Wages in a labour-surplus economy: The case of Jordan

With unemployment approaching rates last seen in the early 1990s, a question that arises is whether “wages are too high”.

Deferring the answer for later, it is generally difficult to assess whether the average wage in the economy is high or low unless one uses specific macroeconomic approaches that are often chosen with a good dose of ideology. Two examples from the recent euro crisis make this point clear. Greece cut wages by 25 per cent with little beneficial effect on growth and employment. Portugal did not reduce wages but growth resumed in two short years after its crisis and unemployment quickly reached levels not seen in the last two decades.

Where economic theory is on firmer grounds is in assessing wages from a microeconomic, private sector, perspective. However, there is a caveat: The commonly used theory of wage determination is more relevant for high income economies with little informal employment. It states that firms recruit workers up to the point where workers’ contribution to revenue is equal to the prevailing market wage that is determined by the interaction between the collective demand for labour by firms and the decisions collectively made by individuals whether to work or not.

Under such conditions, if there any unemployment arises, it will be due to time lost searching for a job or switching between jobs or because of some transitory and cyclical changes of the economy.

A problem with this theory is that it predicts that in a labour-surplus economy the prevailing wage would be zero. More realistically, the market clearing wage will be set at a barely subsidence level just enough for survival from one day to another. And Jordan is, indeed, a labour surplus economy arising among others from demographics (high fertility), policies (migration), geopolitics (refugees) and low demand for labour due to uncertainty and pessimistic expectations.

Obviously, the conventional approach is clearly not a good description of Jordan. Moreover, it applies to wage determination when all workers have identical education and skills. When workers are different, those who have more education or skills will be employed at the prevailing wage. Workers who are less well-endowed will be unemployed. In Jordan, many unemployed are highly educated. 

So, the case of Jordan requires more heuristic approaches. One relevant indicator is the relationship between wages and productivity. The ratio of wages-to-productivity in Jordan is amongst the lowest in the world, 42 per cent, compared with an average of 45 per cent in Arab countries and east Asia and 53 per cent in South Asia.

In addition, Jordanian workers’ contribution to value added in agriculture and industry is higher than that of their counterparts in comparator countries ranging from Egypt and Lebanon to Armenia and Georgia as well as Paraguay. This is also true for services with the exception of Lebanon.

Another indicator that wages cannot be credibly blamed for the bulk of unemployment is that surveys have shown that 95 per cent of firms fill their vacancies at existing wages in four weeks, while job seekers are prepared to accept work at the going wage rates, including the minimum wage, if jobs were available.

Moreover, one can be sceptical that the prime cause of unemployment is school-to-work transition difficulties or gender issues. The majority of unemployed are adults, 55 per cent, and men, 63 per cent. Neither is unemployment due to low education or lack of skills as manifested by the prevalence of educated unemployment locally and the high rate of skilled emigration abroad, actual or intended: Last year nearly half of graduates from post-secondary education expressed a willingness to emigrate.

If wages are not that high, then one has to look elsewhere for the causes of unemployment. Another candidate is the low rate of job creation, that is, unemployment is structural arising from the composition, nature and dynamism of the private sector. This is aggravated by the minimum wage for non-Jordanians being set at 30 per cent below that for Jordanians.

The result is that firms are induced to use non-Jordanians in low-skill labour intensive techniques of production with little incentive to modernise. The trends corroborate this: Since the early 2000s, intersectoral changes in value added have contributed negatively to economic growth, that is, Jordan has moved into low productivity activities.

To reverse this trend would require a new economic approach at the macro level, including financial, investment, trade, energy, transport, competition and business development policies, all of which are currently slated for reform. A prerequisite for their success would be consistent implementation of evidence-based policies and an increase in the quality of governance, transparency and accountability.

For the labour market, two policies come to mind. First, better migration management along with creating conditions for the private sector to move into a high productivity sectors, therefore, being able to pay higher wages, and in turn move away from employing low-skilled non-Jordanians.

Second, it will be good to have one minimum wage for Jordanians and non-Jordanians so the former are not displaced by the latter while firms would be forced to move to high productivity activities.  However, there can be different minimum wages for different ages reaching, for example, their full level by the age of 21 or even 25 (as in Britain). Some countries also differentiate minimum wages by sector (e.g., agriculture versus industry) or area (e.g. rural versus urban).

Irrespective of the level and structure of the minimum wage, one needs also to consider how it is updated. In Jordan, it has increased by 50 per cent since 2009 despite the slowdown of economic growth since then. Developing clear criteria for its change and involving the social partners in a national dialogue balancing the views and interests both of workers and employers is critical for increasing competitiveness, creating shared growth and reducing unemployment.

Zafiris Tzannatos has served in senior positions in international organisations and as resident adviser to Arab governments and has held academic appointments in Europe and as professor and chair of the Economics Department at the American University of Beirut