Financial commentator Janine Starks recently called upon employers to lift employee pay rates in line with inflation.  In a Stuff article on 7 May 2022 she was quoted as saying “Right now every worker should be getting a pay rise at least in line with inflation.  To be in line with inflation, that is a smidgen under 7%”.

There is clearly some superficial logic to this proposition, but the reality is that historically average wage increases have not neatly matched inflation.  In fact over the past 10 years wage levels have increased at a greater rate than the rate of inflation.  For this reason unions have not generally hitched their wage claims to inflation in pay negotiations, but have looked to a range of factors including labour market conditions and relativities.

Care needs to be taken in suggesting that employers should therefore bear the brunt of cost of living increases and effectively compensate employees for international and national conditions that are out of their control.  In this regard, it is unlikely that many employers (especially small and medium sized businesses) are actually earning 7% more profit such that this can be passed on. 

Further, while there has been regular reporting about employees’ pay rates going backwards due to increases not matching current levels of inflation, it could be argued that employees have started ahead of the curve if you take the whole of the past 10 years into account.

To understand the fuller picture a comparison needs to be made between price inflation as represented by the Consumer Price Index (“CPI”) and the wage inflation which is captured in the Labour Cost Index (“LCI”).

The CPI measures the general price of goods and services, including imported goods such as oil, and domestic house prices.  Whilst part of the Reserve Bank’s mandate is to manage inflation/CPI levels so that they remain within a range of 1-3%, CPI is nonetheless susceptible to sharp movements driven by both domestic and international factors.

The current spike in inflation/CPI is largely due to increased oil prices resulting from the war in Ukraine and a continued supply chain bottle neck, together with growth in domestic prices, particularly the cost of building a house and shortages of labour and materials.  However spikes of this nature have tended to be relatively short lived, with CPI generally returning to the 1-3% range sooner rather than later.  In terms of the current situation in New Zealand, it is anticipated that the CPI will start to drop again in the second half of 2022.

The LCI, on the other hand, measures the average rate of growth of salary and wages across all sectors and industries.  Unlike the CPI, the LCI has remained relatively static over the past 10 years, averaging around 2% throughout this period.

What this means is that employees in New Zealand have, on average, received pay increases of around 2%, regardless of any peaks and troughs in CPI.  For example in 2014 and 2015 when CPI was between 0% - 1%, the average national wage increase remained just under 2%.  When the LCI and CPI levels are compared across the past ten years, the LCI has outstripped CPI every year up until 2021.

This all points towards a strong argument that reliance on CPI is not a good basis for setting pay rates.  This is because CPI can be subject to short term blips which are not representative of the general trend.  It could also be said that employees are already ahead of the game, based on a comparison of CPI and LCI levels over recent years. 

It is clear that employees expect, and deserve, bigger pay increases given the current financial context.  But this does not mean that a pay increase of 7% is necessarily justified.  Instead what we are seeing is a gradual creeping up of wage levels.  Annual wage inflation rose to 3% in the March 2022 quarter, up from 2.6% in the December 2021 quarter, and Statistics NZ reports that this is the highest annual increase since 2009.  Further, the proportion of employees receiving annual wage increases rose to 64% in the March 2022 quarter, up from 46% in the March 2021 quarter.

Before anyone becomes too animated, I want to be clear that this column is about “cost of living” increases only.  The key point is that there is not a linear relationship between rates of inflation and wage increases. Rather, the past 10 years shows that it is a matter of swings and round abouts.  Whether employees in New Zealand should be paid more for what they do generally is a different issue and one for another day.