Adjusting the wages and salaries is considered as one of the most
followed way to relieve the poor people out of inflationary pressures. It is
believed that upward adjustment of wages and salaries would offset the cost of
inflationary pressures by helping people keep their purchasing power constant
or even raise it. Is it true that adjusting the wage rate upward is the solution
to the rising price level? The answer is certainly ‘No’ if we peep deeper into
the cyclical effects that follow the rise in wages and salaries. An increase in
wages and salaries without an increase in productivity of workers means the
cost of production will rise and consequently the price level will rise. If wages
rise by 20 percentage points in the absence of rise in productivity, the cost
of production will rise by 20 percentage points and as such inflation will be
20 percentage. A rise in the cost of production may be absorbed from profits by
the large production houses with large profit margins but for small producers,
there will be few alternatives: either to lay off some of its employees and
produce smaller quantities or shut down production. It will reduce the amount
of quantity produced in the economy. A fall in quantity produced will be
followed by an increase in unemployment rate. Rising price level and falling
supply of goods and services may lead the economy to hyperinflation. In the
terminology of economic literature, it is called supply side inflation or cost
push inflation. The story does not end
with a one-time increase in price level. When the inflationary pressure of the
increase in wages and salary arises, workers start to demand for higher minimum
wage rate as such the wage level is raised by pressure of labor unions and the
whole cycle repeats again and again. The economy may, thus, be pushed on the
wage-price spiral with the ever rising inflation and ever rising wages. This type of inflationary cycle arising from
increase in wages and salaries has a lot of retarding effects in the economy.
First of all, increase in wages and salaries may keep the purchasing power of
the employees for a moment but the majority of the poor who do not have jobs
are badly affected and fall into the deeper pit of poverty and increasing
inequality. This puts the government against the interests of the poor mass. Secondly,
increase in the cost of production may force some of the private production
houses to curtail production and may force some houses even to shut down
production. It results in a fall in aggregate supply and further rise in price
levels. Thirdly, increase in the cost of production challenges the comparative
advantage of the economy in international trade as such balance of payment is
adversely affected. Such adverse balance of payments situation results in
devaluation of national currency. In an economy like Nepal where supply is
inelastic, devaluation may do little in expanding exports. Thus, devaluation
will have negative impacts of increasing the cost of raw materials that are
purchased from abroad and thus boosts up the rate of inflation in the economy. Lastly,
by increasing the level of wages and salaries, the employees themselves get
deceived. They think that their purchasing power will be higher after getting
the higher wages. They do not care about the fact that an increase in house
rent, an increase in minimum wages of workers, an increase in tuition fees, etc
will immediately follow the increase in wages and salaries.
Nepal
is a country with least per capita productivity in the South Asia. The Nepalese
laborers are relatively more expensive per unit of production. That is why, the
comparative advantages of this economy are small. When the government adjusts
the wages and salaries upwards, we feel a pinch of an immediate increase in
house rent, restaurant food and beverages, transportation charges, doctor fees,
vegetables, tuition fees and so on. If this happens, what will be the net
effect in real wages or purchasing power? If the government raises wages and
salaries by say 20% in each three years and the
annual inflation rate stands at 10%, how much benefit will a worker with
Rs. 1000 wages per day get from this much rise in money wages? His wages will be Rs. 1,200 per day for the
next three years but the price of a good having price level of Rs. 1,000 will
be Rs. 1,100 for the first year, Rs. 1,210 for the second year and Rs. 1,331
for the third year. How much does the worker gain from the increase in wages?
Certainly, he will lose rather than getting benefits. That is why, rather than
increasing the level of wages and salaries, attention should be diverted to
increasing the productivity of workers and removing the supply side constraints
so that purchasing power of the people will increase with the present level of
income. If we can curb the inflation rate to 2-5 percentages, there will arise
hardly any need of adjusting the wages and salaries. Even then, with the
increase in productivity of workers, adjusting the wage rate upwards will not
have any inflationary pressures. It is thus necessary that increase in wages
must be followed by an increase in productivity or wages should be followed
only with the rise in productivity of the workers.
