Wage curve

The wage curve is the term used to describe the negative relationship between the levels of unemployment and wages that arises when these variables are expressed in local terms. According to David Blanchflower and Andrew Oswald (1994, p. 5), the wage curve summarizes the fact that ‘A worker who is employed in an area of high unemployment earns less than an identical individual who works in a region with low joblessness’.

One way to understand the wage curve is as follows. The labour supply of each individual is positively correlated to wages, therefore the higher is the hourly wage offered, the more hours an individual is willing to work. However each person has only 24 hours a day, and there is a limit to which every person would be willing to sacrifice an hour of leisure or rest, for an hour's worth of wages. There exists a point where an individual is already work X hours a day for A dollar an hour, and X is so high that no matter how much more you increase the hourly rate, this individual would not increase the number of hours he / she works. So for example if you offer this individual $B an hour, and $B > $A, this person would still work X hours and earn $B x X a day. At this point if you want someone to work for you, instead of increasing the wage offer to get this individual to work more hours you have to hire more people.

Say you need to purchase Y hours of labour from the labour market. Let us assume that Y = 4X, so that if you pay $A an hour then you can hire 4 labourers to work for X hours each. So what are the options that are open to you? Well it depends on the labour market conditions.

Say that there aren't very many jobs in the labour market, unemployment is high and a lot of people are under employed (working much fewer than X hours). In this situation the going rate is likely to be lower than $A as it is very unlikely that an employee would be asked to work for X hours. Because a large number of people are working fewer than X hours, each of them would be willing to take a wage that is lower than $A per hour. You would save money by hiring more than 4 labourers with each of them working fewer than X hours.

Say the labour market is tight and most people are already working X hours a day. It is very hard to find people who are not already earning $A an hour, and because of that you must match the money offer elsewhere in order to get someone to work for you. The wage level in this scenario would be higher than the earlier scenario.

In short - the lower is unemployment, the fewer labourers are available, and the higher is the wages. Vice versa when the unemployment is high. This is the essence of the wage curve.

Implications of Wage Curve

It is utilised to explain why within a country, some regions suffer worse unemployment than others. Labourer could but, for whatever reasons, are unwilling to migrate from regions with high unemployment low wage area to low unemployment high wage areas.

One of the reasons why unemployed labourers would not want to migrate to other areas with plenty of jobs is because of home-ownership. The worker might be deterred from moving because of the costs involved in selling off his / her home and moving. Blanchflower and Oswald have found that the unemployment rate is positively correlated to home-ownership rate in a cross country study.

However recently some micro econometric evidence the relationship between homeowner and unemployment is slightly more complicated. People who are employed are more likely to be able to afford a mortgage, and are therefore more likely to have bought their own home. The evidence found is that the employed home-owners are less likely to become unemployed, and they are also more likely to be employed in jobs with high stability and therefore less likely to change jobs. The unemployed home-owners are more likely to find jobs within the local areas, and less likely to find jobs which would necessitate a move. The overall picture throws up is that although home-owners are reluctant to move around, they are more often than not employed, and therefore not contributing the unemployment rate.