Wage-setting methods and wage growth in Australia

This analysis has been undertaken by Dick Page, from the Wage Price Index Section of the ABS

Summary:
    • The proportion of Wage Price Index (WPI) surveyed jobs by wage-setting method has changed over time to reflect the changing dynamics of the labour market.
    • Jobs that have wages set by Individual arrangement have the potential to change rates of pay more frequently in response to changes in labour market conditions. The proportion of these jobs recording a wage rise, relative to total jobs, reduced significantly after the Global Financial Crisis (GFC).
    • In 2017, the average contribution to wage growth over the year from each wage-setting method was: 11 per cent for Awards (compared to 10 per cent in 2006); 49 per cent for EAs (compared to 40 per cent in 2006); and 40 per cent for Individual arrangements (compared to 50 per cent in 2006).

Introduction

The Wage Price Index (WPI) measures changes in the price employers pay for labour and provides an indicator of wage growth within the Australian labour market. The WPIs primary function is as a deflator in the preparation of the National Accounts but is also an important tool for informing policy development and macro-economic analysis. The WPI is used by businesses and the general public in setting wages and forming labour contracts.

This article analyses the microdata of the ABS Wage Price Index (WPI) survey to provide insights into the wage-setting dynamics and wage growth in Australia. Section 1 describes the ABS WPI Survey; the three main wage-setting methods in Australia; and allocates each of the WPI surveyed jobs to one of these wage-setting methods. Section 2 examines the contribution of each wage-setting method to wage growth over the period 2006 to 2017, focusing on the changing contribution of wage-setting method to wage growth over time. Section 3 provides some insights and conclusions.

Section 1 – The WPI and wage-setting methods

ABS Wage Price Index Survey

The Wage Price Index measures the change over time in the price of wages and salaries, unaffected by changes in the quality or quantity of work performed, to ensure only pure price changes are reflected in the index.

Information for the WPI is collected each quarter from a sample of private and public sector employers selected from the ABS Business Register, which lists organisations undertaking economic activity in Australia. The survey reference date is the last pay period ending on or before the third Friday of the middle month of the quarter.

In the first quarter that respondents participate in the survey, each employer selects a sample of jobs from their workplace(s) using sampling instructions provided by the ABS, and provides information for these jobs, including detailed pricing specifications. Importantly, the wage-setting method is collected for each job during the selection process. Jobs are tied to employers not employees.

In subsequent quarters survey respondents are asked to provide details of payments made to the current occupants of these same jobs. It is essential that the same jobs are priced in successive quarters to ensure measurement of pure price change, whether the individual job occupants are the same or not. Approximately 18,000 matched jobs are priced each quarter from the selected employers.

An individual job’s influence on the final WPI growth is determined by several factors. A combination of the job’s hourly rate of pay, the number of hours worked and the application of a population weight (to convert the job’s cost into a representative labour cost) are used to construct the building blocks for index creation. The effect of these building blocks on the WPI is then determined by another weighting factor based on the share of total labour expenditure for each building block.

Overall wage growth can be decomposed with the use of several classificatory items, some based on discrete building blocks. This article looks to explore the different wage-setting methods and explain their influence on the WPI over time.

Wage-setting methods

Australian wage-setting methods can be placed into three broad categories. They are: Awards, Enterprise Agreements (EAs) and Individual arrangements.

Award based wages are determined by central bodies which set minimum terms and conditions for employment, including a minimum wage. These are determined according to various economic and social factors. Some state based commissions are still in operation, although these have largely been superseded by the Fair Work Commission (FWC) operating at a national level. The FWC reviews the national minimum wage on an annual basis, with decisions generally taking effect from 1 July each year. These decisions then flow through to the relevant National Awards. For the purposes of this article, all jobs which derive their wage changes from the changes to the award rates of pay will be grouped together.

EAs (also known as collective agreements) set a rate of pay and conditions for a group of employees through a negotiation process and has a set time period of operation. Changes to wages are pre-determined for the life of the agreement (conditions often remain in force after the scheduled expiration whilst a new agreement is negotiated). These agreements are often negotiated on behalf of the employees by a union or elected representatives. The key requirement for EAs is that they must provide for a level of conditions which are at least equivalent to what is set out in the award, referred to as the better off overall test.

Individual arrangements set the wages and conditions for individual employees, sometimes referred to as common law agreements. Timing of the review of these arrangements vary on a case by case basis.


Allocation of WPI jobs to wage-setting method

Each of the 18,000 jobs surveyed by the ABS has been allocated to one of the wage-setting categories.

General findings over the period being analysed show jobs covered under EAs (Enterprise Agreements) make the largest contribution to wage growth, followed by Individual arrangements, with award based jobs making the smallest contribution. At the beginning of the studied period, Individual arrangements made a larger contribution to wage growth than EAs, however this changed post 2008/2009 and the GFC. Awards have recorded the lowest contribution to growth across the studied period.

Table 1 Proportion of Contribution to Wage Growth by Wage-Setting Method1
Wage-Setting Method2006200920142017
Award9.5%7.3%6.9%10.7%
Enterprise Agreement40.4%57.5%49.6%48.8%
Individual arrangement50.1%35.2%43.5%40.5%
1. Percentages shown are based on an addition of the contributions to wage growth over the calendar year by wage-setting method.

Section 2 – The contribution of each wage-setting method to wage growth

By decomposing the quarterly movement of the WPI into separate contributions of each wage-setting method it is possible to analyse the effect of compositional changes over the studied period on wage growth.

Original index movements have been used for this analysis over the period of March quarter 2006 until December quarter 2017. Figure 1 presents the contribution to growth by wage-setting method over this period.

The Individual arrangement wage-setting method is the largest contributor to growth from 2006 to 2013, with the exception of the year following the GFC (2009). From 2013, the main contribution to wage growth shifted, with EA related jobs recording the largest contribution to wage growth.

Figure 1 Australian Wage Growth, 2006 - 20172

2. Total Hourly Rates of Pay Excluding Bonuses, (Original figures)


The timing of changes to wages for Award jobs has varied by state and territory as wage decisions were made by state-based tribunals and the Australian Fair Pay Commission. These decisions historically occurred across most quarters of the year. During the phasing out of the WorkChoices system, the timing of most Award based wage decisions coalesced around the start of the financial year with decisions effective from 1 July each year. Following the FWC decision to freeze the minimum wage in 2009, the contribution from Award based jobs was minimal across this year. From 2011 the contribution from Award based jobs has been relatively stable, with the size of the minimum wage increase averaging 2.9 per cent per year.

The contribution to wage growth by Award based jobs has been lower than the other wage-setting methods over the length of the period being analysed. Award based contribution has remained relatively consistent since 2011, with the exception of September quarter 2017 where the minimum wage was increased by 3.3 per cent (up from 2.4 per cent the year before). This resulted in the highest award based contribution to wage growth recorded since the same quarter in 2010.

The September quarter features as a quarter of strong wages growth for jobs covered by Individual arrangements, with the end of financial year a common time for businesses to consider wage reviews. Up until the GFC in late 2008, the contribution to wage growth from jobs covered by Individual arrangements was the largest of the three main wage-setting methods. However, a sharp downward shift was observed over 2009. This pattern was not as obvious for other jobs and displayed a high degree of sensitivity across the jobs covered by Individual arrangements to changes in the economy, flowing quickly through to effect wage inflation. In 2010 the effects of the positive economic conditions derived from mining infrastructure activity were evident on wage growth for Individual arrangement jobs, with a return to pre-GFC contributions. A cooling in the labour market became evident in 2013 as the demand for labour to support mining infrastructure projects reduced, marking the beginning of a slowing in overall wage growth.

The proportion of wage growth from jobs on Individual arrangements has fallen in comparison with the contribution of jobs covered by EAs since 2013. This suggests EA jobs are relatively slow to react to labour market conditions.

Several factors can influence the contribution of EA jobs to wage growth over time. Of note, the period after the expiry of an EA and a new EA is negotiated impacts the timing of wage increases. In addition, the length of time wage rises are governed by EAs can introduce lags in the responsiveness of EA jobs to economic events.

The minimal impact of the GFC on EA job wage growth over 2009, in comparison to other wage-setting methods, can be explained by these lags in responsiveness. The effects of the GFC were more pronounced on the level of contribution across other wage-setting methods in that period.

After the immediate effects of the GFC, EA jobs contributed to wage growth at a similar level to those on Individual arrangements. Over the last five years a marginal shift in contributions to wage growth away from Individual arrangements to EAs has been observed.

Section 3 – Insights and conclusions

The proportion of WPI surveyed jobs by wage-setting method has changed over time to reflect the changing dynamics of the labour market. Wage growth for jobs with wages set by Individual arrangements have been more responsive to changes in labour market and general economic conditions when compared to other wage-setting methods, with an immediate slowing after the GFC and then recovery in response to labour market demands from the mining infrastructure boom. The general slowing in wage growth since 2013 has been observed across jobs covered by the two largest wage-setting methods.

Further Information

More detailed information on the Wage Price Index can be found in Wage Price Index: Concepts, Sources and Methods, 2012 (cat. no. 6351.0.55.001)

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