Tuesday, August 4, 2009

Why Do People Earn Different Amounts?

Until now, there is no single dominant factor that is capable of explaining the gulf in pay that persists between occupations or even within the same occupation itself. Some of the relevant factors are explained in detail as below. In reality, however it is much more complicated as is often the combination of two or more factors


(1) Compensating differential. A popular economic term that relates wage rate to unpleasantness, risk and other undesirable attributes of a job. Technically, it is defined as an additional income that must be offered to motivate one to take up the undesirable job. A construction worker is most likely to receive a much higher pay than, say a cleaner or a clerk for the risk undertaken. They assume risk like falling off from building, industrial accident when dealing with machineries etc. Some IT officers especially system support, may have to work nights or other unsociable hours. As such they receive higher pay to compensate for this

(2) Education and qualification. Level of education should be a good discriminator of pay scale. If an individual who studies for degree receives a pay equivalent to a cashier having O-Level, there will be very few pursuing tertiary study. The logic is, there is an opportunity cost in terms of income lost when one spends more time studying regardless of full time or part time. So now they are compensated for it

Also, depends on number of years one has to spend. The longer it is, the higher the pay (ceteris paribus). For instance a lecturer with PhD earns more than an ordinary teacher. Similarly, a heart specialist earns much more than an ordinary doctor given the length of time adopted for training. The supply of labour from these highly skilled professionals are low and highly inelastic while the demand for their service is great. That accounts for the vast difference in pay

(3) Marginal revenue. Some people are able to command high salary as every economic transaction they involve in yields high marginal revenue. Consider professional footballers like C. Ronaldo and Beckham. They are central in every game. They influence the number of tickets and merchandise related to MUFC sold, fans base and probably to some extent shape the English premier league. Whenever Beckham advertises for Pepsi, directly or indirectly he influences people to drink Pepsi. As such the company generates unimaginable supernormal profit (MC = MR) and wouldn’t mind paying him millions for one advertisement

(4) Protection by trade union. There is empirical evidence that unionized workers receive better pay than those who are not represented. Although the number of trade unions has declined steadily both in UK and US due to the shift from manufacturing sector to services sector, the effect of their presence is much felt. Probably you have heard of United Auto Workers (UAW), United Steel Workers (USW) etc. The chief aim is to gather more voice and to have more negotiation power, namely collective bargaining

There are many ways to push up the salary. First, they try to increase the demand for the goods produced by union workers. For instance, USW once in early 2000s pressurised the Congress under Bush administration to impose tariffs on imported steel hoping that American industries will turn to ‘cheaper’ locally processed steel. Also they could decrease supply of labour to push up wage rate. Craft unions such as bricklayers and electricians have often adopted restrictive membership policies such as high initiation fees, long apprenticeship programs and limitations on union’s membership. Professional associations such as American Bar Association and American Medical Association also adopted similar practice

(5) Fringe and benefits. To some extent, it is true that some jobs may offer lower wages than others because they got more to offer to employees such as annual holiday, company cars, free life insurance, monthly gathering etc. These jobs are thought by some people to give lots of satisfaction and hence may be prepared to undertake without expecting high salary

(6) Immobility. Some people may be offered a hard-to-resist deal, but is in another area which could be far away from current residence. However, at the same time they value family, relatives and friends more than the pay. As such they reject they job. Also some people may want to move to a better-paid job but not able to do so since they cannot afford housing in new area. Consider receiving a pay which is just extra several hundred £ in City. Accommodation would be disastrous. Nevertheless high labour mobility does help to reduce differences in unemployment and wage rates in different parts of a country

(7) Imperfect information. Some people settle down for a lower pay because they do not know about better-paid jobs elsewhere. Meanwhile, people like fresh graduates although may not be able to demand for high wages, sometimes could end up doing a job which its pay is much lower than market as they were ‘misinformed’ that that is the pay they deserve being freshies. These two situations are called imperfect information

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