Are falling wages in manufacturing caused by free trade?

I’m currently reading a great book called “the Free Trade Myth” by Dr. Ravi Batra. Although I generally consider trade to be a good thing – it increases consumer freedom by allowing access to products from around the world and allows nations to specialize in products/services they are best at making (Canadians just can’t make Swiss watches like the Swiss!) – the author makes some interesting points on the effects that free trade has on manufacturing wages.

His book focuses on the American manufacturing industry; however, many of his points are transferable to manufacturing within Canada. He explains that wages in any industry are determined by two factors: elasticity and productivity. Let’s get some pesky definitions out of the way first:

1. Elasticity: this is a measure of the demand response to a price change. A product or service is considered inelastic if a price increase or decrease invokes only a small change in demand. A good example of a relatively inelastic product is gas. A price increase in gas certainly aggravates drivers but it generally does not result in a noticeable decrease in consumption since people still need to drive their cars to get to work or to the grocery store. Another example of an inelastic product is agricultural goods. A fall in the price of agricultural goods does not result in a noticeable increase in the consumption of food since there are biological limits to the amount of food people can consume. An elastic product is one where a price change does noticeably affect demand. For example, if a 30% reduction in the price of shirts causes you to buy two shirts, then the price has fallen by 30% and the demand for the product has increased by 100% (2 shirts vs 1 shirt purchased) – this is an elastic response.

2. Productivity: is measured by output per employee. If an employee can increase their output they have increased their productivity. For example, if I utilize a voice-to-text program on my computer to respond to emails and I can respond to 20 emails in an hour versus my initial rate of 10 emails an hour, then my productivity has increased by 100%. Productivity acts as a driver of price, as productivity increases so too does supply and this results in a fall in price.

Now, elasticity and productive both affect wages according to Dr. Batra. If productivity increases for a product that is inelastic (such as agricultural products), then the demand will not respond to the increased supply of products and the price of the product will fall. The downward pressure on price will benefit consumers in the form of cheaper agricultural products; however, it will also act to force down wages within the agricultural sector. In fact, this effect has been at play in the North American agricultural industry for several decades now – productivity in this industry has increased dramatically and has been met with falling real wages due to the inelasticity of the goods being produced.

Contrarily, if productivity increases for an elastic product, then the dip in the product’s price is met with an increased consumer demand which increases revenue for the manufacturer of the good and should result in increased wages for the production employees. Therefore, productivity gains in industries that create elastic goods should result in increased wages. The manufacturing industry produces goods which are largely elastic and it could be expected that productivity gains in manufacturing would lead to wage gains. However, this is not the case – The US (and Canada’s) manufacturing industry have been experiencing productivity gains and falling real wages for several decades now. According to Dr. Batra this paradoxical event of rising productivity and falling wages in the manufacturing sector is due to free trade. He explains that opening a nation’s doors to products from around the world increases supply so significantly that the downward pressure on the price of goods does result in an increased demand (as we would expect for elastic goods), however, not sufficiently enough to increase manufacturer revenues or the wages of the production employees.

Of course, those who favour free trade argue that it allows manufacturing companies to access cheap labour in low-cost nations and pass the associated savings along to their consumers. This enables the consumer to access cheaper goods and makes the consumer wealthier at the end of the day (they can buy more things with less money). Dr. Batra challenges this viewpoint by indicating that those who favour free trade often think the consumer and the worker are two different people when in fact they are the same person. The consumer is no better off if they cannot afford the cheaper goods on account of losing their job due to the forces of free trade.

As I mentioned at the beginning of this post, I am not opposed to trade and appreciate that we do live in a globalized word. That being said, “The Myth of Free Trade” by Dr. Batra does provide some food for thought on the effects free trade has on the manufacturing sector within developed nations.


- Kevin

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