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Do you deserve a pay rise?

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Jonathan Russell, Partner at UK200Group member firm ReesRussell LLP, looks at the National Living Wage and the effect it will have on small businesses.

I was going to write about Brexit but thought we are still awaiting all the information to come out so would leave that for another day and instead return to a popular topic of mine – the flaws of capitalism.

There seems to be a premise in the Western world which rapidly spreads to any developing country that everyone’s standard of living should increase year on year. With technology and advancement some increase is possible, simply because something might now be available that wasn’t before or has come down in price, but should there be a fundamental expectation that everyone’s standard of living should just increase by right. Let us look at low pay something which most of us should abhor. The theory is that some jobs are less valuable to society than others and therefore should be paid less. But who sets the value of that job and why can people doing exactly the same job be paid different amounts. The Government announced the new ‘National Living Wage’ (NLW), which to all intents and purposes is the replacement for the National Minimum Wage. This represents a pay rise of 7.5 per cent to someone previously on the minimum wage, which had already gone up at the end of last year by more than inflation.

This is good for those on low wages, but there is a flaw. By definition the low paid people are those with earnings in the bottom 20 per cent of the country’s population. If those at the bottom are given a pay rise what happens. Someone’s costs go up, if that someone is a business they have two options to avoid going bust; a) they can put up their prices or b) they reduce the hours of the person being paid to keep the cost the same. If that person is an individual unless they can fund it from savings they will either have to: a) increase their income or b) reduce their expenditure somewhere else or c) reduce the person’s hours.
In all situations we see that the impact of the increase in the basic pay of someone either reduces the hours they will get paid for or increases costs for others and potentially themselves – inflation. The other problem is that however much wages increase the bottom 20 per cent will be considered low paid in just the same way that the average wage will be the average of what everyone earns. Therefore the only ultimate solution to avoid inflation is that everybody earns the average wage but in Animal Farm we know that all will be equal, but some more equal than others. This last part highlights the impact of salary differentials – how much extra does a person want to do a more difficult or responsible job. It is the same with high rates of taxation where people start saying although I will be better off, the increase in my effort is too much for the extra reward.

So we return to Capitalism, which in essence is the process of others getting a reward from their or someone else’s labour or skill or in simple terms selling something you have to someone else for a profit. Capitalism works so long as there is always that person somewhere higher up the chain prepared to pay more than the previous person. Mervyn King highlighted in a recent interview that the core problem with the banking industry was that the person taking the risk was usually the consumer, but the person benefiting from the profit was usually the bank. So here we have capitalism gone mad in that the person providing the service/product (in this case the person with the money) is exposed to all the negativity and risk, whereas the broker who has brought virtually nothing wins regardless.

So our problem, ultimately, is a balance between motivation and demotivation – if we take the underlying concept that people want to improve their status in life we have to establish what they need to be motivated to achieve that and at what point the effort of attainment is too high. Let us return to the living wage.

The employee is now to be paid more per hour, but if we are not to have inflation their total wage cost to their employer cannot go up so either they have to produce more or work fewer hours – in reality probably a balance of the two. So they are prepared to work harder because they are being paid more, but the employer has a finite amount of work to be done. If the employee is still earning the same total wage, but now working fewer hours what then happens? Do they take this as leisure or do they find an extra job to do? The former is potentially neutral to them and the economy, but the latter is more for both.

One study alone is suggesting that the NLW will mean that retailing alone will lose 700,000 job units in the next four years, because the industry cannot absorb the cost and market conditions stop them putting up prices. The other industry that is going to be hard hit is the care industry, but here we have a bigger issue. The staff numbers are determined by the care required so jobs cannot be reduced so this means a direct increase in cost. Wages are about 45 per cent of the costs of providing care, so to remain neutral fees will need to increase by at least 3.5 per cent before any other inflationary factor. So here we have a direct example of a Government proposal increasing inflation.

So to my original question – do you deserve a pay rise? The true answer must be am I going to be more productive and therefore do I deserve it because I will have earned it.


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