Firms should make more information about salaries public
Making pay more transparent
SWEDES discuss their incomes with a frankness that would horrify Britons or Americans. They have little reason to be coy; in Sweden you can learn a stranger’s salary simply by ringing the tax authorities and asking. Pay transparency can be a potent weapon against persistent inequities. When hackers published e-mails from executives at Sony Pictures, a film studio, the world learned that some of Hollywood’s most bankable female stars earned less than their male co-stars. The revelation has since helped women in the industry drive harder bargains. Yet outside Nordic countries transparency faces fierce resistance. Donald Trump recently cancelled a rule set by Barack Obama requiring large firms to provide more pay data to anti-discrimination regulators. Even those less temperamentally averse to sunlight than Mr Trump balk at what can seem an intrusion into a private matter. That is a shame. Despite the discomfort that transparency can cause, it would be better to publish more information.
There is a straightforward economic argument for making pay public. A salary is a price—that of an individual worker’s labour—and markets work best when prices are known. Public pay data should help people make better decisions about which skills to acquire and where to work. Yet experiments with transparency are motivated only rarely by a love of market efficiency, and more often by worry about inequality. In the early 1990s, it was outrage at soaring executive salaries which led American regulators to demand more disclosure of CEOs’ pay. Such transparency does not always work as intended. Compensation exploded in the 1990s, as firms worried that markets would interpret skimpy pay-packets as an indicator of the quality of executive hires.
Despite this, bosses tend to oppose transparency, for understandable reasons. Firms have an easier time in pay negotiations when they know more about salaries than workers do. What is more, shining a light on pay gaps can poison morale, as some workers learn that they earn substantially less than their peers. A study of employees at the University of California, for instance, found that when workers were given access to a database listing the salary of every public employee, job satisfaction among those on relatively low wages fell. In industries in which competition for talented workers is intense, the pernicious effects on morale of unequal pay create an incentive to split the high-wage parts of the business from the rest. Research published in 2016 concluded that diverging pay between firms (as opposed to within them) could account for most of the increase in American inequality in recent decades. That divergence in turn resulted from increased segregation of workers into high- and low-wage firms.
Yet transparency increases dissatisfaction not because it introduces information where there was none before, but because it corrects misperceptions. Surveys routinely find that workers overestimate their performance and pay relative to their peers’. This is true across economies as well as within firms. In 2001, tax records in Norway were put online, allowing anyone to see easily what other Norwegians had earned and paid in tax. Reported happiness among the rich rose significantly, while the well-being of poorer people fell as they learned their true position on the economic ladder. Better information changes behaviour. Low-paid workers at the University of California became more likely to seek new jobs after salary data became public. In Norway the poor became more likely to support redistribution.
Transparency might threaten the function of capitalist economies if people were implacably opposed to pay gaps, but they are not. A study published in 2015 of factory workers in India, for instance, found that unequal pay worsened morale and led to reduced effort when workers could not see others’ contributions, but not when productivity differences were easily observable.
Yet in the modern economy, individual contributions are often devilishly hard to assess. Simple theory suggests that workers are paid according to their productivity. Were they to earn more, their employers would lose money; were they to earn less, other firms could profit by hiring away underpaid employees. But although it is easy enough to see how many shirts a textile worker stitches in an hour, it is much harder to evaluate the contribution of one member of a team that has spent years developing new software. When it is difficult to observe important parts of a job, economists believe that trying to link pay closely to narrow measures of performance can be misguided. Workers inevitably neglect murky but critical tasks in favour of those the boss can easily quantify. In the knowledge economy, therefore, the relationship between pay and productivity is often loose.
Pay gaps are often nonetheless justified. Workers with scarce and valuable skills can easily threaten to leave, and can therefore bargain for higher pay. Those fat pay-packets serve the economy by encouraging young workers to develop skills that are in short supply—provided, of course, that they know how much they can expect to earn. But the difficulty in observing productivity allows factors to influence pay, such as office politics, discrimination or a simple tendency to silence the squeakiest wheels with grease.
Open-plan offices
Not every country will opt for radical transparency. Even Nordic governments continue to tweak their policies: in 2014 Norway banned anonymous searching of its tax database, so citizens could see who had nosed around their finances. But increased openness about pay could improve both the fairness and the functioning of the economy. When pay is public, it is not the justifiable inequities that create the most discomfort, but those firms cannot defend.
Will corporate tax cuts boost workers’ wages?
A White House report puts economists at each others’ throats
Oct 26th 2017| WASHINGTON, DC
THE president’s tax promise has always been clear: he will reduce the amount middle-earners, but not rich Americans, must pay. Yet every time Donald Trump releases a plan, analysts say it does almost the opposite. The Tax Policy Centre, a think-tank, recently filled in the blanks in the latest Republican tax proposals and concluded that more than half of its giveaways would go to the top 1% of earners. Their incomes would rise by an average of $130,000; middle-earners would get just $660. The White House maintains that tax reform will deliver a much heftier boost to workers’ pay packets. Who is right?
The disagreement boils down to who benefits when taxes on corporations fall. The Tax Policy Centre says it is mainly rich investors. But in a report released on October 16th, Mr Trump’s Council of Economic Advisers (CEA) claimed that cutting the corporate-tax rate from 35% to 20%, as Republicans propose, would eventually boost annual wages by a staggering $4,000-9,000 for the average household.
The claim has sparked a debate among economists that is as ill-tempered as it is geeky. Left-leaning economists are incredulous. Writing in the Wall Street Journal, Jason Furman, who led the CEA under Barack Obama, pointed out that if the report is right, wage increases would total about three to six times the cost of the tax cut. Larry Summers, a former treasury secretary, wrote that if a student submitted the CEA paper, he “would be hard pressed to give it a passing grade”.
Conservative economists, such as Gregory Mankiw of Harvard University and Casey Mulligan of the University of Chicago, have responded with a barrage of algebra and diagrams. They note that taxes, because they distort incentives, can cost the economy more than they raise in revenues. Economists call the extra cost “deadweight loss”. Once it is reclaimed, tax cuts could benefit workers and firms by more than they cost the Treasury. For instance, investment might rise after corporate taxes fall, sparking competition for workers and pushing wages up. What’s more, standard theory says that, in a small economy integrated with global markets, workers will pay for taxes on capital, because firms can up sticks when levies rise.
Paul Krugman and Brad DeLong, two left-wing economists, have fired back their own Greek and graphs, laced with snark. But Messrs Mankiw and Mulligan showed that the CEA’s prediction is at least logically possible. That does not mean it is reasonable. There are three reasons to doubt it.
First, to calculate its figures, the White House relied on two studies, neither from a peer-reviewed journal, of how wages have varied with corporate-tax rates internationally and across American states. A recent review of such papers, by Jane Gravelle of the Congressional Research Service, found both to be statistically flawed. In any case, Mihir Desai of Harvard Business School, who co-wrote one of them, says that the CEA misinterpreted his work. If you assumed the corporate tax creates a deadweight loss worth ten times the revenue it raises, you might justify the CEA’s numbers, he says. But that is implausible. (As The Economist went to press, the CEA was preparing a second report using other methods to justify the figures.)
Second, the American economy is plainly not small. This makes capital less flighty. And although it may have become more mobile because of globalisation, many investment opportunities in America—in Silicon Valley, say—are hard to replicate elsewhere. This also makes a high corporate-tax rate less likely to send investment abroad.
Third, the White House’s analysis ignores other features of the Republican tax plan, like a proposal to switch to a “territorial” corporate-tax system. Because this would stop taxing the foreign profits of American firms, it might actually encourage investment abroad. And if, as is likely, the tax cut is financed by borrowing, it is likely to push up interest rates and the dollar. That would create an economic drag.
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The White House has rushed to include the CEA’s paper in its argument for tax cuts. Yet the estimate is more than a little optimistic. There is no clear relationship between recent corporate-tax cuts and wage growth in rich countries (see chart). Even the Tax Foundation, a think-tank that looks favourably on corporate-tax cuts, predicts a much smaller wage boost. Should Republicans get their way, Americans can expect a pay rise—just not a bumper one.
How should recessions be fought when interest rates are low?
Both monetary-policy and fiscal-policy answers remain contentious
Oct 21st 2017
ONE day, perhaps quite soon, it will happen. Some gale of bad news will blow in: an oil-price spike, a market panic or a generalised formless dread. Governments will spot the danger too late. A new recession will begin. Once, the response would have been clear: central banks should swing into action, cutting interest rates to boost borrowing and investment. But during the financial crisis, and after four decades of falling interest rates and inflation, the inevitable occurred (see chart). The rates so deftly wielded by central banks hit zero, leaving policymakers grasping at untested alternatives. Ten years on, despite exhaustive debate, economists cannot agree on how to handle such a world.
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During the next recession, the “zero lower bound” (ZLB) on interest rates will almost certainly bite again. When it does, central banks will reach for crisis-tested tools, such as quantitative easing (creating money to buy bonds) and promises to keep rates low for a long time. Such policies will prove less potent than in the past; bond purchases are less useful, for instance, when credit markets are not impaired by crisis and long-term interest rates are already low. In the absence of a solid policy consensus, the use of any unorthodox` tool is likely to be too tentative to spark a fast recovery.
Broadly, economists see two possible ways out, both aired at a recent conference run by the Peterson Institute for International Economics, a think-tank. One is to change monetary strategy. Ben Bernanke, chairman of the Federal Reserve during the crisis, proposed a clever approach: when the economy next bumps into the ZLB, the central bank should quickly adopt a temporary price-level target. That is, it should promise to make up shortfalls in inflation resulting from a downturn. If a recession causes below-target inflation for a year, the central bank would promise to tolerate above-target inflation until prices reach the level they would have attained without the slump.
If credible, that promise should buck up animal spirits, encourage spending, and drag the economy back to health. Raising inflation targets would reduce the frequency and severity of ZLB episodes. It would, however, force households to accept higher inflation all the time, rather than just in the aftermath of a severe downturn. A permanent price-level target, for its part, would force central banks to respond to an inflation-increasing blow to the economy—such as a big natural disaster—with rate rises, piling on pain in such cases. Less clear is whether a central bank could fulfil its promise. The Fed has failed to hit its 2% inflation target for the past five years, after all. Mr Bernanke’s proposal would do little good if markets doubted a central bank’s ability to fulfil its promise to deliver catch-up inflation.
The constraints facing central banks suggest better hopes for the second way forward—greater reliance on fiscal policy. This was the theme of a contribution to the conference from Olivier Blanchard and Lawrence Summers, crisis veterans from the IMF and the American administration, respectively. Before the crisis, economists used to dismiss fiscal policy as a recession-fighting tool. Stimulus was clumsy, slow and, given the control exercised by central bankers, unnecessary. But with interest rates near zero, stimulus might be the most effective way to boost demand—so long as the central bank is willing to play along. Recent history, however, suggests that it could certainly not be relied upon to do so. In 2013, the Fed announced it would begin reducing its asset purchases, despite low and falling inflation and an unemployment rate above 7%—conditions which might elicit a fiscal stimulus from an anxious government. More government spending in such cases, if deemed likely to raise inflation, might simply prompt a central bank to move forward its timetable for tightening. That would dampen—and perhaps offset entirely—the effect of the fiscal stimulus.
The dawn of a new error
So fiscal and monetary policy would have to be closely co-ordinated—amounting, in all likelihood, to a loss of central-bank autonomy. A central bank that stood by as fiscal stimulus pushed inflation above its target has in effect relinquished its independence. One that stubbornly raised rates as elected leaders sought to boost growth would quickly find its position politically untenable—much as the Federal Reserve did after the election of Franklin Roosevelt in 1932. Just how troubling a loss of independence would be is intensely debated. Messrs Blanchard and Summers are themselves at odds on it: Mr Summers is open to relaxing independence; Mr Blanchard worries that politicised central banks might have been too timid during the crisis, just as many governments turned too quickly to austerity. Other economists cite a more common fear: that governments would inevitably push for too much monetary stimulus, accelerating inflation.
Central-bank independence was an institutional response to the inflation of the 1970s, just as government business-cycle management was a response to the Depression. But the rules that underpinned the conditions of the 1970s seem no longer to apply. For a decade (more, in Japan) inflation and interest rates have limped along at historically low levels, even as government debts ballooned and central banks created piles of new money. That presents a significant problem for prevailing institutions, but also for conventional macroeconomic wisdom.
In the 1970s, an intellectual shift within economics took place in tandem with the change in policy practice. The discipline could explain why predictable monetary policy set by independent central banks was preferable to a government’s attempts to spend its way to full employment. Yet things need not unfold that way this time. With economists at odds as future ZLB episodes loom, the example of the 1930s might be more apt. Then populist politicians struck out in unorthodox new directions, for better and occasionally much worse. It was only later that experts could settle on a coherent narrative of the crisis and recovery. That is not the ideal way forward. Yet it may be the only option available.
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