Stolper on Wages vs. Production

Americans (and others in developed countries) get paid a lot. We also hear a lot of naive people remarking that this makes it difficult for us to compete with workers in other countries who are paid less.

That sort of remark is often nonsense. The reason is that it neglects the “compared to what?” questions we should always ask.

Instead, what’s important is the ratio of wages to production in two places. The lower that is, the more likely a location is to attract productive firms.†

Here’s a quote of what Wolfgang Stolper said in 1960:‡

African labour is the worst paid and most expensive in the world.

It was the worst paid because their wage was so low, but it was expensive because they produced less than what they were paid.

† Of course, smart students will recognize while potential employers will be attracted to places where the wage/production ratio is lower, potential employees will be going in the opposite direction. That’s what economics is all about, because that pair of tendencies is going to tend to make the wage/production ratio the same everywhere. That process of smoothing out differences is called arbitrage, and it’s what makes equilibrium a useful concept.

‡ You also hear many people remark about macroeconomics something like “why didn’t anyone see this before”. One of the things you need to learn about macroeconomics is that most of these things have been seen before, but people prefer to ignore them in favor of magical thinking.

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The source article is really about trade rather than macroeconomics, so I’ve marked off this section because it’s less important for this class.

There is a backstory in the source article. It’s about a textile plant in Nigeria that couldn’t compete without tariff protection.

This is from a longer article in The Economist entitled “An Inconvenient Iota of Truth”. It’s about the Stolper-Samuelsom Theorem (yes, that Samuelson). That theorem explains why, say, oil-rich countries have such lousy economies outside the oil industry. The reason is that when the price of the output in the oil sector goes up, that in turn shifts demand outward for inputs to the oil sector, increasing their price too, but also shifting demand for inputs to other sectors inward, reducing their price. In short, if you live in Saudi Arabia, and don’t work in the oil industry, you’re hurt every time the price of oil goes up. More generally, the input that’s getting scarcer is the one being hurt.

This can also be extended to skilled and unskilled labor in developed countries like the U.S. Unskilled labor is scarce in the U.S. And th story of the last century or so is that worldwide economic growth increases the price of the outputs of our skilled labor. Following the Stolper-Samuelson result, this means that unsklled workers are hurt because people around the world want the exports of our skilled workers. This gives some motivation for the politics of protecting unskilled workers from trade with other countries.

Coming full circle, protecting unskilled workers in developed countries is the flip-side of protecting skilled workers in developing countries. That was Stolper’s point about Nigeria. They couldn’t develop skilled labor for the future without protecting inefficient industries (where they might work) in the present.

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Via Greg Mankiw’s Blog.