Global Minimum Wage System Needed for Economic Recovery

By Thomas Palley
Financial Times Economists' Forum
Via Talking Union
July 18, 2011

http://talkingunion.wordpress.com/2011/08/04/a-global-minimum-wage-system-needed-for-economic-recovery/

The global economy is suffering from severe shortage of
demand. In developed economies that shortfall is
explicit in high unemployment rates and large output
gaps. In emerging market economies it is implicit in
their reliance on export-led growth. In part this
shortfall reflects the lingering disruptive effects of
the financial crisis and Great Recession, but it also
reflects globalization's undermining of the income
generation process. One mechanism that can help rebuild
this process is a global minimum wage system. That does
not mean imposing U.S. or European minimum wages in
developing countries. It does mean establishing a
global set of rules for setting country minimum wages.

The minimum wage is a vital policy tool that provides a
floor to wages. This floor reduces downward pressure on
wages, and it also creates a rebound ripple effect that
raises all wages in the bottom two deciles of the wage
spectrum. Furthermore, it compresses wages at the
bottom of the wage spectrum, thereby helping reduce
inequality. Most importantly, an appropriately designed
minimum wage can help connect wages and productivity
growth, which is critical for building a sustainable
demand generation process.

Traditionally, minimum wage systems have operated by
setting a fixed wage that is periodically adjusted to
take account of inflation and other changing
circumstances. Such an approach is fundamentally flawed
and inappropriate for the global economy. It is flawed
because the minimum wage is always playing catch-up,
and it is inappropriate because the system is difficult
to generalize across countries.

Instead, countries should set a minimum wage that is a
fixed percent (say fifty percent) of their median wage
- which is the wage at which half of workers are paid
more and half are paid less. This design has several
advantages. First, the minimum wage will automatically
rise with the median wage, creating a true floor that
moves with the economy. If the median wage rises with
productivity growth, the minimum wage will also rise
with productivity growth.

Second, since the minimum wage is set by reference to
the local median wage, it is set by reference to local
economic conditions and reflects what a country can
bear. Moreover, since all countries are bound by the
same rule, all are treated equally.

Third, if countries want a higher minimum wage they are
free to set one. The global minimum wage system would
only set a floor: it would not set a ceiling.

Fourth, countries would also be free to set regional
minimum wages within each country. Thus, a country like
Germany that has higher unemployment in the former East
Germany and lower unemployment in the former West
Germany could set two minimum wages: one for former
East Germany, and one for former West Germany. The only
requirement would be that the regional minimum wage be
greater than or equal to fifty percent of the regional
median wage. Such a system of regional minimum wages
would introduce additional flexibility that recognizes
wages and living costs vary within countries as well as
across countries. This enables the minimum wage system
to avoid the danger of over-pricing labor, while still
retaining the demand side benefits a minimum wage
confers by improving income distribution and helping
tie wages to productivity growth.

Finally, a global minimum wage system would also confer
significant political benefits by cementing
understanding of the need for global labor market rules
and showing they are feasible. Just as globalization
demands global trade rules for goods and services and
global financial rules for financial markets, so too
labor markets need global rules.

In sum, globalization has increased international labor
competition, which has contributed to rupturing the
link between wages and productivity growth. That
rupture has undermined the old wage based system of
demand growth, forcing a turn to reliance on debt and
asset price inflation to drive growth. It has also
increased income inequality. Restoring the wage -
productivity growth link is therefore vital for both
economic and political stability. A global minimum wage
system can help accomplish this.

Dr. Thomas Palley is an economist living in Washington
DC. Dr . Palley has recently started a project,
Economics for Democratic & Open Societies. Visit his
blog here.

He was formerly Chief Economist with the US China
Economic and Security Review Commission. Prior to
joining the Commission he was Director of the Open
Society Institute's Globalization Reform Project, and
before that he was Assistant Director of Public Policy
at the AFL-CIO.

This post was published in the FT Economists' Forum,
July 18, 2011. This proposal is drawn from Chapter 12,
"The Challenge of Globalization" in Palley's book From
Financial Crisis to Stagnation: The Destruction of
Shared Prosperity and the Role of Economic Ideas,
Cambridge: Cambridge University Press, forthcoming
2011.

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