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IRISH CASE STUDY: Are Labour Services Special? This case study focuses on the theory underlying the analysis of labour in chapter 12. It questions the validity of viewing the market for labour as a demand and supply exercise where the actions of buyers are summarised by a demand curve and the actions of sellers, by a supply curve. Some of the limitations of the approach are outlined and an alternative approach considered. However, an advantage of the underlying theory of the chapter is that is has many applications. One of these applications - the distribution of income - is discussed from the Irish perspective. The underlying theory used in chapter 12 - that wages depend on the demand for and supply of labour - is often referred to as the neo-classical theory of wages. In this respect, the neo-classical theory treats the labour market in the same way that it analyses all markets. The buying and selling of labour is the same as the buying and selling of any other good or service, with its price (the wage) being determined by the interaction of supply and demand. This theory of the labour market prompts two important questions. First, is this the correct way to view the labour market? Second, is it fair to assume that labour is just a factor of production? Clearly, there are positive and negative aspects of this view of the labour market. The strength of the approach is that it provides an integrated explanation of behaviour and gives rise to testable propositions. Real world data can be used to test the theory. However, labour has many distinctive characteristics that set it apart from other goods and services and other factors of production such as capital and land. In fact, we could argue that of the many markets that exist in a modern economy, the market for labour is the most important. It is from selling their services in this market that most families derive their income. It is also in this market that individuals spend the single largest part of their waking hours. When not working, many individuals devote a large part of the remaining time to acquiring the skills necessary for effective performance in this market. The education and training that individuals undertake during their lives is chiefly designed to equip them with the skills which enhance their performance in the labour market. Moreover, it is at work that individuals derive a large part of their self-esteem and form friendships and ties that determine many of the parameters of their social life. Hence, the labour market also encompasses an element of social participation and is more than a mere factor of production. Unfortunately, the neo-classical approach does not deal effectively with these other aspects of labour. Another theory, known as the Post-Keynesian/Institutionalist perspective, has a different view of the labour market. This theory suggests that the labour market is not a market as that term is usually understood. Instead, this theory suggests that the supply of labour depends largely on demographic and other socio-cultural factors. Similarly, the demand for labour depends mainly on the level of aggregate economic activity and has little to do with the marginal product of labour. Hence, this theory suggests that wages are not the driving force behind the demand and supply of labour, and that variations in the real wage are unable to assure a zero supply of labour, and thus eliminate unemployment. However, a problem with this approach is that it is difficult to form testable propositions. This means that many aspects of the theory cannot be tested with real world data. Hence, because of the failure of other theories to provide testable propositions, the neo-classical approach remains extremely popular, offering a very effective framework for examining the movement of wages and employment in the labour markets of a number of major industrial nations. The neo-classical theory of wages has implications for the distribution of income. For example, individuals whose labour is in low demand or high supply will earn less than individuals whose labour is in high demand or low supply. Low demand for certain labour may be due to low demand for the good being produced, while high demand for labour may be due to those working in expanding industries. Also, workers who possess skills which are in short supply, especially skills which take a long time for others to acquire, will tend to earn high wages. An example of this can be seen by looking at the Irish experience. Over the past 15 years, just as in many other industrialised countries, there has been a strong shift in demand against low-skilled labour towards more highly skilled labour. At the same time, the gap between the rich and the poor has increased significantly. The top 20% of earners have increased their share of direct income from 46% in 1973 to over 52% in 1994. Simultaneously, the bottom 50% have seen their direct income fall from 18% in 1973 to just over 11% in 1994. Although redistribution through the combination of the tax and benefit systems has stemmed this growth in inequality, income remains highly concentrated at the top of the income distribution.
M. Collins and C. Kavanagh (1998), "For Richer, For Poorer: The Changing Distribution of Household Income in Ireland, 1973-1994", in S. Healy and B. Reynolds (eds.) Social Policy in Ireland, Oak Tree Press: Dublin.
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