The Wage Curve.
Ewing, Bradley T.
Few books have received as much attention as The Wage Curve. But
then, few books have as much to offer as this one. What does this book
offer? Blanchflower and Oswald might say that it merely documents the
existence of an empirical "law" of economics. The opening
quote to chapter 5 by Ronald Coase more appropriately sums up the books
addition to economics: "Inspiration is most likely to come through
the stimulus provided by the patterns, puzzles and anomalies revealed by
the systematic gathering of data, particularly when the prime need is to
break our existing habits of thought" [p. 209]. The Wage Curve lays
the groundwork for new ideas.
The link between macroeconomics and labor economics is fundamental to
the study of economics. However, traditional treatment of the subject
has viewed the labor market as competitive. Wages and unemployment are
positively related, stemming from a Harris-Todaro theory of compensating
differentials. The macroeconomics literature is full of stylized facts,
relationships that are found to hold so much of the time that economists
accept them as fact. Stylized facts are not found as readily in the
labor literature. Through the use of microeconomic data Blanchflower and
Oswald document the existence of a negative relationship between local
unemployment and wages. Labor markets do not work in the classic
textbook manner. Wages are high in places with low unemployment and low
in regions with high unemployment. The pattern appears to hold by
industry sector, as well. A new stylized fact has emerged.
The first three chapters of the book provide the reader with an idea
of what Blanchflower and Oswald set out to do and why. There is a
thorough discussion of previous research on wages and unemployment
across space. Given the results to date, one can not help but conclude
that the evidence "is not reconciled with the textbook model of the
labor market" [p. 36]. A chapter is devoted to theoretical issues
and may be considered lengthy to most labor and regional economists.
Basically, Blanchflower and Oswald describe and develop models that
predict wages to be negatively related to local rates of unemployment.
Contract theory, efficiency wage models, and bargaining models are all
discussed in a regional setting. The authors are careful to point out
that they do not totally disregard the theory of compensating
differentials.
Evidence of a wage curve for the United States is presented in
chapter 4. At this point the book becomes really exciting. A
particularly interesting finding is that both regional unemployment and
industry unemployment affect wages less in union jobs in the private
sector. Further, it is found that in the public sector, both industry
and regional unemployment have insignificant effects on the wage
regardless of union status. Such an important finding is not given any
real explanation, and the reader is left wondering why. Most of the
results are found using Current Population Survey data. It is somewhat
puzzling that Blanchflower and Oswald begin their study of the wage
curve using a rather obscure data set known as the U.S. General Social
Survey. Several problems are readily apparent and well noted by the
authors. First, the GSS only contains information on nine regions.
Certainly not enough to convince the hard line orthodoxy of a new
empirical law. Second, the income variable is "grouped" and
open-ended, a problem often dealt with in the literature by using a
maximum likelihood method of estimation. In any event, the GSS results
provide support for a wage curve, but their significance is only
marginally convincing.
Further tests of a U.S. wage curve are presented in chapter 5 where
three important issues are considered. The first issue concerns the
interpretation of the pattern found in the data. The authors
satisfactorily provide evidence that the wage curve is not a labor
supply curve. The log of the unemployment rate does not appear to be a
mis-measured labor force participation variable. Further, including
profitability measures does not invalidate the wage curve finding.
Perhaps most importantly, instrument variable estimations support the
notion that simultaneity between wages and unemployment does not affect
the wage curve estimates.
A professor I had in graduate school once told me that a
macroeconomic relationship that is true in the United States ought to
hold in other countries. Blanchflower and Oswald must be from the same
school of thought. Chapters 6-8 describe their findings from
multi-country analysis of the wage curve. The focus of these chapters is
to provide evidence of a "deep economic phenomenon." The
patterns uncovered are remarkably similar to that found in the United
States. The empirical law of a wage curve stands up to the considerable
differences in economic activity, cultures and institutions, and labor
markets found in various countries.
There is an absence of diagnostic tests of the estimating equations
common in the labor economics literature. Little, if any, discussion on
the estimator properties and error processes is presented in the book.
Though the brute force method is convincing enough in this case,
statistical tests that provide support for the estimation procedures are
lacking. This is particularly surprising given Blanchflower and
Oswald's use of such modern estimation techniques as random effects
models.
Labor economists can now point to a collection of empirical evidence
that finds local wages are inversely related to the local unemployment
level. A result that many who argue non-competitive models of the labor
market more aptly characterize the real world find easy to believe, but
others are often quick to discard. The data are consistent with both
bargaining models and efficiency wage theory. The book does not go far
enough in distinguishing which theory is driving the result. The
empirical regularity of a wage curve may lead to a new macroeconomic
theory where non-competitive models of the labor market play a dominant
role. Thank you Professors Blanchflower and Oswald for providing this
useful resource and for providing the inspiration for further research
into what is behind the stylized fact that wages and local and industry
unemployment are negatively related.
Bradley T. Ewing Georgia Southern University