Is the Canadian Labour Market Really Operating at Capacity?

(This note was prepared for a meeting of trade union economists with Paul Jenkins, Deputy Governor of the Bank of Canada, to be held on Monday, December 11, 2006.)

Introduction

The Bank of Canada believes that the Canadian economy is currently operating “just above” capacity, justifying this week’s decision to leave interest rates unchanged despite a noticeable slowdown in economic growth in the last quarter.

While the Bank closely follows many indicators in order to judge the level of capacity use and potential growth, it pays particularly close attention to labour market indicators. The job market  is generally judged to be very tight, and the current national unemployment rate of 6.3% (November) is indeed well below the levels of the past thirty odd years, and well below the usual range of estimates of a “non accelerating inflation rate of unemployment” or NAIRU.

The national unemployment rate fell steadily from 7% in mid 2004, to 6.5% at the end of 2005, and has remained below 6.5% through 2006. Most mainstream economists would, until very recently,  have expected to see significant real wage growth and wage-driven inflation at such a “low” unemployment level. However, the Canadian job market is now judged by impeccably orthodox sources to be highly “flexible”, indeed almost as flexible as that of the US. (See the recent IMF Working Paper “Shocking Aspects of Canadian Labor Markets” WP/06/83.)

Similarly, the latest OECD country review of Canada has little to say about supposed labour market “rigidities” in Canada (with the exception of extended regional Employment Insurance benefits in Atlantic Canada.)

On top of a national unemployment rate which is very low compared to the past thirty years, there are a range of indicators of a strong job market, all of which are positive from a labour perspective. Through 2006 to date, job growth has been tilted to employees as opposed to self-employment (a positive given that many of the solo self-employed are in low income, precarious work); to full-time rather than part-time jobs; and to permanent rather than temporary jobs. In other words, over the year to date, there has been a modest decline in the proportion of the work force who are self-employed, working part-time, and working in temporary jobs, signifying some pull into more secure forms of employment. This is as one would expect in a strong job market.

There is a lot of talk of skill shortages, and they undoubtedly exist in a number of occupations, notably the skilled trades and some health care occupations. Many of the shortages can be and are, however,  being filled by the normal operations of an adaptable job market. Workers are moving  from high to low unemployment regions, and, to some degree, from declining to expanding occupations and industries.

All that said, it is far from clear that the job market is operating at anything like full capacity.

Still a Lot of Precarious and Low-Paid Jobs

Over one in five (21%) of women aged over 25 still work in part-time jobs, and, by the usual indicators, at least one quarter to one third would prefer to work full-time, or be potentially available to take a full-time job if child and elder care needs were met. Indicators suggest further potential for an increase in total hours worked via a shift of workers from solo self-employment and seasonal and temporary jobs to permanent, full-time jobs.

Many workers are in low pay, often insecure jobs and are potentially available to fill higher skilled, better-paid jobs. In the first half of 2006, 11.7% of adult workers were in low hourly paid jobs, defined as those in which working 2000 hours a year would not produce a poverty (LICO) line income for a single adult. This requires an hourly wage of just over $10 per hour. (See the CLC Report Card 2006, Is Your Work Working for You? www.working4you.ca.)

The proportion of low wage adult jobs has actually increased slightly from 2005, suggesting that increases in average wages have been driven by increases at the very top of the wage distribution. We lack recent data, but the numbers for the 2004 tax year show that fully 28% of the increase in taxable income over 2003 went to persons making more than $150,000 per year. To the extent that average wages are being driven up by increases for the top 1% or so of the wage distribution, they should be seen as only a partial indicator of slack in the job market. While not readily available in a timely way, more attention should be paid to data on changes in wages at various points in the wage distribution.

A Potential for Training to Meet Skill Needs

A tight job market is just what is needed to push employers into recognizing the skills and credentials of new immigrants, and investing in the skills of lower paid workers, many of whom lack strong literacy and numeracy skills. As well, as called for by the CLC in our brief on the new Employment Insurance premium, federal – provincial training programs under Part II of the EI Act could and should be increased to capitalize on a relatively tight job market to upgrade the skills of the unemployed. Returns to public and private investment in training could be expected to be high when employers have some unmet needs for skilled workers. Also, now is the time to move on proposals to create paid training leaves for employed workers who want to upgrade their skills.

In summary, the message is that a tight job market can be used as an opportunity to upgrade the skills of the work-force, particularly those in lower-paid and insecure jobs. This would be foreclosed if an attempt is made to open up greater labour market slack through tighter monetary policy.

While training and labour adjustment policies are outside the remit of the Bank of Canada, it would be useful if the Bank could highlight the relevance and need for for more focus on such policies under current circumstances.

One could add that the federal government seems intent on ramping  up the numbers of temporary foreign workers allowed into Canada to deal with supposed shortages, not just of skilled workers, but also of unskilled workers.  The current requirement for issuing permits to employers to hire such workers is that an employer has failed to recruit workers “at the prevailing wage.”

Surely economists would agree that higher than prevailing wages are precisely what is needed to signal opportunities to access better jobs through re-training, or moving workers between occupations and regions.

Regional Differences and Regional Slack

The idea that the Canadian job market is operating at capacity also has to be put in the context of marked regional differences. While low compared to the past thirty years, partly as a result of increased labour mobility between provinces, November, 2006 unemployment rates still suggest considerable labour market slack in Atlantic Canada (Newfoundland and Labrador, 13.7%; PEI, 11.2%; New Brunswick, 8.5%; and Nova Scotia, 7.4%. )

Over the past year, Ontario and Quebec combined have lost another 83,000 manufacturing jobs, on top of continuing job losses since the dollar began its sharp appreciation at the end of 2002. There are now growing signs of labour market slack in central Canada – home to almost two-thirds of the total Canadian labour force. There are some 800,000 unemployed workers in Quebec and Ontario combined. The Quebec unemployment rate is 8.0% and recently rising (from 7.7% in October) , and the Ontario unemployment rate is 6.4%, up considerably from a low of 6.1% over the past year.  Employment rates in both provinces have been slipping over the past few months.

Over the past year, the participation rate of adult men – the demographic group disproportionately affected by industrial layoffs – has fallen from 72.3% to 71.8% in Quebec, and from 75.2% to 74.3% in Ontario (despite rising employment rates for those aged over 65.) This suggests some displaced industrial workers who are not counted in the unemployed population are not finding new jobs.

Finally worth noting is the disproportionate tilt of recent job growth in Ontario over the past year to generally low-paid private service sector jobs. Some two-thirds of the net job growth in Ontario over the past year has been in trade.

The capacity of the Ontario and Quebec labour markets to absorb laid-off industrial workers in comparable quality jobs appears to be at an end. To the extent that this is true, further layoffs will clearly be at the expense of overall productivity growth, since manufacturing jobs are of higher than average productivity, justifying higher than average wages.

It is one thing to celebrate industrial re-structuring as a source of overall efficiency if it leads to a more productive re-allocation of labour; quite another if laid-off workers are being employed less productively or becoming unemployed.

Stagnant Wages for Most Workers

As noted, if the labour market were truly tight, one would expect to see a sharp pick-up in wages. This is true of the West, to some degree, but not of the job market as a whole. In November, 2006, the national average increase of 3.0% in the average hourly wage year over year was pushed up significantly by the average 5.3% increase in the three most westerly provinces, Alberta, BC, and Saskatchewan. The national average hourly wage was up by only 2.5% from a year earlier if one adjusts for the 6.3% increase in Alberta. (Hourly wage data from Statistics Canada Labour Force Survey.)

In Ontario and Quebec – which are, as noted, home to two-thirds of the workforce – the average hourly wage was up by even less, by only 2.4% in Ontario and 1.0% in Quebec from a year earlier. This is well below the 3% increase that would be justified by the trend rate of inflation of about 2% plus 1%  in line with trend productivity growth.

The same story is true of major wage settlements for unionized workers, who one might have expected to have gained some bargaining leverage in a tight job market. In fact, private sector wage settlements have averaged just 2.4% in the year to date,  and public sector settlements are little higher at 2.6%.  Even in the supposedly red-hot economy of Alberta, union wage settlements have averaged just 3.3% in 2006. (Data for the first three quarters from Workplace Information Directorate of Labour Canada.)

One would expect average wages to increase in a context of positive restructuring of the economy in response to new opportunities, since workers would be moving from lower to higher productivity jobs. Very flat or even falling wages in much of the Canadian job market would suggest that this is not the case.

It should also be noted that wages are not rising at the expense of corporate pre tax profits, which remain very near a record-high as a share of national income.

Implications for Monetary Policy

The Bank of Canada is in a difficult position to the extent that Canada can have only one monetary policy. Every region must face the same interest rate and the same exchange rate. That said, the key conclusion of this note is that the Canadian job market as a whole cannot be said to be operating at or near full capacity. There are clear signs of continued and indeed growing labour market slack outside the West, and not very clear causes for alarm that the Western economies are “over-heated.” True, real wages are up in the West, but they are hardly out of control, and higher wages are needed to encourage labour mobility.

In this context, labour market conditions should not dissuade the Bank from lowering interest rates to maintain growth, as when there are signs of growing economic weakness.