It is alleged that Chancellor George Osborne and the Treasury plan to scrap national pay rates for some public sector workers in the UK. The reason? Well, public sector unions argue that the government is simply trying to save money and help it to reduce taxes on the rich. But the rationale given by the Treasury for the proposal is the variation in private sector salaries for comparable jobs across the regions of the UK. With public sector workers paid the same for similar jobs across the country the regional gap between public and private salaries varies considerably. So the FT notes that
The Treasury estimates that the so-called "pay premium" between public sector jobs and their private sector equivalents ranges from 0.5 per cent in the south-east to 18 per cent in Wales. ... Mr Osborne sees the move as a way of ensuring public sector pay reflects local market conditions and of avoiding private sector employment being crowded out in poorer areas of the country.
There is folly, insight and potential unintended consequences in Osborne's proposal.
The folly lies in the implication that lack of job creation in some regions of the UK is due to civil service wages being too high relative to private sector wages. At the present time the UK is labouring under a significant deficiency of aggregate demand with the unemployment rate at 8.4%. This is affecting all UK regions and nations. Some regions such as the North East are more affected by the drop in aggregate demand hence their high unemployment rates. Because of this the rate of growth, and possibly the level, of private sector wages paid is low relative to the public sector. With such a deficiency of demand and high levels of unemployment and spare capacity it doesn't make sense to argue that public sector activity is crowding out the private sector. Indeed, cutting public sector wages or restricting their growth relative to the private sector will limit the growth of demand further and so contribute to the problem of relative demand deficiency in such regions.
The insight in the proposal for regional pay lies in the possibility that in more normal times, when the regional economies of the UK are closer to full employment – more technically, closer to the non-accelerating inflationary rate of unemployment (NAIRU) or the 'natural' rate of unemployment – a lowering in public sector wages relative to the private sector could help boost the competitiveness of the local private sector. And this particularly in regions/nations where the public sector is relatively large. In such circumstances, the price effect on private sector competitiveness is likely to be more significant than the effect on regional aggregate demand of the incomes of public sector workers being a little lower.
But even if there was a positive effect on private sector competitiveness would lowering or slowing the rate of growth of public pay in so-called 'poorer' regions be warranted?
In simple theory, a market economy will pay workers according to the value of their marginal product. It is difficult to argue that the productivity of a nurse, or any other public sector worker, at the margin is lower in the North East than London. However, if prices and incomes are lower in the North East then the value in monetary terms placed on the work of the nurse might be lower. This might justify a lower wage than in London. But who is to determine the monetary value placed on the provision of a public good in a region such as the North east? Should it really be left to the UK Chancellor of the Exchequer?
An alternative view that chimes better with the ethos of regional variation and the rejection of national pay is that it should be the people in the North East themselves, who should decide. But to do that they would require a government that raises and spends taxes in the region according to regional preferences. In other words, it seems to me that the logic of regional variations in public sector pay is fiscal federalism with regional governments having responsibility for a range of taxes and the provision of public services including setting the pay rates of public workers.
Scotland has already gone a considerable way down this route and is likely to go further. While John Swinney, the Scottish Cabinet Secretary for Finance and Sustainable Growth has said that
the Scottish government will go absolutely nowhere near this proposal for the areas of pay policy that are under our control.
It does seem likely that the Scottish government will eventually pay its public sector workers according to how it values their services and according to what it can afford. It will not let London decide. The English regions might eventually follow Scotland's lead.
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