The classic explanation of how a free labour market allocates people to jobs most effectively sees movements in wages as signalling fluctuations in the demand for and supply of labour.
Without interference from the government or powerful monopolistic trade unions, a labour shortage in a particular industry or occupation causes an increase in wages in this field. This motivates employers to use expensive labour more effectively, boosting productivity, and attracts workers from other fields where their output is less highly valued. Conversely, an excess supply of a particular type of labour leads to a fall in wages. This encourages workers to move out of this activity to areas where their work is more highly valued.
Attempts to set non-market clearing wages – by governments, trade unions or what Harriet Harman calls “the court of public opinion” – lead to lower productivity as people remain in areas where they’re poorly rewarded; slower growth as enterprise is discouraged; unemployment for those whose wages are set too high; and a host of other ills.
Critics of the market argue that the UK is an exceptionally unequal society.
But it isn’t: taking measures such as the Gini coefficient, we are about as unequal as Italy, Ireland and New Zealand and considerably less unequal than the USA – which is of course virtually a continent poorly disguised as a country. While it is true the UK pay distribution widened in the 1980s and early 1990s, since then it’s been broadly stable.
The widening which occurred after the 1970s was influenced by a range of factors such as increased globalisation and the communications revolution (which internationalised the market for top executives, academics, entertainers and sports stars), increased competition and deregulation, and the decline of trade union power. These factors were in turn associated with wider choice for consumers, more opportunities for jobseekers and fairer remuneration for groups who were previously excluded from markets or had their pay suppressed.
Nor is it the case that people at the bottom of the pay distribution suffered particularly: in absolute terms the pay of the lowest decile of earners has risen, albeit modestly, since the 1980s. Meanwhile many more jobs have been created than in other comparable countries where pay has been more tightly regulated. This is an important point, for poverty in the UK is associated with not having work to a far greater extent than being badly paid when in work.
We would be daft to turn the clock back, even if the current fad for job evaluation (particularly in the public sector) masquerades as an attempt to modernise pay structures. This is in the name of “equal pay for work of equal value” which the EU has as its objective. Despite the pseudo-scientific trappings of job evaluation, which aims to classify all jobs in terms of a points system based on a limited number of attributes and use this as a basis for pay, it is really a version of the 19th century labour theory of value.
By denying a role for market forces in determining pay for groups of workers, and for individual performance within pay grades, job evaluation schemes create distortions and inefficiencies. They usually accrete strange devices such as “market supplements” and “golden hellos” together with grade inflation such as that which led Moscow authorities – which ran such a system in the 50s and 60s – to reclassify secretaries as office managers to overcome shortages of typists.
The market for labour has never been universally popular, but left to itself it works reasonably effectively, certainly much better than other potential systems. A couple of years ago a Joseph Rowntree Foundation study pointed out that, as many as 75% of the population thought that people at the top are paid too much (and, admit it, many reading this will have their own betes noires, from Fred Goodwin to Jonathan Ross to Rio Ferdinand). But interestingly, despite this, less than 30% thought that the government should do anything about it. The task of classifying 29 million employed people is too difficult, the public’s preferences are too inconsistent, and the temptations for politicians to meddle to support their own prejudices are too great.
As Hayek once put it “though a great many people are dissatisfied with the existing pattern of distribution, none of them has really any clear idea of what pattern he would regard as just”.
Leave pay to the market. You know it makes sense.