Ronan Lyons | Personal Website
Ronan Lyons | Personal Website

Public sector pay and the idea of intensive (not extensive) cuts

Today is a day of national strike by Ireland’s public sector workers. Speaking about today’s strike on yesterday’s Morning Ireland, Aine Lawlor and Shay Cody of IMPACT came very close to blows – verbally, of course – when discussing current trends in wages across public and private sectors. Mr Cody cited recent CSO figures showing that industrial wages actually rose between the second quarter of 2008 and the second quarter of 2009. Ms Lawlor, on the other hand, was convinced by Garrett Fitzgerald’s argument in Saturday’s Irish Times that what the CSO measures is not the same thing as the average private sector wage.

On the face of it, there seems much merit to the union argument that public sector workers should not be singled out, if private sector workers are not facing a hit. For example, the Irish Times recently reported, based on a survey it commissioned, that 7 out of 10 workers have not had any reduction in their pay or their hours. However, the argument that we need neither a cut in public sector numbers nor a cut in their pay simply does not stack up, despite the almost religious zeal with which the sense of persecution among public sector workers seems to grow.

Here are the top three arguments against the union line of no cuts in public sector pay:

1. Firstly, public sector pay is an Exchequer issue, private sector pay is not. Who determines private sector wages? The customers of their goods – for Ireland’s exporters, these are global consumers, based elsewhere. For Ireland’s pharmaceutical companies, for example, demand has held up over the past two years, meaning there has been little pressure for them to cut wages drastically. Who determines public sector pay? The Irish taxpayer is the shareholder and customer. And the Irish taxpayer is broke. A huge gap between tax receipts and government spending has opened up this year, exposing the frivolous pattern of expanding public spending in recent years. It is simply unsustainable.

2. Secondly, we simply do not know what is happening earnings in the vast majority of the private sector. What is being measured by the CSO is purely the wages in “Industry” and financial services. While “Industry” sounds broad, it includes only those involved in mining, manufacturing and utilities. Manufacturing and finance are easily the two largest sectors of the four covered and employ currently about 270,000 people. This is similar in size to the public sector excluding health (260,000). It does not make it representative of the 1.2 million other private sector workers, about whose wages we know almost nothing.

3. Thirdly, private and public sectors will always adjust to recessions in different ways. In fact, for a long part of the twentieth century, this was quite a puzzle for macroeconomists. Why do earnings not fall in economic downturns? The reason – as most private sector workers could have probably told them – is that private sector firms adjust not by cutting rates of pay but by cutting “marginal” workers and “marginal” hours worked (i.e. overtime).

Economists call this the difference between intensive and extensive labour market adjustments. Let’s look at the Irish manufacturing and finance sectors as a single company. That company’s annual pay bill was over €13bn in early 2008, almost the same as the pay bill of the public sector (ex. health). To achieve savings, it could introduce a series of intensive cuts, cutting everyone’s pay rates and the typical working week. What we know about the private sector, though, is that it prefers to undertake ‘extensive’ cuts, letting go of workers and cutting back on overtime.

And that is what has happened. While wages in manufacturing were 1% higher in mid-2009 than a year ago, numbers employed have fallen heavily. Ireland’s manufacturing and financial sectors have cut their pay bill by almost 12% in the last year, as is shown below. The public sector pay bill is still rising. If it had achieved similar cuts to the sectors shown, through whatever channel, the Exchequer would have saved €1.5bn this year.

Year on year change in total wage bill, public and private sectors, Ireland
Year on year change in total wage bill, public and private sectors, Ireland

On the other hand, the public sector – and particularly in Ireland – works to a different beat. Firstly, as a general rule, employment levels in the public sector will be more acyclical than the private sector by for supply reasons (governments want to diminish not amplify the severity of business cycles) and for demand reasons (by the very nature of public services, e.g. defence, education and health, it’s unlikely that people want less of them in recessions). Secondly, Ireland is already paying a huge chunk of its economy (almost 55%) on its public services, particularly compared to the level of services provided in other countries spending a similar price.

We’re paying a very high price for public services, one that we cannot afford to keep up in the years ahead. To get our costs back into line, we could in theory cut the number of public sector workers, and thereby cut the services we get. Or we could cut the price we pay for those services.

Over on irisheconomy.ie, on a discussion of teachers’ wages, one teacher commented that she would be prepared to work longer hours if necessary, but she was not prepared to have her pay cut. One of the contributors to the site pointed out what she was actually saying: in a staff room of 20, she would rather the government fired one of her colleagues than cut all their pay 5%. If that’s what the unions want, they should say so, but ultimately it is the taxpayer and not the unions that has the right to decide.

  • Caelen ,

    It is the citizens, not the taxpayers, that have the right to decide

    • Michael Taft ,

      With little current data available on non-industry/financial sectors, it is hard to know beyond isolated examples what is happening in the private sector. Everyone can point to some survey or other to prove their point, which means all points can be ‘substantiated’; and this doesn’t get us far.

      Ultimately, the point about cutting public sector wages is that it makes little sense. The ESRI estimated back in April that cutting public sector wages by 5 percent would result in consumer spending taking quite a hit (a reduction of nearly 1 percent or over €700 million). The initial deflationary shock would be nearly equal to the net savings to the Exchequer (as calculated on a post-April basis) – with this deflationary impact doubling over the next five years. No wonder the ESRI said that the €4 billion contraction would postpone the ending of the recession and that, instead of overall positive growth next year, we will remain in negative numbers. As there is little fiscal benefit to be had from cutting public sector wages – and considerably economic damage – the real question is why should we cut wages during a recession where aggregate wages are already falling? We are just fuelling recessionary tendencies and setting up our economy for a low-growth, high-debt future.

      • Ronan Lyons ,

        @Caelan: good point. Taxpayers = customers, citizens = stakeholders. Perhaps an AGM for citizens every year would be a good idea.

        @Michael: Thanks for the comment. I appreciate we’re probably not going to agree on this! I would agree, though, that I don’t see much point in laying off large numbers of the public sector at the height of recession (unlike some others in the debate). From what I can see, where we disagree is on the necessity of cutting public expenditure. I believe it’s necessary, and given that and ruling out layoffs this means that the only solution has to be cuts in earnings, which – I believe not coincidentally – is also needed for a labour market less skewed towards the public sector. (Perhaps it’s no harm at this point noting that I’ve worked in both public and private sectors, on the off-chance that quells any Ivory Towers arguments.)

        I understand, though, that you and others would argue with both points, i.e. that public sector wages are too high and that public sector spending is too high. To those interested in the debate, on the former, I would cite the ESRI and the latter I would cite the ca.55% government-GNP ratio, the largest in the EU, but I doubt I’m going to win any converts on your side.

        Thanks again for the comment though,

        R

        • Ciaran Daly ,

          The unions will always act irresponsibly and treacherously to fuel their greed, after all that is their job. I wouldn’t concede the point that they shouldn’t be targeted, even if there was no fiscal crisis they should be targetted because they are the most overpaid public servants in europe and we badly need real world reform to get our public services up to european standard, they SHOULD be targetted and it’s time the government stood up.

          When taxpayers leave, what will the citizens do then?

          • AdamS ,

            @Michael

            Given that welfare recipients save very little, presumably a higher proportion of welfare benefits is spent than the proportion of public sector wages. It follows that any shock produced by cutting benefits will be proportionally higher than that produced by cutting public sector wages.

            So whilst I can accept your view that it might be best to avoid deflationary spending cuts in general, then would you agree that if spending does have to be cut, welfare payments should be protected first & foremost, with public sector wages in very much second place?

            • kevin denny ,

              Some of the discussion here ignores the fact that real wages are rising due to a high level of deflation. I can say see no rationale for that. There clearly is downward pressure on the private sector wages. Why should those in the public sector (who are paid more on average, with additional benefits due to security and pension rights) not also be affected?
              Some kind of social solidarity is necessary to get us out of this hole and the public sector working telling the private sector to f-off is neither smart nor reasonable.
              Cutting public sector wages has to be part of any sensible strategy (I work in the public sector). After all if cutting them was deflationary,why not increase them instead? The idea that a small open economy with no control of its monetary policy can spend its way out of recession is dangerous.

              • Mossy Heneberry ,

                Public sector pay cuts have to be made. The government can’t continue to borrow millions each week to fund the public sector. The money has to be paid back with interest. The longer we continue to borrow the riskier we are seen and interest rates will go up on those borrowings. Enventually, our lenders would simple refuse to lend to us and the public sector we be in for a 100% pay cut.

                The logic of Michael Taft is flawed. Why doesn’t the government simple increase PS pay to pull us out of the recession so?

                • Donal O'Brolchain ,

                  @Ronan
                  “Perhaps an AGM for citizens every year would be a good idea.”
                  How about a Swiss-style citizens’ initiative?

                  @Kevin Denny and others
                  In addition to working ourselves out of our present, mostly self-inflicted situation, we need a complete new way of setting wages/fees/prices that reflects our need to trade internationally if we are to enhance the quality of life here for all.

                  • kevin denny ,

                    @Donal Agreed. I think partnership is wonderful -or at least seems so- when the cake is expanding but its a different matter when its contracting. The traditional small open economy model that I learned as a student had a traded and non-traded sector with wages determined in the traded sector, Beijing in other words. We seem to think we can do it the other way round.
                    We could make a start by eliminating the arbitrary mark-ups that exist in many professions (medicine, law etc) due to restrictions on entry. No prizes for guessing why that hasn’t happened. It may be symbolic but its a start (actually given the Tribunals it has been more than that).
                    Anyway,competition is not perfect but I think it beats the alternative.

                    • James ,

                      Shouldn’t some comparison be made between other Euroarea public sector pay levels & Ireland’s as well as a measure of performance of services?
                      I agree with Michael that a cut in public pay will hinder growth (obvious), but we have to get pay levels down to comparable levels to our neighbours, which I believe we are some way higher. It’s a painful adjustment to make, but as our monetary control is out of our hands, there is no other way.
                      Also does the CSO survey take into account failed businesses (selection bias) or other benefits (Christmas party, discounted canteeen ect.)?

                      • Senan ,

                        Well, the ‘negotiations’ are now firmly underway between the government and the unions regarding the public sector cuts. So far all I’ve heard is rhetoric from the unions and concessions from the government. Sigh…

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