Naturally, humans are willing to receive higher wages and salaries with the hope that it will lead to a better living standard. That is why; they stage strikes and demonstrations demanding higher salaries.
However, salaries have a big impact on the overall economic process, as it is inter-related with almost all the economic variables. Everyone and everything in an economy is interdependent, meaning that a change in one variable will cause more changes in other variables as well. Therefore, it has to be very careful, when making any change in economic variables.
At the outset, it is important to get an idea how salaries get connected with other economic variables. Production factors identified in economics are land, labour, capital and entrepreneurship. Labour is more important than others, especially in a developing economies like ours where majority of enterprises are labour-intensive. Accordingly, an increase in salaries that can be considered cost of the labour can create cost-push inflation. Furthermore, when labor cost goes up, market price of the particular good or service is forced to go up, causing cost-push inflation.
This is again connected with individual income. When one earns higher salary, his purchasing power goes up naturally. Consequently, he can buy more things than he did in the past. When consumers demand more, but suppliers fail to meet the increasing demand, demand-pull inflation makes commodity prices go up.
Nevertheless, if suppliers can meet the demand in the long run, there will be no issue. The problem goes from bad to worse, when consumers spend their money on imported items, because that doesn’t encourage local producers other than creating cash outflows from the economy. High level of imports leads to currency depreciation as well. Furthermore, when people’s salaries are increased, money supply in the economy also goes up, signaling that the economy will be a victim of inflation in the long run.
Salaries and wages should be determined by the demand and supply in the labour market, in order that the best possible wage rate can be given to the most capable employee. This can be seen in the private sector where salaries are fixed based on the individual and departmental performance, because they always make attempts to maximize their profits by reducing labor cost. In other words, for labour is directly connected and calculated with production process, the ability to find labor easily makes it cheaper; meaning that over supply reduces prices even in the labour market.
When it comes to the public sector, the situation is totally different from what can be seen in the private sector. There are some production-oriented as well as service-oriented organizations in the public sector which don’t contribute to the production equally. Even when production-oriented companies are not making profits or subsidized by the government, their salaries cannot be increased under any circumstances. It is needless to say that when one organization that cannot survive in the competition seeks funds from the treasury in order to raise salaries for employees, tax money will be in vain.
An economic mistake committed by this government was that they increased public sector salaries by ten thousand. In fact, this had a huge impact on the overall economy, mainly due to money supply being up in the economy, even though it made sense politically at the election.
Without increasing production capacity in the economy, higher salaries always result in money illusion. It means that inflation has gone up rapidly in comparison to your salary. Accordingly, you have to buy the basket of same commodities or probably a few of them, even despite a salary increment.
Salaries should be up in value, not in digits. This can be done, only when priority is given to produce more. Everyone must understand that higher salaries will not solve their economic problems, as long as they don’t increase their efficiency and productivity in whatever they are engaged in. Finance Minister Mangala Samaraweera recently decried any action to raise salaries and wages, reiterating that the economy is not in a position to do so. Measures must be taken to develop the production sector by turning the consumption-oriented economic pattern into production-oriented economic pattern. Even if everyone buys and consumes, everyone doesn’t produce something for the economy. This is the point that must be changed immediately. Beginning with producing something and thereby adding some values into it is the way forward.
(The writer is an economist)