Why are nominal wages so flexible in Ireland?

I am struck by the paper Wage Flexibility and the Great Recession: The Response of the Irish Labour Market (pdf), by Aedín Doris, Donal O’Neill, and Olive Sweetman.  The abstract is this:

Despite the importance of wage rigidity in macroeconomic models, no consensus has emerged in the empirical literature on the extent of wage rigidity. Previous attempts to measure wage rigidity have been hampered by small samples and measurement error. Moreover, results relating to earlier periods may not be relevant in the context of the large macroeconomic shocks that have hit many countries in recent years. In this paper we examine nominal wage flexibility in Ireland both in the build up to, and during the Great Recession, using tax return data that are free of reporting error and cover the entire population of workers. The Irish case is particularly interesting because it has been one of the countries most affected by the crisis. We find a substantial degree of downward wage flexibility in Ireland in the pre-crisis period. Furthermore, we observe a significant change in wage dynamics since the crisis began; the proportion of workers receiving wage cuts more than trebled, rising from 17% in 2006 to 56% at the height of the crisis. Given the large number of workers receiving pay cuts it seems unlikely that wage rigidity played an important role in unemployment dynamics in Ireland over this period.

One question is what then caused so much Irish unemployment.

A second question is why Ireland seems to have higher than normal nominal wage flexibility.

Could it be a greater than average willingness to endure living standard cuts without complaining?  The Irish after all didn’t protest austerity as much as did most of the other Europeans in a comparable position.  Maybe that means their wages can be cut without incurring the same morale costs.

Or could it have something to do with the “dual” nature of the Irish economy, namely that you either work for a multinational or you don’t?  If you work for a multinational, maybe they can lower your wages and still you will work hard to keep that job.

Any takers on these questions?

Comments

First.
Anyway, the Souuth is different.

Do you mean the South of Ireland or just excluding "Northern Ireland"?

”One question is what then caused so much Irish unemployment.”

Never heard of this Keynes person?

This is exactly what I was thinking. That Keynes talked about how even with wage flexibility, the expectation of an even further drop in spending creating a downward spiral.

Is there any empirical evidence for that?

It's remarkable how, after this many years into the crisis, even the best economists still hold onto this imaginative story of a world in which demand doesn't matter and flexible wages take care of unemployment.

Deflation is always and everywhere a monetary phenomenon, right?

Demand doesn't matter in the long run. And, as you can see in the case of the U.S., flexible wages do take care of unemployment.

I'm not sure I buy into the "demand doesn't matter" claim. Seems to be something of the "if you build it they will come" type claim -- though I'm not sure that is what your suggesting. My bigger disagreement with that position is the it's largely a rejection of the idea that production is only for the purpose of consumption. If there is not demand for something there will not really be any production of that something with the minor occurrences related to those who just like making that something for the makings sake.

Demand is driven by supply. Medieval peasants couldn't buy digital computers, no matter how much paper money you gave them. A world without demand is either a perfect one or one without humans.

While standard classical and new Keynesian (really classical in disguise) models (and textbooks) argue that it is wage inflexibility that is the reason for unemployment, if rational expectations fail to hold and prices may result from speculative bubbles, then indeed wage and price flexibility may be associated with more unemployment. Indeed in Ireland the Great Recession followed a major financial crash, so this is not at all mysterious.

Barkley, Irish wage rigidity was actually pretty impressive. It's the size of the pay cuts that matter, not just if they occur.

Right. What if these are niggling wage cuts? Scott Sumner suggests as much.

But if you model Ireland as a small open economy on a fixed exchange rate, wage flexibility (relative to the rest of the Eurozone) should help Ireland's employment (relative to the rest of the Eurozone).

Rational expectations fail to hold? Prices result from speculative bubbles?

Where is this coming from? What is wrong with this field?

Just read Post-Keynesian economics or look up sectoral balances.

Or how about https://en.wikipedia.org/wiki/Paradox_of_flexibility?

There is no paradox of flexibility. With the PIGS, there was a giant paradox of super-rigidity.

TC: "A second question is why Ireland seems to have higher than normal nominal wage flexibility."

Abstract: "Despite the importance of wage rigidity in macroeconomic models, no consensus has emerged in the empirical literature on the extent of wage rigidity.

Do we even know what is normal rigidity?

My understanding of the Paradox of Flexibility models is that they assume that there is also low price rigidity, which means there should be a great deal of deflation as well (something we haven't seen in Ireland besides 09 when it was 5%). With price rigidity (or at the very least without deflation) you don't get a deflationary spiral which is the reason that increased labor supply can actually lead to a lower demand for labor at the ZLB.

In response to Tyler, however, if you don't buy the Paradox of Flexibility argument, than the answer would be sticky prices. Which is to say that it doesn't matter if a firm's costs go down if that doesn't translate into cheaper products than why would you assume that more of those products will be purchased? Even if someone is willing to work for free, it's not worth turning the factory on if your shelves are stocked and seem to be staying that way. That being said, if you are at the ZLB and deflation is a worry, then making prices flexible won't solve your problem, even if it is the current mechanism that is preventing flexible wages from decreasing unemployment.

I think we need to first know the size of the original shock in order to assess whether nominal wages really are all that flexible in Ireland. in other words - how do we know that 56% was large number in the broader context of the Great Recession? To the unemployment issue: we also have to know how big the cuts were relative to say the fall labour demand.

Prior to the bust, many of those in the active age cohort had taken out significant mortgages on their main residence, mortgages which could only be serviced by households earning two boom-time incomes. Although I do not have anything other than anectodal evidence for this, many of my contemporaries in this situation reasoned that their provider (and courts, if it were to get that far) would be less likely to repossess the house (leaving the family with the debt and no accommodation) if they were in employment rather than not. Furthermore, many were unconvinced that leaving a job which had cut their pay would improve their possibilities of securing similar employment on similar levels of pay. Those who lost their jobs had no such choice to make: that unemployment could have been driven by entirely other considerations. Of all my acquaintances who lost their employment during the downturn, only one quit because her pay had been cut. The rest had no choice in the matter.

Don't think the multinational sector employs huge numbers of Irish people, as a percentage of the workforce. Explanation 1 seems most likely.

Didn't an awful lot of people emigrate during the recession? The Irish are English speaking and have a large diaspora throughout the Anglo sphere and other nations. So for those unwilling to take a pay cut the option to just leave for Britain, US, Canada etc etc is a lot "easier" than it would be for say, a Portuguese or Greek worker with limited English.

People accepting a wage cut are then sort of self-selected as having decided to stay put come what may, whereas the folks who up and leave might be at the forefront of greater protests if this option weren't so available to them.

The paper doesn't seem to address this as a factor.

Portuguese and Greek also have large diasporas... In the case of Portugal the rates of emigration were extraordinarly high, probably much higher than in Ireland. You guys are forgetting that life in Southern European countries already sucked before the crisis, unlike in Ireland, Ireland was almost a "rich country".... Of course, it is much more difficult to cut in poorer countries, because you know, people need food on the table.

They weren't very large pay cuts.

Certainly not Greece-style large.

Small pay cuts are rare. Often firms choose layoffs over handing out many small pay cuts. The question is why Irish firms made the choice of small pay cuts and why Irish workers tolerated them.

Outsider question, what is covered by the wage cut definition? For example, if someone works 40 hours a week and then during the crisis the work time is reduced to 30 hours per week, is it a wage cut? I see the article estimates hourly wage but it's not a raw data input.

Never been to Ireland, but working around the world I've seen countries more or less friendly to people working part time. If you already work 25 hours a week before the crisis and during the crisis employment is reduced to 20 hours, it's not a big shock. Ireland has 25% of population working part time, Netherland tops the table with almost 50% of 15-64 yr old people working part time. But, Ireland is much more flexible than the Czech Republich 5%, Greece 9%, Portugal 10% If people can't afford to work part time, it means the workers are having big problems to bring food to table. They won't accept wage cuts. http://alturl.com/ce5c4

+10 ", it means the workers are having big problems to bring food to table. They won’t accept wage cuts." Thats the answer that Tyler was asking for, and the germans didnt get.

I'm not sure it can be fully explained by "having problems to bring food to table". There are also cultural differences in the approach to work. Part time work means employers track productivity and results. In full time work cultures what is valued by employers is being at the job, it doesn't matter if you're actually producing something.

Thus, in some cultures it's easier to tell employees, next year you'll work 20 hours per week and I'll pay you 20 hours per week. In other cultures, this is impossible because employees unions explode telling that in the epic narrative of worker's fight for rights there's not a single step back, not a single concession is possible. Reducing from full employment to partial employment, even during a crisis, is seen as "they outsource this job and fire you". Also, acknowledging that you can do your work in less than full time is something government bureaucrats don't like. Tax payers must never know that perhaps a communal civil register can be run in 5 hours a week.

Well, if paying 40 hours is barely enough to put food on the table and pay rent or mortagage (like in Portugal), then part-time work wont be acceptable. Of course, in Northern Europe even only working 2/3 days per week is enough for your basic needs, so no need for strikes, usually. The main reason why unions behave like that is because bosses treat workers like shit in those very same cultures. Well of course if you are talking about civil servants, then their demands are frequently unreasonable.

Well, your idea explains why people works part time in the Netherlands and full time in Portugal. If part-time work is enough to pay for basic needs, what's going on France with relatively low part-time employment? Does people needs to work full time to bring food to table or jobs are full time independent of productivity measurement?

Axa,

France has a 35 hour work week. In effect, the whole country is already working part time.

Irish public servants experienced three pay cuts due to "austerity". In 2009, the Pension-Related Deduction PRD was an extra deduction from public service pay, which would not appear as a cut to gross pay in the tax returns, although it would appear as a cut to taxable pay.

The second paycut was a direct cut to all public servants gross pay [2010 I think].

The third paycut affected those only on 65,000 or above, in 2013, known as the Haddington road agreement.

Note that all new entrants to the public service were put on a lower scale, 10% less.

Outside the public service, there were not widespread cuts to basic pay rates.

Bonuses, overtime cuts, yes, as well as 3-day weeks, reduced hours - all very common.

Maybe new lower scales for new entrants.

But cuts to basic pay rates were very rare outside the public service.

I can't provide any citations, but I remember reading about this some years ago, and my understanding is that the Irish had a very adult and mature understanding of competitiveness, and were willing to endorse broad social acceptance of wage cuts in order to promote competitiveness and retain jobs.

Maybe yes maybe not, but obviously life in Ireland was much better than in Southern European countries before the crisis, so cutting 5-10% is not such a big drama...

PSST, where's Arnold?

Where's Scott Sumner?

Spoke too soon: Sumner does reply on his blog.

:Or could it have something to do with the “dual” nature of the Irish economy, namely that you either work for a multinational or you don’t? If you work for a multinational, maybe they can lower your wages and still you will work hard to keep that job. - See more at: http://marginalrevolution.com/marginalrevolution/2015/10/why-are-nominal-wages-so-flexible-in-ireland.html#comment-158747576 (why is this site so stupid with the appended link to itself! Maybe MR needs to hire some created programmers)

Wonder how that squares with the firm size wage premium -- or is that a case where the reduced pay in the multi-national is better then the no wage from the small firm?

Can someone explain this phrase: "the proportion of workers receiving wage cuts more than trebled"

How do workers treble?

my sentence diagram says that 'treble' modifies 'proportion' not 'workers'

My Irish friends report there is a very substantial underground economy in the villages as well as larger towns including Dublin. The overground jobs fluctuate in hours and pay rates, but many have sidelines that provide off the books income, and these underground jobs help take up the slack so that fluctuations in cash income are moderated.

Ethnic homogeneity/perception of shared sacrifice. Wouldnt work with a diverse population.

Whiskey.

Family Guy beat you to it: https://www.youtube.com/watch?v=eirq4laOhcU

Not having read the paper, I'd have a couple questions if their data source is income tax info

1) Are the wage cuts they discuss wage cuts, income cuts, or effective wage cuts (i.e. lower income per hours worked)? The mechanism of explanation would vary depending on what the answer is

2) Of the people who took wage cuts (wage wage, not income or effective wage), how many cuts involved a change of firms?

Depending on how those questions are answered I'd vary the amount I'd weight I'd put on the below hypotheses, but here are a few non-mutually exclusive possibilities:

- Some industries involve a pay structure that has a high amount of intrinsic variability. Finance most famously so- a person working in finance can have high year-to-year income variability because a large proportion of the annual income takes the form of a bonus rather than a salary. Firms in these industries have the ability to make effective wage cuts by reducing the discretionary/bonus payout while leaving the salary unchanged. In the US this kind of pay structure is largely associated with high-level professional work, but any line of work getting paid on commission or tips works the same way.

- Some industries have a lot of turnover, seasonality, and/or cyclicality (e.g., construction) and affect wage flexibility by firms reducing the wage offered to new hires and relying on natural attrition to lower overall cost structure. This would also be the case in any gig-based or freelance-heavy industries.

Both of the above are examples of how either the wage or effective wage might be flexibly downward, and not have excessively adverse morale effects because the inherent structure of the industry is such that workers know the potential for variability is 'part of the deal'. I don't have sufficient knowledge of Ireland to know how prevalent these are, but that's a place I would look if I were seriously researching the topic.

As to why unemployment got so high despite the downward flexibility, I'd hypothesize a job/skills mismatch. Ireland being a small country, economy diversification is not going to be as high as elsewhere. I highlighted finance and construction above in part because those were disproportionately high concentrations in pre-crisis Ireland. A lot of people who were in construction circa 2006 would have had to find a different line of work or relocate (not that a construction worker would have had a lot of great emigration choices in 2009) to be employed circa 2011. Ditto with finance. Changing where you live or your industry is a major life decision, and people generally don't do it unless they believe there has been a structural change in their industry that has radically altered their earnings potential. Even if they do come to that realization, an alternate employer has to exist, which involves someone else to also come to that realization and having sufficient confidence and risk tolerance to make a capital investment on it. Both types of decisions are not made quickly or easily. Sometimes the only solution to unemployment is time.

From a behavioral standpoint more layoffs might make wages more flexible in the downward direction. If you see cohorts getting the axe you will be much more likely to accept a pay cut and the boss more likely to give one.

Anecdotally I see this happening in my industry (oil and gas) especially on the service side. There have been lots of layoffs and lots of pay cuts for anyone that survived. Operators (who are better off financially) have had less layoffs and very few pay cuts. The few laid off tend to be those being over paid or the very worst performers. The service companies layoffs have been a much blunter tool just trying to survive.

There were high-profile wage cuts in the public sector, up to and including politicians. Some politicians even volunteered deeper wage cuts, such as the president, who volunteered a €75,000 pay cut.
http://www.thejournal.ie/president-offers-to-take-budget-2011s-biggest-wage-cut-55602-Dec2010/

With such widespread cuts in income among the public sector, perhaps it was easier for private sector employers to sell pay cuts. There was a lot of complaining over the crisis years, but there might have been a greater sense of solidarity in Ireland than some other countries. If everyone appeared to be taking a hit, there could be a patriotic collective shouldering of the burden.

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