How is wage inflation affected by recessions?

Wages don't always fall in slumps, it seems.

Earlier this week, I wrote that pegging benefits to wage inflation fails Macroeconomics 101, arguing that since wages rise faster than inflation except in recession, it's macroeconomically dangerous to peg benefits to them:

If benefits were to be pegged to wages rather than inflation, then some… counter-cyclicality would be scrapped. The benefits bill would shrink in recessions and increase in boom times, compared to where it would be without the change. That would mean prolonged depressions, and a magnification of the boom-and-bust cycle. Macroeconomically, its one of the worst things you could do.

I illustrated it with this graph, showing that wages were rising faster than inflation until the crash, and only then dropped below:

Overlay from Timetric

But Mindful Money's Tom Hirst points out that when you take a longer view, the effect reverses:

Renato Faccini and Christopher Hackworth of the Bank of England's Structural Economic Analysis Division produced an interesting paper in 2010 looking at how output, employment and wages behave in recessions. They conclude that the manner in which businesses have responded to the falls in output during this recession looks rather different [than previous recessions]. Real wage per hour growth has been weaker than in the early 1990s".

In previous recessions wages have remained stickier than inflation. This is due to a combination of those on low salaries losing their jobs, which pushes up the average, and the difficulty employers face in reducing the wages of their employees.

As Hirst argues, what we need to know now is whether this reversal in trend is a one-off, or if it's the "new normal". Faccini and Hackworth argue that there are a couple of reasons to believe it is so (citing labour market flexibility and cost of dismissal, and the new popularity of unconventional monetary actions like QE) – but we can't know for certain without further research.

Either way, of course, it remains the case that pegging benefits uprating to wage inflation is a terrible way to save money. Almost all the time, wages increase more than inflation, and so this proposed switch is textbook short-termism.

Employers sign up students to work at Barnard College, NYC. Photograph: Getty Images

Alex Hern is a technology reporter for the Guardian. He was formerly staff writer at the New Statesman. You should follow Alex on Twitter.

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What did Jeremy Corbyn really say about Bin Laden?

He's been critiqued for calling Bin Laden's death a "tragedy". But what did Jeremy Corbyn really say?

Jeremy Corbyn is under fire for describing Bin Laden’s death as a “tragedy” in the Sun, but what did the Labour leadership frontrunner really say?

In remarks made to Press TV, the state-backed Iranian broadcaster, the Islington North MP said:

“This was an assassination attempt, and is yet another tragedy, upon a tragedy, upon a tragedy. The World Trade Center was a tragedy, the attack on Afghanistan was a tragedy, the war in Iraq was a tragedy. Tens of thousands of people have died.”

He also added that it was his preference that Osama Bin Laden be put on trial, a view shared by, among other people, Barack Obama and Boris Johnson.

Although Andy Burnham, one of Corbyn’s rivals for the leadership, will later today claim that “there is everything to play for” in the contest, with “tens of thousands still to vote”, the row is unlikely to harm Corbyn’s chances of becoming Labour leader. 

Stephen Bush is editor of the Staggers, the New Statesman’s political blog.