Wages and The Distribution of Income

Wages and the
Distribution
of Income
Labour Market Trends
■ Sectoral shift
✜ from agricultural and manufacturing to
service-sector employment
Employment in different sectors of the UK economy
20 Agriculture
Mining, energy and construction

Manufacturing
15
Services
Millions
10
0
1890 1900 1910 1920 1930 1939 1950 1960 1970 1980 1990 2003
20 Agriculture

Manufacturing
15
Services
Millions
10
0
1890 1900 1910 1920 1930 1939 1950 1960 1970 1980 1990 2003
20 Agriculture

Manufacturing
15
Services
Millions
10
0
1890 1900 1910 1920 1930 1939 1950 1960 1970 1980 1990 2003
20 Agriculture

Manufacturing
15
Services
Millions
10
0
1890 1900 1910 1920 1930 1939 1950 1960 1970 1980 1990 2003
20 Agriculture

Manufacturing
15
Services
Millions
10
0
1890 1900 1910 1920 1930 1939 1950 1960 1970 1980 1990 2003
■ Sectoral shift
■ Rise in part-time employment

The growth of part-time employment in the UK
30,000
Total employment
28,000
26,000
24,000
22,000
20,000
18,000
16,000
14,000
12,000
10,000
8,000
6,000
4,000
2,000
0
1984 1986 1988 1990 1992 1994 1996 1998 2000 2002
30,000
Total employment
28,000
26,000
24,000
22,000
20,000
18,000
16,000
14,000
12,000
10,000
8,000
6,000
4,000
2,000
0
1984 1986 1988 1990 1992 1994 1996 1998 2000 2002
30,000
Total employment
28,000
26,000
24,000
22,000 Full-time employment

20,000
18,000
16,000
14,000
12,000
10,000
8,000
6,000
4,000
2,000
0
1984 1986 1988 1990 1992 1994 1996 1998 2000 2002
30,000
Total employment
28,000
26,000
24,000
22,000 Full-time employment

20,000
18,000
16,000
14,000
12,000
10,000
8,000 Part-time employment

6,000
4,000
2,000
0
1984 1986 1988 1990 1992 1994 1996 1998 2000 2002
■ Sectoral shift

■ Rise in female participation rates
■ Sectoral shift

■ Rise in temporary employment
■ Sectoral shift

■ Rise in temporary employment
■ Downsizing
Wage Determination in a
Perfect Market
■ Perfect labour markets
✜ everyone is a wage taker
✜ freedom of entry
✜ perfect knowledge
✜ homogeneous labour
■ Market equilibrium
A labour market: whole market
Sall workers
in the market
Hourly wage
Wm
Dall firms
in the market
O
Labour hours
Hourly wage A labour market: individual employer
Slabour
Wm
Dindividual employer
O Q1
Labour hours
A labour market: individual worker
Sindividual worker
Hourly wage
Dlabour
Wm
O Q2
Labour hours
Perfect Market
■ The supply of labour curve
✜ why upward sloping
✜ the position of the supply curve
✦ the number of qualified people
✦ non-wage benefits
✦ desirability of alternative jobs
■ Elasticity of supply of labour

✜ the mobility of labour
Perfect Market
■ The demand for labour: marginal
productivity theory
✜ the profit-maximising approach
✜ the marginal cost of labour (MCL)
✜ the marginal revenue product of labour
(MRPL)
Marginal physical product of labour curve
x
Diminishing returns
set in here
Output
MPPL
O
Q of labour
Perfect Market
productivity theory
(MRPL)
✜ the profit-maximising level of employment
for a firm
The profit-maximising level of employment
£
MCL= W
Wm
MRPL = MPPL × Pgood
MRPL
O Qe
Q of labour
Perfect Market
productivity theory
(MRPL)
✜ the profit-maximising level of employment
for a firm
✜ derivation of the firm’s demand curve for
labour
Deriving the firm’s demand curve for labour
£
a
W1 MCL1
b
W2 MCL2
c
W3 MCL3
Profits maximised
where MRPL = MCL
MRPL
O Q1 Q2 Q3
Q of labour
Deriving the firm’s demand curve for labour
£
a
W1 MCL1
b
W2 MCL2
c
W3 MCL3
The MRPL curve traces

out the demand curve
D
O Q1 Q2 Q3
Q of labour
Perfect Market
■ Wages and profits under perfect
competition
Wages and profits
£
Surplus for firm

MCL = W
W
Wages
MRPL
O Qe
Q of labour
Wage Determination in
Imperfect Markets
■ Power in labour markets
■ Firms with monopsony power in
employing labour
✜ MCL > W
Monopsony
£
MCL
ACL ≡ W
(supply curve)
MRPL
O
Q of labour
Imperfect Markets
employing labour
✜ MCL > W
✜ effects on wages and employment
Monopsony
£
MCL
ACL ≡ W
(supply curve)
W2
W1
MRPL
O Q1 Q2
Q of labour
Imperfect Markets
employing labour
✜ MCL > W
■ Unions with monopoly power
Imperfect Markets
employing labour
✜ MCL > W
✜ unions facing competitive employers
Imperfect Markets
employing labour
✜ MCL > W
✜ unions facing competitive employers
✜ effects of wage increases on employment
Monopoly union facing producers
under perfect competition
£
S
W1
O Q1 Q of labour
Monopoly union facing producers
under perfect competition
£
S
Unemployment
W2
W1
O Q2 Q1 Q3 Q of labour
Imperfect Markets
■ Bilateral monopoly
✜ no unique equilibrium
✜ relationship between wages and
employment
Bilateral monopoly
£ MCL1 S1 (=ACL1)
Monopsony:
no union
n
ion
o
uni
No un
o
N
W1
MRPL
O Q1 Q of labour
Bilateral monopoly
£ MCL1 S1 (=ACL1)
x
W2 MCL2 = ACL2
Bilateral
monopoly
n
ion
o
uni
No un
o
N
W1
MRPL
O Q1 Q3 Q of labour
Bilateral monopoly
£ MCL1
x
W2 MCL2 = ACL2
Wage can rise

to W2 with no fall
in employment
W1
MRPL
O Q1 Q of labour
Bilateral monopoly
£ MCL1
x
W2
W3 MCL3 = ACL3
Wage can rise

from W1 to W3
and employment
W1 rises to Q2
MRPL
O Q1 Q2 Q of labour
Imperfect Markets
employment
✜ collective bargaining
Imperfect Markets
employment
✦ union threats and promises
Imperfect Markets
employment
✦ employers’ threats and promises
Imperfect Markets
employment
✦ employers’ threats and promises
✦ role of the government
Imperfect Markets
■ The efficiency wage hypothesis
✜ higher wage rates may lead to higher
productivity
✦ less “shirking”
✦ reduced labour turnover
✦ self-selection
✦ morale
Imperfect Markets
■ Flexible labour markets
✜ the flexible firm
✦ functional flexibility
✦ numerical flexibility
✜ types of workers
✦ core workers
✦ peripheral workers
The flexible firm
The flexible firm
Core group
Primary labour
market
Functional
flexibility
The flexible firm
First peripheral group

Secondary labour market
Numerical flexibility
Core group
Primary labour
market
Functional
flexibility
Self-employment
The flexible firm

Core group
Primary labour
market
Functional
flexibility
Self-employment
The flexible firm

Core group
temporaries
Primary labour
Agency
market
Functional
flexibility
Self-employment
The flexible firm

Core group
temporaries
contracting
Primary labour
Agency
Sub-
market
Functional
flexibility
Self-employment
The flexible firm

Core group
temporaries
contracting
Primary labour
Agency
Sub-
market
Functional
flexibility
Increased
outsourcing
Self-employment
The flexible firm

Core group
temporaries
contracting
Primary labour
Agency
Sub-
market
Functional
flexibility
Se
p
ou
co
nd
gr
peripheral
Increased
outsourcing
Self-employment
The flexible firm

Core group
temporaries
contracting
Primary labour
Agency
Sub-
market
Functional
flexibility
Se -
Sh m
p
ou
co
co
ter acts
ort
nd
gr
ntr
peripheral
Increased
outsourcing
Self-employment
The flexible firm

Core group
temporaries
contracting
Primary labour
Agency
Sub-
market
Functional
flexibility
Se -
Sh m
p
ou
co
co
ter acts
ort
nd
gr
ntr
Pu peripheral
Su blic
Tra bsid
ine y
es
Increased
outsourcing
Self-employment
The flexible firm

Core group
temporaries
contracting
Primary labour
Agency
Sub-
market
Functional
flexibility
Se -
Sh m
p
ou
co
co
ter acts
ort
nd
gr
ntr
Pu peripheral
Su blic
Tra bsid
ine y Delayed
es
recruitment
Increased
outsourcing
Self-employment
The flexible firm

Core group
temporaries
contracting
Primary labour
Agency
Sub-
market
Functional
flexibility
Se -
Sh m
p
ou
co
co
ter acts
ort
nd
gr
ntr
Pu peripheral
Su blic b
Tra bsid Jo ing
ine y Delayed h ar
es s
recruitment
Increased
outsourcing
Self-employment
The flexible firm

Core group
temporaries
contracting
Primary labour
Agency
Sub-
market
Functional
flexibility
Se -
Sh m
p
ou
co
co
ter acts
ort
tim rt
nd
gr
ntr
Pa
e
Pu peripheral
Su blic b
Tra bsid Jo ing
ine y Delayed h ar
es s
recruitment
Increased
outsourcing
Imperfect Markets
■ Flexible labour markets
✜ the flexible firm
✦ functional flexibility
✦ numerical flexibility
✜ types of workers
✦ core workers
✦ peripheral workers
✜ implications for the distribution of income

Causes of Inequality
■ Inequality in the UK
✜ income distribution before and after taxes
and benefits
Size distribution of UK income by
quintile group of households: 2001/2
Bottom
20%
Next 20%
4%
9%
Middle
20%
Top 15%
48%
20%
24%
Next 20%
Income before
taxes and benefits
Size distribution of UK income by
quintile group of households: 2001/2
Bottom Bottom
20% 20%
Next 20% Top
4% 6%
20% Next 20%
9% 11%
Middle
20%
Top 15% 45%
48% 16%
20%
Middle
20%
24%
22%
Next 20%
Next 20%
Income before Income after

taxes and benefits taxes and benefits
and benefits
✜ distribution of income by source
Sources of UK household income as a
percentage of gross household income
Wages and salaries Income from self employment Investment income
Pensions, annuities Social security benefits Other
1%
9%
3%
4%
7%
77%
1970 2001/2
Source: Family Spending (ONS, 2002)
Sources of UK household income as a
percentage of gross household income
Wages and salaries Income from self employment Investment income
Pensions, annuities Social security benefits Other
1% 1%
9%
3% 12%
4%
7%
7% 4%
9%
77% 67%
1970 2001/2
Source: Family Spending (ONS, 2002)
and benefits
✜ distribution of wages and salaries by
occupation
Average gross weekly earnings of UK
full-time adult male employees: 2002
Company financial managers
Medical practitioners
Investment analysts
Personnel managers
Accountants
Secondary school teachers
Natural Scientists
Police officers, sergeant and below
Nurses
Welders
Records clerks
Painters and decorators
Bus and coach drivers
General farm workers
Sales assistants
Bar staff
Kitchen porters, hands
£0 £200 £400 £600 £800 £1,000 £1,200 £1,400

and benefits
✜ distribution of wages and salaries by
occupation
✜ distribution of wages and salaries by sex
Average gross weekly earnings of
UK full-time adult female employees: 2002
Medical practitioners
Financial managers
Personnel managers
Police- sergeant &below
Secondary teachers
Nurses
Social workers
Secretaries
Clerks
Sales assistants
Bar staff
Waitresses
£0 £200 £400 £600 £800 £1,000

Average gross weekly earnings of
UK full-time adult employees: 2002
Financial managers
Medical practioners
Personnel managers
Secondary teachers
Nurses
Women's earnings
Factory lineworkers Men's earnings
Clerks
Sales assistants
Bar staff
0 200 400 600 800 1000 1200 1400

Average gross hourly earnings for full-time adult
UK employees (pence per hour): 1970-2002
Average gross hourly earnings for full-time UK
employees on adult rates (2002)
■ The causes of inequality
✜ differences in ability
✜ differences in attitude
✜ differences in qualifications
✜ differences in hours worked
✜ differences in pleasantness of job
✜ differences in power
✜ differences in the demand for goods
✜ discrimination
✜ differences in household composition
Percentage shares of income before and after tax
by decile group of households: 2001/2
£900
£800
Gross income
£700 Disposable income
£600
£500
£400
£300
£200
£100
£0
One adult One adult, One man, One man, One man, Two adults,
(not retired)two or moreone woman,one womanone woman, four or more
Source: Family spending (ONS,2003) children on state (not retired)two children children
Percentage shares of income before and after tax
by decile group of households: 2001/2
£900
£800
Gross income
£700 Disposable income
£600
£500
£400
£300
£200
£100
£0
One adult One adult, One man, One man, One man, Two adults,
(not retired)two or moreone woman,one womanone woman, four or more
Source: Family spending (ONS,2003) children on state (not retired)two children children
■ The causes of inequality (cont.)

✜ inequality of wealth
✜ degree of government support
✜ unemployment
The Redistribution of Income
■ Taxation
✜ tax and income
✦ proportional
✦ progressive
✦ regressive
✜ problems in using taxes to redistribute

incomes
✦ income taxes
✦ taxes on goods and services
■ Taxation (cont.)
✜ taxation and incentives: effect of raising
income taxes
✦ income effects
• reduces disposable income: people work more
✦ substitution effects
• reduces opportunity cost of leisure: people work
less
■ Benefits
✜ cash benefits
✦ means-tested benefits
✦ universal benefits
✜ benefits in kind
✜ benefits and the redistribution of income

Social protection benefits in various European countries:
(a) Expenditure per head: EU-15 = 100
140
2000
120
100
% of EU average
80
60
40
20
UK
Italy
EU15
Spain
Belgium
France
Ireland
Greece
Sweden
Denmark
Germany
Portugal
Netherlands
Source: Eurostat, 2003

Social protection benefits in various
European countries: (b) % of GDP
35
1990
30
2000
25
% of GDP
20
15
10
UK
Italy
EU15
Spain
Ireland
France
Greece
Portugal
Belgium
Sweden
Denmark
Germany
Netherlands
Source: Eurostat, 2003

■ Benefits
✜ cash benefits
✦ means-tested benefits
✦ universal benefits
✜ benefits in kind
✜ benefits and the redistribution of income
✜ the problem of the poverty trap
✜ tax credits in the UK
UK tax credits, 2003/4

Wages and The Distribution of Income

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Wages and the

Mining, energy and construction

Mining, energy and construction

Mining, energy and construction

Mining, energy and construction

Mining, energy and construction

■ Rise in part-time employment

22,000 Full-time employment

22,000 Full-time employment

8,000 Part-time employment

■ Rise in part-time employment

■ Rise in part-time employment

■ Rise in part-time employment

■ Elasticity of supply of labour

MRPL = MPPL × Pgood

The MRPL curve traces

Surplus for firm

Wage can rise

Wage can rise

First peripheral group

First peripheral group

First peripheral group

First peripheral group

First peripheral group

First peripheral group

First peripheral group

First peripheral group

First peripheral group

First peripheral group

First peripheral group

✜ implications for the distribution of income

Income before Income after

Pensions, annuities Social security benefits Other

Pensions, annuities Social security benefits Other

£0 £200 £400 £600 £800 £1,000 £1,200 £1,400

£0 £200 £400 £600 £800 £1,000

0 200 400 600 800 1000 1200 1400

■ The causes of inequality (cont.)

✜ problems in using taxes to redistribute

✜ benefits and the redistribution of income

Source: Eurostat, 2003

Source: Eurostat, 2003

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