July 3rd 2004

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Articles from this issue:

COVER STORY: NZ Labour legislates to effect 'same-sex marriage'

EDITORIAL: Free Trade Agreement's tilted playing field

ECONOMICS: Setting pay to create new jobs

NATIONAL AFFAIRS: Profile of Mark Latham's star new recruit

AGRICULTURE: Western farm subsidies rising, Australia's falling

OVERSEAS DEBT: Foreign debt grows as we live beyond our means

SAME-SEX COUPLES: Gays comprise 0.5 per cent of couples: parliamentary survey

FAMILY: Neurobiology says mothers play vital role

EDUCATION: The gender agenda

POLITICAL IDEAS: Distributism - the neglected tradition

COMMENT: The 'battlers' want jobs, not platitudes

EUROPE: New EU Constitution faces mounting opposition

STRAWS IN THE WIND : Moving the lounge chairs in the retirement village / Still picking up the pieces / Selective indignation

Flouting the law (letter)

Grameen Bank (letter)

Howard Government defended (letter)

Restoring Murray River communities' confidence (letter)

Reagan's wit (letter)

BOOKS: Target North Korea, by Gavan McCormack

BOOKS: An Imperfect God: George Washington, his slaves and the creation of America

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Setting pay to create new jobs

by John Ballantyne

News Weekly, July 3, 2004
Unemployment is a national scandal, yet neither of Australia's major political parties is prepared to acknowledge the true magnitude of the problem.

The Howard Government recently congratulated itself on supposedly getting joblessness down to a 23-year low of 5.5 per cent of the workforce (The Australian, June 11). Yet this figure has been challenged by the recent landmark study, Men and Women Apart: Partnering in Australia, by Dr Bob Birrell and his colleagues at the Monash University's Centre for Population and Urban Research.

The Birrell Report has shown that, of men aged 25-44, no less than 30 per cent lack full-time work, and some 17 per cent receive less than $15,600 a year.

A radical new approach to wage-fixing, however, could offer a way to create much-needed jobs for many of those willing and able to work.

Leading advocates

Such an approach has been advocated by two British economists - the late Professor James E. Meade (1907-1995), Nobel prize-winner of Cambridge, and Professor Richard Layard of the London School of Economics.

Both reject centralised pay controls as being bureaucratic and impractical. A national pay policy, they argue, is inordinately difficult to enforce and is especially problematic as a long-term solution for something as complex and subject to continual change as the labour market.

But they are also disenchanted with letting pay rates be subject to the unfettered operations of the marketplace. Unregulated capitalism, as Meade used to argue, abounds in inequalities and concentrations of economic power. In the sort of totally de-unionised and deregulated labour market dreamed of by the New Right, big corporations can all too readily exploit workers unfairly.

But where trade unions are too powerful, they can use their industrial muscle to win excessive pay rises for their members. And if employers, now forced to pay these wages, can no longer afford to hire as many workers as before, then a number of workers will inevitably be priced out of a job.

To solve these problems, Meade proposed an innovative system of decentralised pay arbitration, while Layard proposed a tax on excessive pay settlements.

These policies, working in tandem, would allow a considerable degree of pay flexibility across the economy, but at the same time discourage excessive pay outcomes. This would then enable government to stimulate the economy without fear of triggering off an inflationary wage-price spiral, and could therefore make a big dent in unemployment.

Meade proposed that pay settlements should take the form of "semi-compulsory arbitration". Most wage bargains freely negotiated would be sacrosanct, except in the event of a dispute between employers and employees. Either side could then refer the dispute to a statutorily-established and impartial pay tribunal.

The tribunal, in deciding on money wage awards, would at all times be obliged to take into account the rates of pay that the economy could actually afford. (Meade envisaged government ensuring a steady rate of growth in the total money demand for labour of, say, 5 per cent a year).

The tribunal would then decide in favour of whichever pay outcome - the employees' pay demand or the employer's pay offer - would best promote sustainable long-run output and employment in that particular sector of the economy.


In other words, it would grant a pay increase in any occupation, industry or region of the country where there was a scarcity of labour, and impose pay restraint (but never an actual pay cut) where there was an over-supply of labour (i.e., unemployment). Each side in a dispute would suffer sanctions if it failed to abide by the tribunal's decision.

For such a pay arbitration system to work effectively it is essential that it not collapse from being overloaded with too many disputes. To prevent this, Meade proposed that a pay tribunal should be restricted to making pay awards either in favour of the employers' last offer or in favour of the employees' last claim: it would not be allowed to split the difference.

This system of "pendulum" (or final-offer) arbitration would help encourage greater co-operation between the opposed parties in settling their disputes. As Meade said: "Each side would have to take care not to pitch its claim or offer too wide of what it thought the pay commission was likely to regard as the rate best suited to promote employment."

Such an arrangement, he hoped, would tend to draw outrageous claims closer to outrageous offers, thus encouraging moderation and the private settlement of pay disputes. It would be a considerable improvement on "splitting the difference" arbitration which tends to maximise disagreement (as has often been the case with the Australian Industrial Relations Commission).

It would also greatly simplify the task of the tribunal because it would be restricted to choosing between two ready-made sets of proposals instead of being required to work out its own detailed solution. This would expedite cases more swiftly and save tribunals from being tied up in too many technicalities.

Tax-based incomes policy

While the pay tribunals could be useful in resolving pay disputes between employers and employees, they would not have powers to intervene in any voluntary agreements between the two sides.

This, as Meade foresaw, could cause major problems in the event of collusive agreements between big employers and powerful trade unions to push up money wage costs and selling prices excessively.

To deal with this contingency, Meade proposed that the government exercise a special reserve power in the form of a tax-based incomes policy (TIP) - an idea developed by Professor Richard Layard.

At the beginning of each financial year the government would announce a precise limit to permissible rises in pay, based on what the economy could reasonably afford. It would set a guideline norm for annual pay increases to average, say, 5 per cent.

Wages across the economy would not of course increase uniformly at this rate. The 5 per cent average would be made up of pay rises ranging between, say, 2 and 8 per cent. Any pay rises up to the 8 per cent would be permissible, but any large firm which granted an average pay rise to its workforce beyond this upper limit would be penalised by a 100 per cent tax on every excess dollar paid.

To appreciate how effective a deterrent this tax penalty would be, it is necessary to remember that every $1 of excess pay would in effect cost the firm $2 (the excess pay itself, plus the same amount again in tax). Large firms would be discouraged from granting excessive pay increases and passing on the costs to consumers in the form of higher selling prices. Unions would be brought face to face with the relationship between pay rates and employment levels, and the likelihood that excessive pay demands could force a firm to lay off workers or even close its doors.

To comply with the scheme, a firm would be required to measure accurately the difference in its workforce's earning levels between one period and the next, adjusted for such things as overtime, part-time work and changes in numbers employed between periods. The final figures would effectively be a summary of changes in hourly earnings per employee.

The tax would be collected in quarterly instalments. The definition of pay supplied by firms to the tax office would be the same as for income tax. The employer would calculate his firm's average hourly earnings (averaged over all its employees) for the current quarter, and would then compare that figure with the corresponding figure in the same quarter of the previous year.

If his firm was liable for the anti-inflation tax in that quarter, he would send a cheque to the tax office.

Layard has proposed that the scheme's administration could be simplified if tax collection were confined to firms with over, say, 100 workers.

Larger concerns might, of course, seek to avoid tax by re-employing their workforce in smaller non-taxable labour-hire companies, each employing no more than 100.

Layard's solution to this would be to allow authorities - where they judged a firm was hiving off its skilled operations into a series of smaller firms - to impose a joint tax liability on the company and its subsidiaries, treating them as one employing entity.

Genuinely new firms would, of course, be exempted. Supervision and enforcement of the scheme would be much easier because of the relatively few firms under scrutiny.


The Meade and Layard approach to pay-fixing would have several beneficial effects for the wider economy. It would allow a healthy degree of wage flexibility, but within a framework of overall affordable wage outcomes.

With excessive pay increases effectively discouraged, employers would be better able to afford to hire new workers.

Overall pay restraint need not pose a threat to workers' expectations of a steadily improving standard of living. On the contrary, with more people on the payrolls and fewer on the welfare rolls, everybody would stand to gain.

The government would enjoy higher tax revenues, save money on unemployment benefits, and be able to pass on this financial windfall to all wage-earners in the form of tax cuts.

  • John Ballantyne is editor of News Weekly


Bob Birrell, Virginia Rapson and Clare Hourigan. Men and Women Apart: Partnering in Australia. Melbourne: Australian Family Association / Monash University: Centre for Population and Urban Research, 2004.

Richard Jackman and Richard Layard. "Innovative Supply-side Policies to Reduce Unemployment", in Patrick Minford (ed.), Monetarism and Macro-Economics. London: Institute of Economic Affairs, 1987. IEA Readings 26.

Richard Layard. More Jobs, Less Inflation. London: Grant McIntyre, 1982.

Richard Layard. How to Beat Unemployment. Oxford: Oxford University Press, 1986.

Richard Layard, Stephen Nickell and Richard Jackman. Unemployment: Macroeconomic Performance and the Labour Market. Oxford: Oxford University Press, 1991.

James E. Meade. Stagflation. Volume 1: Wage-Fixing. London: George Allen & Unwin, 1982.

James E. Meade. Wage-Fixing Revisited. IEA Occasional Paper 72. London: Institute of Economic Affairs, 1985.

James E. Meade. Full Employment Regained? An Agathotopian Dream, University of Cambridge Department of Applied Economics: Occasional paper 61. Cambridge: Cambridge University Press, 1995.

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