Wage inflation to lift, but will it pass through to retail prices?

  • Opinion
  • July 5, 2018
  • Satish Ranchhod
Wage inflation to lift, but will it pass through to retail prices?

Wage inflation is set to rise over the next few years. In part, that’s due to planned large increases in the minimum wage. However, we expect that continuing competitive pressures will limit the pass-through to retail prices.

We expect wage inflation will rise from the relatively modest rates of around 1.7 percent per annum in recent years, up to rates of around 2.1 percent through 2019 and 2020. Much of this is due to planned large increases in the minimum wage. From the start of April the minimum wage increased from $15.75/hr to $16.50/hr, and the Government plans to increase it to $20/hr by April 2021 (economic conditions permitting).

Compared to other developed countries, minimum wage changes are likely to have a larger impact in New Zealand. Relative to average wage rates, New Zealand already has the highest minimum wage rate in the OECD. Planned policy changes will extend this lead further over the next few years.

Prior to the most recent increases, around 8 percent of workers were covered by the minimum wage (around 155,000 people). However, the proportion of workers in the retail and hospitality sectors is much higher, at around 20 percent and 30 percent respectively.

The planned increases will likely cover around 10 percent more of workers throughout the economy. There will also be some workers who will receive a pay rise in order to maintain wage relativities across roles. This means that by April 2021, as much as 25 percent of the workforce – about 530,000 workers – will have their pay rates affected by the increase in the minimum wage. However, the impact on labour costs will not be as dramatic, as these workers share of the total wage bill will be around 12 percent (up from around 3 percent currently).

We estimate that the minimum wage hikes will add about 1 percentage point to the Labour Cost Index (LCI) over the next four years combined. That’s compared to what would have happened if the minimum wage had continued to rise at the same rate as in recent years. The minimum wage has been rising by around 3.3 percent per annum since 2011, which has added around 0.1 percent to the LCI each year. Over the coming years, the minimum wage will rise by around 6.6 percent per annum, and will have a larger impact in later years as increasing numbers of people are affected.

A 1 percent rise in the LCI as a result of minimum wage hikes is expected to reduce the number of hours worked by 0.3 percent, and raise the unemployment rate by 0.2 percent.

Increases in wages will add to the upward pressure on prices. However, many affected industries – including the retail sector - have been wrestling with strong competitive pressures in recent years, including increases in online competition. We expect those pressures will continue dampening price increases for some time.  As a result, increases in the minimum wage are expected to only add an additional 0.3 percentage points to the CPI, spread over the next four years. In addition, in many industries where wages are rising, there is not a close relationship between wage costs and the prices faced by consumers (e.g. health care services).

Satish Ranchhod, Westpac senior economist.

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