (Towers, 1989). European experience of wage inflation is also a support to the theory of trade union being able to push wages resulting in overall inflation. That is the fact, that standard wage equations which incorporate measures of labour market conditions estimated for a number of European countries after the World War II up and up to the end of the 1960’s greatly under-predicted the observed rate of wage inflation in the early 1970s (Towers, 1989). Labour forces protected by trade unions and collective bargaining were able to keep up the wages in accordance to real wages while European countries have been facing escalating prices that were caused by the commodity price shocks of the after-war time (Traxler/Behrens 2002). Even when oil crises occurred in 1973 wage were kept up to real wages in spite of economical conditions which would usually lead to underpayment (Flanagan, Soskice and Ulman, 1983; Phelps Brown, 1983). Even deteriorating market conditions were not able to undermine trade unions capacity to protect real wages. This in fact made the situation with price inflation even worse (Towers, 1986). Moreover, Bruno and Sachs (1985; Sachs, 1979) argued that, in Europe, the consequences of income policies aiming to restrict the growth of real wages in the middle 1960’s was labour unions’ militancy to governmental actions which lead to the increase in real wages and empowerment of trade unions which strengthened the bargaining power and organised labour also. For real wages it resulted in their growth to the extent more than necessary to compensate for the after war losses and therefore it also resulted in wage inflation (Bruno and Sachs, 1985).
However there are also some arguments claiming that even though trade unions and collective bargaining may result in wage inflations it doe not necessarily lead to price inflation.
For example Friedman and Phelps (1975, 1970) argue that during inflation wages tend to fall behind. They reason their opinion by claiming that workers are less well equipped to monitor prices. In any organizations there should be a person in charge of monitoring supply prices. They drive the conclusion that consequently capitalists are well enough equipped to adjust the prices they charge fast enough in case their supply prices increase. Labour unions which consist of workers were not able to react as fast as organisations they work for to the supply prices. Friedman (1975) argues that trade unions usually fail to notice the increase of demand and adequately perform the collective bargaining. Even though in general wages will tend to increase under such circumstances; however the real wage will tend to fall. There is another argument concerning ability of collective bargaining to result in wage inflation. Phelps (1970) says that collective bargaining performed by trade unions is unable to provide adequate payment to its members as usually they sign contracts with employers for up to three years which ensures that while price inflation accelerates, wage inflation will not occur and will result in the fall of actual wages in comparison to real wages.
To explain the other reason why collective bargaining is not quite able to affect wage inflation it is important to consider the importance of trade unions in modern industrialised world. In the United Kingdom as well as in the world in a whole collective bargaining has been considered one of the most appropriate means to regulate worker’s terms of work and conditions. However since middle 1980’s collective bargaining has lost its positions. For almost 30 years now the importance of collective bargaining has been falling. In 1950’s collective bargaining has covered around 60 percent of the workforce, it decreased to around 30 percent by 1980’s and today it is less than 10 percent of the workforce that is covered by collective bargaining conditions. The main force resulting in such a trend which is visible in most of the industrialised countries is globalisation of the market. Internationalisation of product markets significantly diminished the importance of collective bargaining oriented on the national industry (Brown and Walsh, 1994).
The other reason why collective bargaining lost its importance over recent year is that government has always been against trade unions with their collective bargaining practices. Common law has always been hostile to such collective organisations because they were intended to regulate working conditions and wages, causing wage inflation without regard of its importance to national economy while restraining the trade and competitiveness of national products on the international market. Control of supply of working force by collective organisations has always been a threat to national industries while making the production processes a subject to trade unions’ dispositions (Brown, Deakin, Ryan, 1997). In late 1970’s in Great Britain it became generally accepted that collective bargaining and trade unions which do the bargaining are ‘powerful labour market monopolies’ which result in inflation and decrease in labour efficiency. They were perceived as opposition to free labour market and therefore needed to be oppressed. Thatcher government however was able to manage this issue and provided for decrease of trade unions’ power over labour market.
Coming back to the ability of collective bargaining to affect wage inflation process it is necessary to consider that under the conditions discussed above collective bargaining lost its positions in modern society and industrial relations. With less than 10 percent of the workforce depending on the collective bargaining negotiations it is reasonable to assume that trade unions must keep the compatible wages in order to remain in the labour market. Pushing up wages by trade unions will now leave union members thrown overboard by highly competitive labour market (Henry and Lee, 1997). Weakened trade unions now put less pressure on British wages, therefore reducing the unemployment and wholesome conditions for price inflation (Layard, 1991). The negative outcome of the decline in bargaining coverage would be increase of pay inequality in Great Britain. While usually pay inequalities are attributed to the globalisation tendencies and technical advancements in the United Kingdom they are also attributed to changes in national institutions. Since 1970’s when collective bargaining started taking less effect in working conditions and wages it became obvious that pay inequalities started growing. In fact inequality grew in such correlation with drop of trade unions’ control over workforce market in the UK that pay inequality was contributed to the negative outcomes of decrease in collective bargaining share on labour force market.
Across countries collective bargaining roles vary significantly (Schulten, 2005). In some countries (mostly in Western Europe) more power is given to employers justifying this by their ownership of resources needed for production (Crouch 1993). However bargaining functions in any country with market economy are ensuring social stability and peace, enhancing the efficiency of both employers and employees, and providing protection to the workers, defending their rights for fair treatment. In case bargaining process is satisfying both employers and employees it will result in increasing efficiency of employer organisations and ensuring social peace (Traxler, 1998).
First trade unions had in mind objectives described above, however they were not always able to achieve the goals set. With the raise of trade unions and start of collective bargaining being the major mean to negotiate contracts with employers such trade unions started making use of their power which lead to significant improvements in the workers’ conditions, however resulted in disfavour of employers and increase of wage inflations which supposedly could have caused both price inflation and unemployment.
Some argue that collective bargaining can cause wage inflation and this seems to be true when assuming that collective bargaining is a major mean of employment contracts negotiations. However in modern world collective bargaining is not a major mean to define relations of workers and employers. Therefore it probably can not be viewed as a wage inflator because of its inability to significantly influence industrial relations. This also means that collective bargaining is not able to result in price inflation and unemployment. In modern industrial relations collective bargaining most appropriately should be referred as ‘The great social invention that has institutionalised industrial conflict’ (Denny, 1992) or ‘a right which is, or should be, the prerogative of every worker in a democratic society’ (Denny, 1992).
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