Tag Archives: ULC

Finnish Unit Labour Cost obsession

As my previous post shows, I have been thinking about Finland’s obsession with unit labour costs (ULC) again, for a change. This is in many ways a crucial topic, as many people in the strong labour movement, at least regarding the export industries, seem to fairly uncritically regard this particular statistic. My thinking has been shaped by what Bill Mitchell has written in blogs and his latest book, as well as Merijn Knibbe’s article on the topic. The core of those writings is that unit labour costs are a highly unsuitable way of measuring “competitiveness”.

This really shows in the Finnish public debate. We have for years heard how Finnish competitiveness has suffered (since 2008), especially due to too high wage increases in 2007-2009 and how this shows in graphs of the ULC. This is especially a dominant theme in the export industries.

In the previous post I mentioned that I have been digging around in the OECD.Stat -collection. I now found something that I think is particularly useful in showing the utter folly of the whole ULC mantra – ULC for the manufacturing industry and the volume index of the manufacturing part of GDP (output approach.) I put these together, and:

ULC and manufacturing part of GDP (volume index, output approach). All data OECD.Stat

ULC and manufacturing part of GDP (volume index, output approach). All data OECD.Stat

Lo and behold! They are almost exactly their mirror image! This should be obvious to anybody who understands what ULC is (i.e. a ratio). As is very clear to see, as long as the manufacturing sector was doing well (until 2007) ULC declined. Then came the crisis (Lehman, Eurocrisis) and exports suffered (in particular affecting the manufacturing sector). As is known by now, Finnish exports are not in any way booming (i.e. after 2012 not much change) and this also shows – ULC also shows little change.

What does this tell us? For one, that it is useless to go after a 5%-decline in ULC across the line, because for the manufacturing sector you would need serious growth to achieve that. (for the rest of the fallacy of this policy idea I suggest to read Bill Mitchell’s blog post).  Furthermore, I hope it is now finally clear that ULC is ratio that is rather heavily affected by changes in GDP, which for Finland is quite dependent on demand in Europe and the world and on the other hand on domestic demand.

About Finnish unit labour costs

For a text that I am writing, I have been digging around in OECD.Stat, since there are lots of interesting statistics on unit labour costs (ULC). The text, in part, analyses the sectoral changes in ULC in Finland.

The OECD.Stat and Eurostat definition are the same (and actually the statistics come from/through Eurostat to OECD.Stat according to the information.) To remind:

Unit labour costs (ULCs) measure the average cost of labour per unit of output. They are calculated as the ratio of total labour costs to real output.

In other words, as Knibbe (2015) states: “It is a crude approximation for the share of GDP going to workers.” It important to note that in this ratio, “the variables used in the numerator (compensation, employees) relate to employed labour only while those in the denominator (GDP, employment) refer to all labour, including self-employed.

The OECD offers deconstructed data, where the components (in the employment based ULC) are separated. For Finland, it looks like this:

Source: OECD.Stat

Source: OECD.Stat

It is clear that Finnish ULC dropped because of the sudden drop in GDP from 2007-2008, NOT because of outrageous wage increase in 2007-2009. In fact, those alleged big wage increases are not really visible here – until 2012 the graph shows a quite steady increase in labour compensation per employed persion; it is possible to say that the average rate of growth has not changes very dramatically. GDP, on the other hand, has changed dramatically, and although the labour compensation has flattened since 2012, the GDP has declined more/flattened more.

That is the nearly 4 year stagnation that we have experienced in Finland. ULC has obviously declined as matter of statistical fact, but from the graph it is quite clear to see how much labour compensation would have to change to restore ULC to the pre-2007 level. And although I do not have the means to simulate this, such a decline in labour compensation would almost certainly have a very negative impact on the GDP (as I have argued before, the Finnish economy was kept afloat through domestic demand. Not anymore!).

So I do understand the worries of Finnish business life about “competitiveness”. For individual firms the combination of stagnant economy and rising labour compensation is toxic. But the point is simply that ULC is in no way a suitable measure of competitiveness! And, beyond that, there is an argument to made (as Knibbe (2013) does, that ULC should increase, given the ECB’s inflation target. – iIn particular given that in Finland producer prices have been sliding since 2012 and that there are not many upwards pressure on the Finnish CPI .

Where politicians talk about structural reform (and mean wage decreases) I think Finland needs structural reform of its industrial base. Looking for new markets. Innovating. Moving into selling more high-value added products. Of course, in a developed country like Finland it is clear that the domestic market has a large impact on GDP, more so than exports, but it certainly doesn’t hurt to use Finland’s high-tech potential more! In any case it should be long due that politicians acknowledge that wages are not the issue here (or only a minor issue). The big issue is still European and world demand. In recent days there have been commentators speaking about Finland missing the last legs of the growth cycle. They may be right, but also then Finland has to reconsider deep and hard what it sells, and especially HOW.