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Is market concentration undermining wage growth?


Miguel Ayala

By

May 23rd, 2018


Wage growth remains stubbornly low across the developed world. Do big companies hold too much power in the labour market? Miguel Ayala discusses the effects of these monopsonies on wages.


In April, the Reserve Bank of Australia outlined the absence of wage growth as a major factor for low inflation. In fact, wage growth, currently sitting at 2.1% compared to the historical average of 3.5%, has been mentioned more often in the RBA minutes since 2014 because of its divergence from the decrease in the unemployment rate. Meanwhile, corporate profits in Australia have been on the rise over the last decade because of the very accommodating monetary policy environment and the recovery of the global economy from the global financial crisis.

So, what is causing wages to stagnate if there is a recovery in employment? This juxtaposition of low wage growth against high corporate profits has been an issue for many advanced economies, not just in Australia. Empirical studies in the US have found explanations for what may be keeping wage growth low. One of those insights is that companies in concentrated industries can earn above average returns in contrast to companies in non-concentrated industries.[1]

Market concentration can distort prices in markets and create social losses for the economy. A recent report released by the Grattan Institute examines competition in Australia and assesses this performance relative to other advanced economies. Most Australians know that the Australian economy is dominated by duopolies or oligopolies. The Grattan report gives examples in the supermarket, financial services, mobile telecommunications and insurance sectors. The report  found that Australian industries are as concentrated as they are in other similar advanced economies and that large firms play a larger role in high-income economies such Australia than they do in low-income economies. These findings provide strong insights into what might be happening in the labour market. Since large firms play a significant role in higher-income economies such as Australia, it is possible that these large firms affect prices, in this case wages, in the labour market.

Source: Grattan Institute

The Grattan Institute’s report addressed market concentration on the supply side but not market power on the demand side. Other studies have shown how much market power monopolies or oligopolies in these sectors hold relative to consumers. However, there is little research about companies’ market power in the labour market. In input markets such as labour markets, workers provide the labour and firms are the demand for that labour. When demand for labour holds significant market power, they can set the prices or wages required to maximise their profits. These firms are referred to as monopsonies and economists have recently been investigating this trend in the labour market.

A study conducted by the US-based National Bureau of Economic Research evaluates this monopsonistic effect in wages, and looks at those trends at local-level employer concentration in the United States.[3] Using the Herfindahl-Hirschman Index, a measure of market concentration, the study found labour market concentration in the United States has significantly risen in the last 30 years. Moreover, there exists a negative relation between wages and employer concentration. Firms with monopsony power can reduce wages by 2-3% annually, which this could translate into a large reduction in the long term.

Finally, the study investigated the role of China in contributing to local labour market concentration which has been significant as Chinese competition has led to plant closures, increasing employer concentration in local-level labour markets. These important results in the labour market in the United States can be translated into the Australian labour market to some extent as they both are open developed economies.

It is important to understand that there are other factors that may affect wage growth, such as globalisation and automation. So this approach can partially explain the divergence of low wage growth from a falling unemployment rate and the ability of monopsonist employers in the corporate sector to exploit their market power to reduce wages. What is contributing to an increase in market power for companies? Social mobility, for instance, has decreased due to a combination of housing market constraints and personal factors so people are more reluctant to move for higher paying jobs or jobs that have fixed terms.[5]

Another factor is the fall of union participation in enterprise bargaining agreements. In Australia, union participation has been decreasing since the 1960s, with only 10% of private sector workers in a union. In the public sector, the percentage of workers in unions has fallen by 4.9% to 38.5% between 2013 and 2016.[6] While this does not translate into the absence of any monopsonistic effect, unionisation somewhat improves employee bargaining power and may diminish the ability of employers to lower wages in concentrated markets, reducing monopsonistic effect to some level.

Monopsonies should not be underestimated in the role they play in affecting wage growth. Most people look at globalisation and automation as the only factors but the overall picture does not end there. In the long term monopsonistic firms may contribute to inequality in income distribution and policy makers should pay more attention to this non-competitive behaviour in labour markets.

 

[1] Azar, J., Marinescu, I. & Steinbaum, M. I., 2017. Labor Market Concentration. NBER Working Paper, 24147.

[2] Jim, M., Chisholm, C. & Percival, L., 2017. Competition in Australia: Too little of a good thing?, Melbourne: Grattan Institute.

[3] Benmelech, E., Bergman, N., & Kim, H., 2018. STRONG EMPLOYERS AND WEAK EMPLOYEES: HOW DOES EMPLOYER CONCENTRATION AFFECT WAGES? NBER Working Paper No. 24307.

[4] Schechter, A., 2018. Promarket. [Online]
Available at: https://promarket.org/strong-employers-weak-employees-study-sheds-new-light-concentration-hurts-workers/
[5] Loussikian, K., 2013. The Conversation. [Online]
Available at: https://theconversation.com/labour-mobility-ok-but-government-not-helping-productivity-commission-21076

[6] Bowden, B., 2017. The Conversation. [Online]
Available at: https://theconversation.com/three-charts-on-the-changing-face-of-australian-union-members-80141

The views expressed within this article are those of the author and do not represent the views of the ESSA Committee or the Society's sponsors. Use of any content from this article should clearly attribute the work to the author and not to ESSA or its sponsors.

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