Price deflation isn’t necessarily a bad thing if it is short-lived and does not lead to downward pressure on wages. But falling wages produces a nasty spiral. Not only do consumers have less to spend, but worse, even if they keep their jobs, they can be legitimately worried about even lower pay packages down the road.
Of course, wages may simply fall in correspondence with prices, purchasing power could be maintained. But with memories of gas and food price rises still fresh (and I am still seeing meaningful food price increases), workers have good reason to be concerned that their standard of living could fall. And that does not include the nasty factor that most consumers are carrying debt, both mortgage and personal which is unlikely to deflate in line with a reduction in earnings (although Bernanke is doing everything in his power to engineer that)
And even if that wage earner squeeze is illusory (ie, deflation is symmetrical enough that his standard of living is intact), he is exposed to commodity price increases. Fed policy is indifferent to the dollar; in fact, Bernanke would probably like to see it considerably lower, since the 1934 devaluation played a big role in putting the US back on the growth path (policy errors in 1937 put the recovery in reverse). But, say a 30% to 40% fall in the dollar means considerably higher energy and food prices, which hit the vulnerable particularly hard.
Fedex is cutting pay 5%. In the UK, tens of thousands of workers are having an extended Christmas holiday as employers shut down through Jan. 19 to conserve cash. Cerberus has offered its New Page (coated paper mills acquired from Mead WestVaco) union employees a four-year contract with no wage increases the entire time, benefit cuts, and reduction of overtime. That’s tantamount to a pay cut.
The New York Times gives more examples of pay reductions, generally in the form of short workweeks or unpaid vacations. However, the Times candy-coats this development, presenting it as a “win-win” that saves jobs, as opposed to a further grinding down of workers who have had stagnant real wages since the mid-1970s. Admittedly, so far employees have reportedly gone along with these moves. But I must cynically note that everyone quoted in the article is either a manager, an expert (a consultant or academic) or if a worker, was presumably interviewed with management’s knowledge. And let’s face it, labor has no bargaining power in the US. Acquiescence is the only option.
From the New York Times:
A growing number of employers, hoping to avoid or limit layoffs, are introducing four-day workweeks, unpaid vacations and voluntary or enforced furloughs, along with wage freezes, pension cuts and flexible work schedules. These employers are still cutting labor costs, but hanging onto the labor.
And in some cases, workers are even buying in. Witness the unusual suggestion made in early December by the chairman of the faculty senate at Brandeis University, who proposed that the school’s 300 professors and instructors give up 1 percent of their pay.
“What we are doing is a symbolic gesture that has real consequences — it can save a few jobs,” said William Flesch, the senate chairman and an English professor.
He says more than 30 percent have volunteered for the pay cut, which could save at least $100,000 and prevent layoffs for at least several employees. “It’s not painless, but it is relatively painless and it could help some people,” he said….
At some companies, employees are supporting the indirect wage cuts — at least for now. The downturn hit so hard, with its toll felt so widely through hits on pensions and 401(k) retirement plans and with the future so murky, that employers and even some employees say it is better to accept minor cuts than risk more draconian steps.
The rolls of companies nipping at labor costs with measures less drastic than wholesale layoffs include Dell (extended unpaid holiday), Cisco (four-day year-end shutdown), Motorola (salary cuts), Nevada casinos (four-day workweek), Honda (voluntary unpaid vacation time) and The Seattle Times (plans to save $1 million with a week of unpaid furlough for 500 workers). There are also many midsize and small companies trying such tactics.
To be sure, these efforts are far less widespread than layoffs, and outright pay cuts still appear to be rare. Over all, the average hourly pay of rank-and-file workers — who make up about four-fifths of the work force — rose 3.7 percent from November 2007 to last month, according to the latest Labor Department data.
Watson Wyatt, a consulting firm that tracks compensation trends, published survey data last week that found that 23 percent of companies planned layoffs in the next year, down from 26 percent that said they planned to do so in October. Companies say they are considering other cost cuts, like mandatory holiday shutdowns, salary freezes or cuts, four-day workweeks and reductions of contributions to retirement and health care plans.
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So, tell me Harvard, why is it that in a contracting economic base with wage deflation, the eradication of millions of jobs and the shattering of personal savings brought on by our current economic malaise?
Why is it that we are going to bring in 500,000 temp visa people (h1b and L1) on top of the 1 million supposedly jobless new immigrants?
Why is it that every academic pundit pushes the flooding of labor markets with more bodies on the misguided belief that supply makes its own demand?
There is no rationale here, except debasing US workers. And this crap of their being the best and brightest is just crap.
Astound me with an answer that does not involve cactus eating cats!
Yves this is something that I’ve recently been wondering about but dared not express because the two camps seem to come down to “there will be no deflation because the fed won’t allow it” vs. “deflation is purely a monetary supply phenomenon but the fed can’t stop it.”
To me it seems that both camps are right so we might have the worst of both worlds. I don’t see how there can’t be inflation considering the fed intervention, but wage inflation seems even more far fetched…so I was leaning towards domestic deflation due towards lack of lending and purchasing but import inflation due to dollar devaluation. This seems to me that it might turn into even worse than the Great Depression because our food supply is so greatly dependent on petroleum products.
Also, couldn’t this create a positive feedback loop of its own? If we had domestic deflation then it would reduce revenues and destroy domestic industry, making it more difficult to pay off our government debt, but on the other hand the massive amount of $ in the world would make demand low internationally…and any attempt to correct either side would make things even worse once these dynamics set in.
Anyway, thanks. I pray that this is inaccurate.
I will take a 4 day workweek over a salary cut any time. If you are going pay me less, at least don’t expect me to work as hard.
Anon of 1:26 AM,
I believe that Bernanke genuinely thinks he is doing the right thing, and is completely blind as to how his world view has been distorted by both ideology (the idea that financial innovation is every and always a good thing, for instance) and by being overly reliant on Wall Street for information (the inevitable consequence of opaque markets becoming hugely important). When Willem Buiter accused the Fed of “cognitive regulatory capture” at Jackson Hole, they reacted like stuck pigs.
I am NOT saying that what Bernanke is doing will work; I have expressed considerable doubts elsewhere.
Anonymous 1:21
“I’m sure you’re among the very few that even noticed that deflation is not always and necessarily a bad thing as well as that some prices are still rising.”
Mish has long said that the best thing for dealing with long term government liabilities would be for them to accept deflation, refinance all their current debt (plus 50% increase or so) at 2-3% 30 year rates and then wait for deflation to expend itself. It would be a terribly difficult time, but he thinks that after it was over then we’d be in a lot better shape than we are now. I can’t say I disagree.
The problem is that they are trying to engineer a solution that will put off large decreases in standard of living and thus believe deflation is the worst possible outcome. I think that avoiding the decrease is impossible, and that deflation’s “reset” mechanism allows for eventual rebirth while massive inflation just guarantees bankruptcy. If we had spent $1 trillion or so shoring up food supplies/distribution and figuring out how to keep people in houses with the heat on things probably would not have been dire on a basic needs level.
If we have domestic deflation and import inflation, well then I’m not so sure.
Yves – I got the incorrect impression that you were giving Bernanke more credit than he deserved in this case.
Given everything else you’ve consistently written I got a case of cognitive dissonance.
You’re probably right about Bernanke’s (delusional) motivations. Further proof, if we needed it, of otherwise intelligent people’s amazing ability to rationalize just about anything.
Many thanks and keep up the great work!
Mikkel – I agree with that assessment. To me this becomes especially clear when considering that so much of the “wealth” of recent years was nothing of the kind. So an adjustment to reality is inevitable and the question should only be how to minimize collateral damage.
What the Fed/Treasury are doing is the exact opposite. I think the damage will be directly proportional to the traction they’re able to get.
I am amazed at how many people seem to think they can inflate away the problem. They can cerainly inflate, but if they do the problems will only be worse, except perhaps for the biggest banks. While that’s probably no coincidence, there is no assurance that even that part will work – especially if we end up with a currency collapse.
Falling wages per se do not cause a spiral. It’s possible to have healthy deflation in a free market, in both wages and prices. It could be that prices fall much more rapidly than wages. And of course this is what would happen if we had honest money (i.e., a commodity money standard without fractional reserve banking)
Wage deflation is underway because aggregate demand is crashing and there is no way around it. Our economy needs to be entirely restructured to meet our new paradigm. That new paradigm is that we spent too much over the last 30 years amassing 350% of GDP or $50 trillion in aggregate U.S. debt and that debt bubble has been popped by this banking crisis.
The new paradigm is a lower standard of living for all which is why the well off will have to be asked for much more in the way of taxes. The taxes must be used to build a platform under the public including Medicare for All, longer unemployment benefits and much higher wage cutoffs for food stamps, housing and day care. It may even go so far as a shortened work week from here on out.
A public utility banking model will address funding new and extended programs as well as set the stage for a sustainable economy.
What is important is that the suffering is shared across the board.
The only reason that I can think of why we have to give money to hedge funds is if they threaten the end of the financial world like the rest of the criminals out there in derivative delusion.
Why is there no public exposure and debate about these trillions of instuments of questionalble risk and legality?
Mikkel – “The problem is that they are trying to engineer a solution that will put off large decreases in standard of living and thus believe deflation is the worst possible outcome.”
Yes, and the political imperative means “they” could never, ever admit to acquiescing to a meaningful decline in living standards, however necessary and inevitable. By trying to put off the evil day, “they” will sustain themselves in power just a bit longer, whilst just making things a lot worse.
On the good side,perhaps our problems will lead us to a 30 hour work week so that all the people of working age can have a job? I think a 30 hour week is about the right amount of time to work for someone else. When you add in commuting and morning prep time, you are up to about 40-45 hours total.
Also, with unemployment high and getting higher, I wonder if the birth rate will decline? Do parents want to bring children into an unstable world?
Shorter work week with proportional pay would under normal circumstances be best because your compensation would not fall as much, and it is easier to find other work (if that is your decision) while you are still employed.
One potential problem if it goes on two long is that if you are eventually laid off your unemployment compensation may be lowered by your lower compensation during the benchmark time period.
In my profession, architecture, where some firms have already laid off 40-50% of junior-to-mid level staff, requests are being made for mid-to-senior level people to take real pay cuts (not just a decline in hours). A month ago, I was invited to submit to a 20% haircut. Thanks to my ability to survive without working and my unique situation where it would cost much more to replace me, I politely called their bluff. But most people in my profession don’t have my situation and they are quietly submitting to similar requests. And why not; if you need the income to survive then taking a 20% cut is better than the alternative, a 100% layoff into a flooded job market. The managing partners are currently doing a triage of who is desperate and who is not. If the partners can get away with it, those mid-to-senior employees who stand tough (and have no immediate project commitments) will be shown the exit (they will nail me the first chance they get!). Those who submit to less pay will almost certainly be asked for further concessions in the coming months.
It really is a jungle out there.
mmckinl said…
“What is important is that the suffering is shared across the board.”
That’s what happened with the decline of the Dutch and English empires, according to Kevin Phillips in his book “Wealth and Democracy.” There were 90% tax rates and similar inheritance taxes, devastating the wealth of the upper classes, but instrumental in cushioning the impact of the decline for the majority of the people.
That outcome is not assured as the American empire declines, however. As Phillips points out, advocates of free market ideology in the United States have conflated “free” markets with democracy, falsely portraying them as one and the same. Unless the confusion between economics and society is cleared up, plutocracy is also a possilbe outcome.
The comments here about wage deflation echo the post-’29 crash era. One small anecdote: my grandfather was lead Customer’s Man for a brokerage house in Chicago in 1929. During the 1920s he followed the rich crowd down to Florida in the winter and telegraphed in their commodity and stock orders. When business first slowed he tried to get his colleagues, themselves skilled telegraphers with customer relationships, to share jobs and accept a 4-day workweek on the basis that 50 families with 80% salary was better than 40 with 100% and 10 with none.
His colleagues did not go for it, and he literally turned out the lights a few years later. Your ‘beggar thy neighbor’ thread today touches on the same impulse.
Also, re the 3.7% increase in hourly pay–wasn’t there an increase in the minimum wage in the past year? If so, that 3.7 is probably tied in no small part to the mandatory raise.
In the current circumstances, deflation is disaster. We already have too much debt – for everybody. As we deflate, the debt *increases* in real terms. How can anybody support deflation? Is 350% of GDP in debt not enough for you?
I find the current situation terrifying. We have massive bankruptcies, a liquidity trap going on 2 months now and spreading up to higher and higher durations, and now anecdotal reports of wage deflation. That’s Fisher’s debt deflation cycle: more real debt causes more bankruptcies which shrinks the economy which causes deflation which increase the (real) debt burden which … Once it’s on it can continue forever based on historical results. All the countries in the Great Depression continued down without limit until they did a massive devaluation.
The problem is complicated by the fact that nobody knows what money is right now. M1 isn’t deflating, yet, although it’s close. M2 is still increasing. But all the evidence is that we are deflating, at least in the Fisherian sense, so it seems we don’t have a good measure. That’s really not a shock to anybody who’s been paying attention for the past 20 years – monetarist theory stopped working in the 80’s and changes in what “money” is are the standard explanation. But it’s still a problem.
In regards to tax-hike proposals in the US, proposals to reinvigorate labour, and the possibility of Wall Street ultimatums (we’ve already seen them in Canada with ABCP holders), how does capital flight/ tax havens figure into this scenario?
ignorantmike
Esp. in reference to FairEconomist’s deflation terror:
What is supposed to be so scary is that deflation means that people’s debts increase while their incomes decrease…making it progressively harder to for them to pay the debts back, right?
Well, if that’s truly the primary fear, why the focus on the absolute value of the inflation rate (positive vs negative)? The fact is, debts have been increasing FASTER than incomes for many years, much faster than low, but positive, inflation. That’s how we even got to 350% in the first place!
Only now that the absolute value of the inflation rate is turning negative, and suddenly we’re scared stiff (even though we’re not actually adding to private debt much any longer)???
We’ve been focused on the wrong statistics all along. If we accumulated debt at a rate of 20% faster than income growth, and now we get wage deflation of -5%, say, but add no more debt (or even pay down 2%), seems to me we’re well past the peak of the problem we’re so frightened of. But this also means we’re already in the hole in terms of paying back our debts. A minor wage deflation won’t make much further difference.
What do you think, FairEconomist?
“But, say a 30% to 40% fall in the dollar means considerably higher energy and food prices, which hit the vulnerable particularly hard”
If that means Joe SixPack has to eat less and take a bike to work, he might actually get a six-pack where it belongs..
I work for a state agency; we’ve been told that due to falling tax revenue amounts we may be forced next year to take a 10% pay cut in the form of working only 36 hours/week (4 9 hour days).
Needless to say, no one’s buying big ticket items, no one’s looking to buy homes, no one’s spending a lot for Christmas, and everyone’s taking a bunker mentality. This isn’t definite yet, but everyone’s taking a “if it is, let’s prepare now” attitude.
“I will take a 4 day workweek over a salary cut any time. If you are going pay me less, at least don’t expect me to work as hard.”
Well, as a manager, a 4 day workweek would mean doing 5 days of work in 4 days…still the expectation…but I guess that would be OK. More time to volunteer or spend with the children.
…but will wages rise as fast as they fall once conditions return to semi-normal? Wage manipulation by corporations is the best weapon in ensuring that labour never gains a bigger share of the economic pie and in times like this, corporates are able to claim a large slice of the pie. Corporates cry ‘wage cuts’ to ensure the companies survival yet protest against wage increases as inflationary. There is some merit to cutting wages to save jobs but give the history of corporates, trust to the right thing is non existent.
From the FairEconomist:
“How can anybody support deflation? Is 350% of GDP in debt not enough for you?”
I thought it worth pulling out of your post and letting it just stand out. Wouldn’t it be wonderful if the rest of economy (outside banks) could write-down 40% if their total debts. Might make managing the debt situation more manageable. I am sure this would require a capital injection directly from the US Treasury to recapitalize over-indebted Americans who were encouraged or shall we say induced by the lenders to borrow to their hearts content.