Economy Hub: Why your pay rise sucked ... but might be better next time

If your latest pay rise sucked, don't panic. You are not alone with wage growth in the doldrums around the world.

The good news is economists think the odds of a bigger bump next time are getting better.

With unemployment at historically low levels (currently 4.4 per cent) and the business community increasingly concerned about labour shortages, the absence of wage growth can seem like a mystery, say Westpac chief economist Dominick Stephens.

But actually about three-quarters of the problem is no mystery at all, Stephens says.

"It's just that inflation is really low," he says. "There are two components to wage increases: one is compensation for the cost of living increases and one is the real wage increase over and above inflation."

For the past several years, Inflation has been persistently stuck at just above 1 per cent - so wage growth has also been low too.

"In the mid-2000s we got used to 4 and 5 per cent wage increases because inflation was 3 or 4 per cent," Stephens says.

But even accounting for low inflation, wage growth does appear to be low relative to where we are in the economic cycle. That does appear to have contributed to a widening of inequality in New Zealand, he says.

Stephens notes that 55 per cent of workers saw no wage increase at all last year. Claims that many New Zealanders are not getting ahead are legitimate.

But the pressure was now building on employers to pay more.

He expects we will see the tight labour market start to drive a pick-up in wage growth over the next year.

But we shouldn't expect those rises to get back to the higher levels of the last decade because inflation is not expected to rise that high.

Government policy will also have some effect on wage growth, Stephens says.

For the past several years Inflation has been persistently stuck at just above 1 per cent - so wage growth has also been low too. Photo / Kenny Rodger

Increases in the minimum wage were quite significant - a rise to $16.50 an hour in April progressing to $20 an hour by 2020.

That will directly affect 20 per cent of workers, Stephens says. It will indirectly affect a further 5 per cent who are earning just above the $20 threshold but who will expect it to flow through.

Critics sometimes argue that minimum wage rises are inflationary, although Stephens doubts that.

However, there is a risk that employers shift their focus from investment in workers to investment in plant and machinery as they look for cheaper ways to grow.

In fact, Stephens' calculations suggest that the minimum wage increases will mean some 8,500 jobs not being created that otherwise might have been - equivalent to a 0.2 per cent increase in unemployment.

Broadly the economy can probably handle this right now. But it is the case that some businesses will struggle to cope, he says.

Ultimately the long-term solution to lifting wages in the economy is productivity growth. That is hard to achieve, he says.

"You can't, with the stroke of a pen, just create more productivity. It's doing what we do better, smarter, running things more efficiently."

The OECD suggests that the key to better productivity in New Zealand lies in education and better international connectivity.