LABOUR MARKET REFORM AND THE CAPITAL-PRODUCTIVITY FALLACY

Growth itself consists of capital accumulation which in turn is provided by savings. It is this capital accumulation (what the Austrians call the material means of production) that raises the productivity of labour by constantly changing the capital structure through the process of continually adding more and more complex and productive stages to it. The process can be summed up as such: savings fuel economic growth, entrepreneurship drives it and consumers’ preferences steers it. Therefore the suggestion that union wage demands raise productivity by forcing companies to invest is preposterous. This is just another version of the Ricardo effect which holds that a real rise in the price of labour will cause employers to substitute machinery for labour. Recognising that machinery (capital) raises the value of labour’s marginal product, some people fallaciously concluded that above market wage rates will pay for themselves because employers will be forced to employ more machinery per worker. But investment is limited by the quantity of savings — irrespective of what vulgar Keynesians or post-Keynesians like Davidson suggest. What union wage demands really do is create unemployment, kill marginal investments and cause capital to be misallocated by distorting prices. The last is an important point that is invariably overlooked. Union imposed higher wage rates sometimes causes capital to be shifted from other industries to try and compensate for the union imposed above-market labour costs. It should be obvious, even to Davidson, that this is a suboptimal use of capital goods; that they are now being employed in less productive activities. Instead, he succumbs to the fallacy of composition by misinterpreting such a shift — as have others — as an increase in the total supply of capital goods! If Davidson were right about unions wage pressure forcing up productivity we should therefore find that the most heavily unionised countries would enjoy the highest rates of productivity. During the 1920s the US enjoyed a phenomenal surge in productivity with output per work in manufacturing rising by 43 per cent during that period, even though union membership averaged 9 per cent. On the other hand, productivity and wages in England, Germany and France, where unions were far stronger and much more militant, lagged behind American rates. http://www.freemarketnews.com/Analysis/50/3123/2005-12-08.asp?nid=3123&wid=50&pv=1

Note: http://www.freemarketne...