Wage-Led Growth: An Equitable Strategy For Economic Recovery

Wage-led Growth
An Equitable Strategy for Economic

Recovery
Edited by
Marc Lavoie
and
Engelbert Stockhammer
© International Labour Organization 2013
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Contents
List of Tables and Figures vi
Foreword ix
Preface xi
Notes on Contributors xii
Introduction 1
Marc Lavoie and Engelbert Stockhammer
1 Wage-led Growth: Concept, Theories and Policies 13

2 Why Have Wage Shares Fallen? An Analysis of the

Determinants of Functional Income Distribution 40
Engelbert Stockhammer
3 Is Aggregate Demand Wage-led or Profit-led?

A Global Model 71
Özlem Onaran and Giorgos Galanis
4 Wage-led or Profit-led Supply: Wages, Productivity

and Investment 100
Servaas Storm and C.W.M. Naastepad
5 The Role of Income Inequality as a Cause of the

Great Recession and Global Imbalances 125
Simon Sturn and Till van Treeck
6 Financialization, the Financial and Economic Crisis,

and the Requirements and Potentials for Wage-led Recovery 153
Eckhard Hein and Matthias Mundt
Index 187
v
List of Tables and Figures
Tables
I.1 Labour income share as percentage of GDP at current factor

costs or wage share in GDP, in percentage, G20 countries,
average values over the trade cycle, early 1980s–2008 4
I.2 The share of top 1 per cent earners’ income in total
income, mid-1970s to mid-2000s 5
1.1 Pro-labour and pro-capital distributional policies 17
1.2 Definition of profit-led and wage-led regimes 18
1.3 Viability of growth regimes 19
1.4 Actual growth strategies in the economic
regime/distributional policies framework 20
1.5 Economic structure: wage-led and profit-led
demand regimes 24
1.6 Effects of an increase in the wage share and
domestic and total demand regimes 25
1.7 Economic structure: wage-led and profit-led
productivity regimes 27
1.8 Total productivity effect of an increase in the wage
share, when the partial productivity regime is wage-led 29
1.9 Summary of the results of Onaran and Galanis (2013):
effects of a national and global one percentage point
increase in the profit share 31
2.1 Results for the baseline specification and variations 51
2.2 Results for the baseline specification – advanced
countries 59
A.1 Variables – all countries 69
A.2 Variables – additional variables for advanced countries 70
3.1a Average growth of GDP (%), developed countries 78
3.1b Average growth of GDP (%), developing countries 78
3.2 The summary of the effects of a 1 percentage point
increase in the profit share 81
3.3 Two wage-led recovery scenarios 84
4.1 Estimates of the impact of (investment) demand growth
on productivity growth 106
vi
List of Tables and Figures vii
4.2 Estimates of the impact of real wage growth on

productivity growth 107
4.3 Real GDP growth, hourly employment growth, labour
productivity growth and real wage growth: 11 OECD
countries, 1990–99 and 2000–08 115
6.1 Real GDP growth, average values over the trade cycle,
early 1980s–2008, in percentages 159
6.2a Key macroeconomic variables for ‘debt-led
consumption boom’ economies, average values for
the trade cycle from the early 2000s–2008 160
6.2b Key macroeconomic variables for ‘domestic
demand-led’ economies, average values for the
trade cycle from the early 2000s–2008 162
6.2c Key macroeconomic variables for ‘strongly
export-led mercantilist’ economies, average values for the
trade cycle from the early 2000s–2008 164
6.2d Key macroeconomic variables for ‘weakly export-led’
economies, average values for the trade cycle from the
early 2000s–2008 166
6.3 Household debt and net wealth, per cent of
annual disposable income 168
Figures
2.1 Adjusted wage shares in advanced countries,

Germany, Japan and the United States, 1970–2010 41
2.2 Adjusted wage share in developing countries 42
2.3 Key determinants of functional income distribution 50
2.4 Baseline explanatory variables for developing countries 56
2.5 Baseline explanatory variables for advanced countries 57
2.6 Contributions to the change in the wage share for all
countries, 1990/94 to 2000/04 60
2.7 Contributions to the change in the wage share for
advanced countries, 1980/84–2000/4 62
3.1 Wage share (adjusted, ratio to GDP at factor cost) 76
4.1 A model of wage-led growth with exogenous productivity 109
4.2 A model of wage-led growth 110
4.3 A model of profit-led growth 112
4.4 The employment elasticity of GDP declines when real
wage growth rises. Evidence for 11 OECD economies,
1990–2008 116
viii List of Tables and Figures
4.5 The more strongly wage-led the economy, the less

sensitive is profit income growth to real wage growth 119
6.1 Current accounts of G20 economies, 1980–2012, in
millions of US$ 158
6.2a Residential property prices in nine G20 economies,
1995–2012, index: 2002 = 1 (Mexico: 2005 = 1) 169
6.2b Residential property prices, Russian Federation and South
Africa, 1995–2010, index: 2002 = 1 170
Foreword
The current global crisis, known as the Great Recession, is challenging

much of the ‘conventional wisdom’ which has dominated economic
thinking and policies. In particular, it has raised strong concerns about
the widespread view that ‘growth should be in the driver’s seat and dis-
tribution in the backseat’. One important corollary of such trickle-down
economics is that wage moderation can boost economic growth and
hence reduce poverty. It has sometimes been twisted to suggest that low
wages are a necessary condition for economic growth, especially in the
early stages of development. This conventional view is now being ques-
tioned, as it seems clear that the Great Recession has had much to do
with widening income inequality, in terms of both personal and func-
tional income distribution. Yet, not much is known about why income
inequality widened, how it impacted the crisis, and what lessons can be
drawn from the observed changes.
This volume makes a very important contribution to our understand-
ing of the causes and consequences of inequality, by mainly investigating
a critical aspect of income distribution, functional income distribution,
that is, the division of national income between capital (the profit share)
and labour (the labour income share or wage share). Empirical studies
have shown that the share of income going to labour has significantly
declined in advanced economies, thus challenging the stylized fact that
the division of income between labour and capital is roughly constant.
The contributions to this volume are impressively comprehensive,
ranging from theory, to empirical evidence and to policy advice. First,
the volume offers a new theoretical framework that can better explain
the secular changes in the labour income share and expands empirical
knowledge on the subject by exploring these changes in major develop-
ing countries, including Brazil, China and South Africa. Second, the
authors examine the significance of the various factors underlying the
declining labour income share and show the critical importance of
financialization, globalization and labour market and social security
policies. Third, the volume goes one step further and explores the eco-
nomic consequences of the shift in functional income distribution.
This highly original and extensive research argues that the distribu-
tional shifts in favour of capital and the rise in income inequality have
reduced economic growth and increased economic instability. In doing
ix
x Foreword
so, it shows that the risk of wage moderation is real and that the debt-
led and export-led strategies pursued in many countries are related to
these economic problems. Finally, the book outlines a wide range of
policy implications, pointing to the need to “rebalance” functional
income distribution. This “rebalancing” act in favour of wages will be
an essential element of equitable and sustainable growth and requires
strong policy coordination at the global level.
The findings of this volume are reflected in the Global Wage Report
2012/13: Wages and Equitable Growth published by the International
Labour Office (ILO). As emphasized in the report, it is high time for the
global community to revisit its past policies and make coordinated
efforts and actions in search of balanced and equitable growth that ben-
efits all.
Sangheon Lee
Research and Policy Coordinator,
Conditions of Work and Equality Department,
International Labour Office
Preface
The main goal of this book is to go beyond the microeconomic view of

wages as a cost having negative consequences on the economy and to
consider the positive macroeconomic dynamics associated with wages
as a major component of aggregate demand. Wage growth can generate
demand growth and productivity growth. Insufficient wage growth, or
more broadly the polarization of income distribution have contributed
to the economic crisis.
The book is the final product of a joint ILO research project that
involves six themes or modules all tied to the potential of a wage-led
growth strategy. It examines the causes and the consequences associ-
ated with the falling wage share and the rising inequality in income
distribution, both on aggregate demand and labour productivity. It
revisits existing theories, in particular those that claim that a higher
wage share could alleviate the global balance problems that have been
associated with new mercantilist policies designed to grow by restrain-
ing wage costs relative to those of competitor countries as well as the
global financial problems that have been associated with rising house-
hold debt needed to sustain consumption. It provides new empirical
and econometric evidence regarding the economic cause and potential
impact of changing income distribution. It also provides policy strate-
gies and the policy implications of a wage-led recovery. In particular,
the book provides an overarching framework used by all the authors of
the chapters which, it is hoped, will be useful to both future researchers
and policy-makers.
xi
Notes on Contributors
Giorgos Galanis is a doctoral candidate in Economics at the University

of Warwick and a Research Economist at the New Economics Foundation.
He already holds a PhD in Mathematical Methods and Systems from
City University, London, where he is also a Visiting Research Fellow.
Since November 2009, he has been a member of the editorial board of
Historical Materialism: Research in Critical Marxist Theory. His research
interests include growth, distribution and financial instability; com-
plexity economics; agent-based models and Marxian and post-Keynesian
economic theory.
Eckhard Hein is Professor of Economics at the Berlin School of

Economics and Law. He is a member of the coordination committee of
the Research Network Macroeconomics and Macroeconomic Policies
(FMM) and a managing co-editor of the European Journal of Economics
and Economic Policies: Intervention (EJEEP). He has published in the
Cambridge Journal of Economics, European Journal of the History of Economic
Thought, International Review of Applied Economics, Journal of Post
Keynesian Economics, Metroeconomica, Structural Change and Economic
Dynamics, and Review of Political Economy, among others. His most
recent books are The Macroeconomics of Finance-dominated Capitalism –
and its Crisis (2012) and A Modern Guide to Keynesian Macroeconomics and
Economic Policies (co-editor, 2011).
Marc Lavoie is Professor in the Department of Economics at the
University of Ottawa and an IMK Research Fellow. He is a managing
co-editor of the European Journal of Economics and Economic Policy:
Intervention. He is the author of Foundations of Post-Keynesian Economic
Analysis (1992), Introduction to Post-Keynesian Economics (2006), and
Monetary Economics: An Integrated Approach to Money, Income,
Production and Wealth (2007) with Wynne Godley. With Mario
Seccareccia, he has written the Canadian edition of the Baumol and
Blinder first-year textbook (2009). He has edited Alfred Eichner and
Post-Keynesian Economics (with Seccareccia and L.P. Rochon, 2010),
Selected Writings of Wynne Godley (with Gennaro Zezza, 2012), and In
Defense of Post-Keynesian and Heterodox Economics (with Frederic Lee,
2013).
xii
Notes on Contributors xiii
Matthias Mundt obtained an MA in International Economics from the

Berlin School of Economics and Law in 2013. He completed several
internships: at the Institute for Ecological Economy Research, the
Confederation of German Trade Unions and the Federal Ministry of
Economics and Technology. His research on Cape Verde is reflected in
Effects of European Fisheries Partnership Agreements on Fish Stocks and
Fishermen: The Case of Cape Verde (Institute for International Political
Economy Berlin Working Paper).
C.W.M. (Ro) Naastepad is Assistant Professor at Delft University of

Technology, the Netherlands. She has worked on real-financial comput-
able general equilibrium (CGE) models in the past. Subsequent work on
economic policies conducive to technological progress has been pub-
lished in, for instance, the Cambridge Journal of Economics, Industrial
Relations, and in her book, Macroeconomics Beyond the NAIRU (2012,
co-authored with Servaas Storm). Her current research concerns the
philosophy, methodology and implementation of a capital theory that
recognises a dual role of capital as both the financier of production for
material livelihood and the enabler of human capacities (which cannot
unfold unless they are financed).
Özlem Onaran is Professor of Workforce and Economic Development

Policy at the University of Greenwich. She is a member of the
Coordinating Committee of the Research Network Macroeconomics and
Macroeconomic Policies, a research associate at the Political Economy
Research Institute of the University of Massachusetts, Amherst, and a
fellow of the Global Labour University. Her research areas include glo-
balization, crisis, distribution, employment, investment, development,
and gender. She has articles in books and journals such as the Cambridge
Journal of Economics, World Development, Environment and Planning A,
Public Choice, Economic Inquiry, European Journal of Industrial Relations,
International Review of Applied Economics, Structural Change and Economic
Dynamics, Eastern European Economics, Capital and Class and Review of
Political Economy.
Engelbert Stockhammer is Professor of Economics at Kingston

University. His research areas include macroeconomics, financial sys-
tems and political economy. He is Research Associate at the Political
Economy Research Institute at the University of Massachusetts at
Amherst, and a member of the coordination committee of the ‘Research
Network Macroeconomics and Macroeconomic Policies’ (FMM) and of
the Committee of the Post Keynesian Economics Study Group (PKSG).
xiv Notes on Contributors
He has published widely in academic journals on the determinants of

unemployment, on distribution-led demand regimes, and on
financialization. He is the author of The Rise of Unemployment in Europe
(2004), and co-editor of Macroeconomic Policies on Shaky Foundations –
Whither Mainstream Economics? (2009), Heterodoxe Ökonomie (2009) and
A Modern Guide to Keynesian Macroeconomics and Economic Policies
(2012).
Servaas Storm is Assistant Professor at Delft University of Technology,

the Netherlands. He works on macroeconomics, financial institutions,
economic development and climate change. He has published papers
on these subjects in the Cambridge Journal of Economics, Industrial
Relations, Journal of Post Keynesian Economics, Development and Change
and Journal of Development Economics. His most recent book (co-authored
with C.W.M. Naastepad) is Macroeconomics Beyond the NAIRU (2012). He
is one of the editors of Development and Change.
Simon Sturn is a graduate student at the University of Massachusetts at

Amherst. From 2008 to 2011 he worked at the Macroeconomic Policy
Institute (IMK) in Düsseldorf. He studied economics in Vienna. He has
published in Applied Economics and the International Labour Review.
Till van Treeck is a Senior Economist at the Macroeconomic Policy

Institute (IMK) at Hans Boeckler Foundation in Duesseldorf and is cur-
rently a visiting professor at the University of Duisburg-Essen. He is a
member of the organizing committee of the Research Network
Macroeconomics and Macroeconomic Policies (FMM) and a managing
co-editor of the European Journal of Economics and Economic Policies:
Intervention (EJEEP). His research interests include German and European
economic policy, macroeconomic theory and income distribution.
Introduction
The financial crisis that began in the summer of 2007 turned into the
worst economic crisis since the Great Depression of the 1930s. The crisis
began in the financial sector, but has since spread throughout the econ-
omy. National income levels are well below trend and unemployment
rates are double their pre-crisis level. In many countries households and
governments remain burdened by high debt levels, which prolong sub-
dued demand. In the euro area the crisis morphed into a sovereign debt
crisis, laying bare the dysfunctional nature of the European economic
policy regime.
The crisis has led to an intensified debate over the role of the state.
The orthodox austerity policies claim to be aimed at reducing govern-
ment debt; but as they are unable to revitalize demand growth, they
often result in rising debt, as is illustrated by the recent UK experi-
ence. Austerity policy usually attempts to change not only the size,
but also the nature of government interventions by reducing welfare
expenditures (including pensions) and by privatizing public services.
The academic debate is mirrored by increasingly bitter political strug-
gles. Government intervention, almost by necessity, has distributional
effects. A strong welfare state usually strengthens labour and the poor
as they benefit most from welfare expenditures and public infrastruc-
ture. The question of how to engineer a recovery is thus closely tied
to the question of who pays for the crisis. The political confrontations
have gained in intensity as the effects of the crisis have been felt more
widely in the form of rising unemployment, wage cuts, and rising lev-
els of homelessness; they follow three decades of a rapid and histori-
cally unprecedented increase in inequality, in which the very top of
the income distribution, and, in particular, top earners in the financial
sector have gained at the expense of wage earners.
1
2 Wage-led Growth
The main goal of the book is to go beyond the microeconomic view

of wages as a cost that has negative consequences on the economy and
to consider the positive macroeconomic dynamics associated with
wages as a major component of aggregate demand. Wage growth can
generate both demand growth and productivity growth. Insufficient
wage growth and, more broadly, the polarization of income distribu-
tion have contributed to the economic crisis, and thus this process has
to be reversed. What we need is a new growth strategy, which the ILO
(2012), in its latest global wage report, has called ‘equitable growth’.
This will involve increased domestic consumption, supported by rising
wages.
The book is the final product of a research project sponsored by the
ILO, which involves six themes or modules all tied to the potential
of a wage-led growth strategy. The book examines the causes and the
consequences associated with the falling wage share and the rising ine-
quality in income distribution, on both aggregate demand and labour
productivity. It revisits existing theories, in particular those which
claim that a higher wage share could alleviate the global imbalances
problem that have been associated with new mercantilist policies
designed to grow by restraining wage costs relative to those of competi-
tor countries as well as the global financial problems that have been
associated with rising household debt needed to sustain consumption.
The book provides new empirical and econometric evidence regard-
ing the economic causes and potential impact of changing income
distribution. It also provides policy strategies and the policy implica-
tions of a wage-led recovery. In particular, the book provides an over-
arching framework, inspired by post-Keynesian economics, that takes
into account the impact of changes in income distribution on various
aspects of economic activity and aggregate demand in particular (to
be explained in the next section). This framework was used by all the
authors of the chapters, and it will be useful to both future researchers
and policy-makers.
Three views of the crisis
Several arguments have been offered to explain the development of

the subprime financial crisis and its devastating consequences. Broadly
speaking, we may say that there are three explanations. The first one,
closest to the neo-Austrian school, the Chicago school à la Milton
Friedman and the so-called ‘fresh-water’ economists, is that the market
system works fairly well as long as market forces are left unhindered.
Marc Lavoie and Engelbert Stockhammer 3
Thus for these economists, the financial crisis occurred in the United
States because of a series of government interferences, such as the overly
low US short-term interest rates or the inducements for banks to pro-
vide loans to poorer communities, or, looking further, the crisis was
triggered by the Chinese government, who rigged exchange rates, thus
flooding long-term US bond markets. It is also argued by these econo-
mists that the stimulus packages put in place to respond to the crisis
only made matters worse and amplified the crisis.
The second point of view, which is best associated with the so-called
‘salt-water’ economists and New Keynesians, sees the financial crisis as
an extreme example of market failure and poor information. Financial
innovations, such as securitization, also called the new ‘originate and
distribute’ banking model, which replaced the former ‘originate and
hold’ model, turned out to have unwanted consequences as lenders
managed to get rid of bad loans by transforming them into securities.
These failures were due in part to inappropriate pay structures in the
banking and financial industry, while fraud or quasi-fraud was made
possible by the gradual relaxation of financial regulation and the lack
of appropriate supervision.
The third explanation, while it recognizes the validity of the micro-
economic elements highlighted by the second group of economists,
relies in addition on deeper structural causes tied to the evolution of
macroeconomic variables, most importantly income distribution. This
explanation is usually associated with non-mainstream economists.
The economists who rely on the third explanation emphasize the fact
that since the 1980s there has been a switch in economic policies,
which have moved from policies aiming to promote full employment to
policies targeting low inflation. They also emphasize the general trans-
formation of society towards the acceptance of neoliberal precepts, in
particular the increasing importance of finance and that of sharehold-
ers, a phenomenon which has been called financialization and which
is associated with a ‘downsize and distribute’ model, where firms make
profits by reducing the size of their workforce instead of increasing their
investment levels. Both of these changes have weakened the bargaining
power of labour, leading in most countries to a substantial decrease in
the share of wages in national income, as well as to a noticeable increase
in wage and income inequality, as described in Tables I.1 and I.2.
These phenomena have led to a change in the way accumulation pro-
ceeds. Whereas growth had previously been supported by wage-led con-
sumption, with wages rising broadly in line with labour productivity,
growth over the past two decades has been based either on household
4 Wage-led Growth
Table I.1 Labour income share as percentage of GDP at current factor costs or
wage share in GDP, in percentage, G20 countries, average values over the trade
cycle, early 1980s–2008
1. Early 2. Early Change (3 – 2),

1980s–early 1990s–early 3. Early percentage
1990s 2000s 2000s–2008 points
Argentinaa,b ... 38.42 32.79c −5.63

Australia 66.70 65.76 62.57 −3.19
a,b c
Brazil ... 43.33 39.64 −3.69
Canada 66.89 67.79 63.75 −4.05
Chinaa,b 15.58 13.11 10.82 −2.28
France 71.44 66.88 65.87 −1.01
Germany 67.11 66.04 63.37 −2.67
Indiaa,b 34.03 32.25 32.18c −0.07
Indonesiaa ... ... ... ...
Italy 68.70 63.25 62.37 −0.88
Japana 72.38 70.47 65.75 −4.73
Korea, Rep. of a 81.62 80.53 76.97 −3.56
a
Mexico ... 46.35 46.16 −0.19
Russian ... 45.87 45.56c −0.31
Federationa,b
Saudi Arabiaa ... ... ... ...
a,b c
South Africa 56.65 54.87 50.18 −4.69
Turkeya 48.07 54.12 50.34 −3.78
United Kingdom 72.98 71.99 70.73 −1.26
United States 68.20 67.12 65.87 −1.25
Notes: The labour income share is given by the compensation per employee divided by
GDP at factor costs per person employed. The beginning of a trade cycle is given by a local
minimum of annual real GDP growth in the respective country.
a
adjusted to fit in 3 cycle pattern, b wage share in GDP or in gross value added, c incomplete
trade cycle
Source: E. Hein and M. Mundt, ‘Financialisation and the requirements and potentials for
wage-led recovery – a review focussing on the G20’, Conditions of Work and Employment
Series No. 37, (Geneva: ILO), http://www.ilo.org/wcmsp5/groups/public/---ed_protect/---
protrav/---travail/documents/publication/wcms_191782.pdf.
debt (‘debt-led growth’) or on low wages so as to help generate exports to

foreign countries (‘export-led growth’). These regimes of accumulation
eventually proved to be unsustainable. This book offers an analysis
Table I.2 The share of top 1 per cent earners’ income in total income, mid-
1970s to mid-2000s
Change,
Country Mid-1970s Mid-2000s percentage points
G20-countries
Argentinae 9.9 16.8 +6.9
d
Australia 5.0 9.7 +4.7
Canadad 8.2 12.8 +4.6
a,e
China 2.6 5.9 +3.3
Franced 8.2 8.7 +0.5
Germanye 10.4 12.1 +1.7
Indiab,e 7.0 9.5 +2.5
Indonesiac,e 7.2 9.1 +1.9
Italyd 7.0 9.2 +2.2
Japand 6.9 9.0 +2.1
United Kingdome 6.1 14.3 +8.2
United Statesd 7.9 18.0 +10.1
Notes: a First data point is from the mid-1980s; b second data point is from the end of the
1990s; c first data point is from the early 1980s.
Source: d 2012 OECD Employment Outlook, supporting material for chapter 3, Table 3.A2.1;
e
http://g-mond.parisschoolofeconomics.eu/topincomes/#Database.
of demand formation and productivity growth as dependent on wage

growth and thus sheds light on the central role of functional income
distribution in determining growth performance.
The book thus forms part of a renewed interest in the question of
whether or not rising inequality is one of the causes of the global finan-
cial crisis. Several authors have recently highlighted that inequality may
have contributed to the crisis. Raghuram Rajan (2010) was one of the
first to highlight the ties between income distribution and the crisis,
but his findings were based on what we defined as the first explanation
of the crisis. Rajan contends that the observed rising income inequality
induced governments to look for new ways to raise aggregate demand.
The US administration fostered a new ‘ownership society’ by encourag-
ing credit growth and, ultimately, the subprime boom. According to
this argument, it is not the rise in inequality itself per se that caused
the crisis, but rather the government’s reaction to rising inequality.
Joseph Stiglitz (2012) sees this transformation as an ideological battle
6 Wage-led Growth
between the Right and the Left, with the upper economic class hav-
ing taken control of the reins of government and having succeeded in
achieving regulation capture, on top of having convinced voters that
trickle-down economics was a fact rather than simply a theory. This
has allowed the upper classes to pursue and achieve rent-seeking. For
Stiglitz the negative effects of rising inequality are mostly to be found
on the supply side. Thomas Palley (2012) argues that economists and
economic theory are very much to blame for the global financial cri-
sis, because of their focus on supply-side economics and the optimal
properties of unfettered markets, while ignoring the demand-generat-
ing process. What he calls ‘emergency Keynesianism’ – expansionary
monetary and fiscal policies in crisis periods – is unlikely to succeed,
because it ignores the underlying problem, that of the structural lack
of aggregate demand, caused by excessively low wages and overly large
income dispersion. However, he does not provide systematic evidence
for this claim. James Galbraith (2012) presents a novel measure of eco-
nomic inequality and argues that it reflects a concentration of wealth at
the very top of the distribution. It has been brought about by financial
rather than real forces. Interest rates, stock market booms and inter-
national payments, but not technology or education are responsible.
While Galbraith repeatedly stresses inequality as a cause of the crisis,
he is rather vague about the exact mechanisms and criticizes the Bush
administration and its drive for an ownership society for a deterioration
of lending standards.
All of these contributions share a focus on the experience of the United
States. Our approach differs, firstly, in systematically highlighting the link
between income distribution and demand formation, in particular the
effect of wage growth on consumption growth. This link is substantiated
empirically. Second, we take an internationally comparative approach,
highlighting that different countries have adopted different strategies
in dealing with the rise in equality. The US debt-led growth model is
only one variant among many. Other countries have pursued export-led
growth strategies. Both strategies do rely on rising imbalances (the former
on rising debt ratios, the latter on rising trade imbalances). A wage-led
growth strategy offers a sounder macroeconomic alternative.
Presentation of the six chapters
The objective of the first chapter, by Marc Lavoie and Engelbert

Stockhammer, is to present the common framework of the book and
to clarify the concept of a wage-led growth strategy, which combines
pro-labour distributional policies with structural policies that strengthen

a wage-led economic regime. One of the main findings of the research
project, based on data from the last thirty years or so, is that aggregate
demand and productivity in most G20 countries would respond favour-
ably to an increase in the wage share. Looking at aggregate demand spe-
cifically, we thus can say that most countries are in a wage-led regime.
This, however, must not be confused with the fact that most countries
over the last three decades have pursued pro-capital distributional
policies that have led to a decrease in the share of labour and/or to
an increase in income inequality, as exemplified by Tables I.1 and I.2.
These two concepts, a wage-led demand regime and pro-labour distri-
butional policies, must thus be distinguished, although we could say
that pursuing pro-labour distributional policies in an economy whose
structure is such that this economy is in a wage-led regime would con-
stitute an appropriate wage-led growth strategy. The argument of Lavoie
and Stockhammer is that neoliberalism as it has occurred in practice
has meant that most countries have instead pursued pro-capital dis-
tributional policies that have generated stagnant or unstable growth
processes because these countries are mostly in a wage-led economic
regime, thus necessitating external drivers such as household debt or
export-led growth to maintain GDP growth. Lavoie and Stockhammer
also explain that while a number of countries may be in a profit-led
total demand regime when taking into account all elements of aggre-
gate demand, including net exports, nearly all of them are in a wage-
led domestic demand regime when only domestic demand is taken into
account. Thus while pro-capital distributional policies may be demand-
enhancing when a country is taken in isolation, this will not generally
be the case when all countries are considered as a whole.
But why is it that the wage share has fallen in most countries, both
industrialized and developing ones, since the 1980s? This is the ques-
tion that Engelbert Stockhammer endeavours to answer in Chapter 2.
He recalls that from the mainstream standpoint, income distribution is
determined primarily by technological developments, along the lines
of the marginal productivity theory, the argument being that techni-
cal progress has been capital-augmenting, thus leading to an increase
in the share of capital income. An alternative view, which is common
to all the authors of the book, is that income distribution is mainly a
matter of bargaining power. Thus globalization, financialization and the
abandonment of full-employment policies (welfare state retrenchment)
would all lead to a reduction in the bargaining power of labour and, con-
sequently, generate a reduction in the wage share. Stockhammer thus
8 Wage-led Growth
provides an econometric analysis that intends to measure the impact of

these various factors, for both industrialized and developing countries,
by estimating a wage share equation that includes proxies of these fac-
tors. In the case of advanced economies, high unemployment rates and
high GDP growth rates have a clear negative impact on the wage share.
In addition, union density and the share of government consumption
in GDP have a substantial positive effect on the wage share, whereas the
ratio of foreign assets and liabilities to GDP (financialization) and the
ratio of exports and imports to GDP (globalization) both have a sub-
stantial negative effect on the wage share. By contrast, the technological
proxies – the capital to labour ratio and the share of information and
communication technologies – once all these other effects are taken into
consideration, have a minor negative impact on the wage share. When
advanced and developing countries are combined, using a slightly dif-
ferent set of variables for 71 countries, similar results are obtained, with
financialization having the largest negative effect on the wage share,
while globalization and welfare state retrenchment also have a negative
effect. Ironically, technological change, here also including changes in
the sectoral composition of manufacturing and agriculture, has a pos-
itive effect on the wage share. Stockhammer thus concludes that the
main cause of the decrease in the share of wages in national income
has been the drop in the bargaining power of labour over time, and not
technological change, which implies that the increase in the profit share
and in income inequality can be reversed by appropriate policies.
But is there any evidence that an increase in the wage share could
have positive effects on aggregate demand? Özlem Onaran and Giorgos
Galanis endeavour to examine this question through a vast economet-
ric study that deals with 16 of the G20 countries. This sample covers
approximately 80 per cent of the world GDP. Onaran and Galanis esti-
mate three equations that measure the impact of a change in the profit
share on three of the four components of aggregate demand: consump-
tion, investment and net exports. The impact of an increase in the wage
share on consumption is usually positive because wage recipients have
a higher propensity to consume than do the recipients of profit. By
contrast, an increase in the wage share normally has a negative impact
on investment, as lower profit margins are likely to decrease the incen-
tive to invest. Finally, an increase in the wage share will also have a
negative impact on net exports, as such increases are usually associated
with higher unit costs, which reduce competitiveness. Whether the first
effect is larger than the second one, or larger than the sum of the last
two, is an empirical question. The authors find that all 16 countries of
the G20 sample, as well as the whole of the euro area, are in a domestic
demand-led regime. Of these, only Australia, Canada, Mexico, Argentina,
China, India and South Africa exhibit a profit-led total demand regime.
However, Onaran and Galanis demonstrate that if all countries were to
simultaneously decrease their wage share by one percentage point, only
Australia, China and South Africa would benefit from an expansion of
aggregate demand, while the world GDP would decrease by 0.36 percent-
age points. This shows clearly that the world economy is in a wage-led
demand regime. The authors also point out that it is possible to find a
scenario whereby all countries would benefit from an increase in their
wage share even if this increase is smaller for countries that are in a
profit-led total demand regime. They thus conclude that a global wage-
led recovery is one way out of the current recession.
The chapter by Servaas Storm and C.W.M. Naastepad investigates
the supply-side effects of higher wage growth, in particular the effect
of productivity growth. Whereas Stockhammer as well as Onaran and
Galanis focus on the wage share, Storm and Naastepad start their analy-
sis by considering the growth rate of wages. Storm and Naastepad rely
on the Dutch experience since the early 1980s as a case study of the
economic impact brought about by the interrelationship between the
growth rate of wages and the growth rate of productivity. They point
out that real wages have two effects on productivity growth: first, a
direct effect, which is usually positive, as higher real wages will induce
firms to introduce more productive methods of production so as to safe-
guard their profits; secondly, an indirect impact, which arises because
higher real wages will have an impact on aggregate demand, as pointed
out empirically in the previous chapter, and the change in the rate of
growth of aggregate demand will feed a change, of the same sign, in the
growth rate of productivity, with this last relationship being called the
Kaldor–Verdoorn effect. Storm and Naastepad explain that in the case
of the Netherlands there was an overly slow increase in real wages and
a fall in the wage share for over twenty years. Because the Netherlands
are in a wage-led demand regime, this led to a slowdown in the growth
rate of aggregate demand, which itself induced very slow productiv-
ity growth. It was this slow or nearly zero-productivity growth that
explained the Dutch employment miracle of the 1980s and 1990s, when
unemployment rates fell both in absolute and relative terms, because
the low growth rate of demand surpassed the even lower growth rate of
labour productivity, thus generating a fair growth rate of employment.
Based on consensual estimates of the Kaldor–Verdoorn effects and of
the relatively weak impact of wage growth on demand growth in the
10 Wage-led Growth
euro zone and in the United States, Storm and Naastepad deduce that
most countries that are in a wage-led demand regime are likely to be
in a profit-led employment regime. This means that faster increases in
real wages are likely to generate slower increases in employment. As a
result of their findings Storm and Naastepad conclude that whereas pro-
labour policies are favourable to productivity growth and to aggregate
demand (as shown in the previous chapter), they are likely to be unfa-
vourable to job creation. This implies that, to avoid this contradiction,
pro-labour policies, in most wage-led regimes, must be accompanied
by supportive fiscal and monetary policies. Some could infer from the
above that wage-restraining policies should be pursued; but such poli-
cies, although they are likely to reduce unemployment by creating low-
wage jobs, will keep aggregate demand and productivity stagnant. This
is an option that Storm and Naastepad reject, and which they encour-
age trade unions to reject as well, because it leads to stagnant living
standards and also removes the possibility of rising living standards
accompanied by a reduced number of working hours.
We have so far focused our attention on the distribution of functional
income, that is, the wage and profit shares in national income. However,
as we saw in Table I.2, personal income, including wage income, has also
been subjected to large changes over time. The income share of recipients
of the top decile and, most particularly, the top 1 per cent or even 0.1 per
cent has increased considerably in a large number of countries. Until now,
we have argued that the greater inequality in income distribution is likely
to have slowed down aggregate demand, as high-income earners have a
higher propensity to save than do low-income earners. And indeed, there
is a great deal of literature that argues that income inequality is inimical
to fast growth, in contrast to the past mainstream view that argued that
income inequality was a necessary side effect of growth and efficiency.
But can we draw any other consequence from this change in the distribu-
tion of personal income? This is the task that Simon Sturn and Till van
Treeck have assigned to themselves. To do so, they examine the case of
three quite different countries: the United States, China and Germany.
Van Treeck and Sturn first argue that the rising income inequality in
the United States has led to a change in the consumption and borrow-
ing behaviour of American households. After having increased working
hours, and having easy access to credit, for the purposes of both consump-
tion and housing, middle-income Americans have reacted to the growing
gap between their revenues and those of their better-to-do neighbours by
increasing the extent of their borrowing and thus reducing their saving
rates. This has led to structural changes – a debt-led consumption boom
as well as a real estate boom – and not merely to temporary changes in

debt so as to absorb transitory changes in income as argued by the main-
stream. Another consequence of this structural change has been the large
US current account deficits, which have arisen from this fall in aggre-
gate household saving and the expenditures of rich income recipients on
luxury goods coming from abroad. By contrast, China and Germany have
both suffered from a lack of domestic aggregate demand, thus experienc-
ing large current account surpluses, because, besides the standard effect
of differential household saving rates by deciles, rising income inequal-
ity and greater job insecurity have induced households to save more.
In China, the rise in household income inequality in the context of an
underdeveloped financial system and a weak social and health safety net
can be identified as one of the main causes of this rise in the propensity to
save, while in Germany stagnant incomes as well as labour market deregu-
lation and welfare state reforms have induced households to raise their
precautionary savings.
The final chapter, written by Eckhard Hein and Matthias Mundt, looks
at the role of financialization as a cause of the crisis and and explicitly dis-
cusses a broader economic policy package, highlighting that the wage-led
growth strategy should be part of, what they call, a Global Keynesian New
Deal to achieve a long-run stable recovery. Hein and Mundt first assess the
three main causes of the deep recession that arose as a consequence of the
subprime financial crisis: inefficient regulation of the financial markets;
increased inequality in income distribution; and large global imbalances.
They focus in particular on the effects of the process of financialization
that we have already mentioned. In a number of countries, notably the
United States, the United Kingdom and Australia, this has generated a
‘debt-led consumption boom’ regime. The main features of this regime
are weak investment in capital stock, because of the shareholder value
orientation of management, short-termism regarding high target rates of
return on equity, large distributions of dividends and substantial capital
gains. The latter have supported an expansion of consumption expen-
ditures, this expansion being itself encouraged by easier access to credit
and the concomitant increase in financial and real estate wealth. These
higher consumption expenditures have vindicated high profit margins
despite relatively low investment expenditures. But because these debt-led
countries tend to generate current account deficits, other countries – such
as China, Indonesia, Japan, the Republic of Korea and Germany – have
chosen ‘strongly export-led mercantilist’ policies, generating growth
through their exports to these debt-led consumption boom countries. As
the financial crisis and the Great Recession have shown, the imbalances
12 Wage-led Growth
generated by such strategies are unsustainable in the long run. Hein and
Mundt thus recommend a wage-led recovery strategy embedded into
their Global Keynesian New Deal. The wage-led growth strategy requires
enhanced trade union bargaining power, a reduction of managerial over-
heads and the profit claims of financial wealth holders, and the downsiz-
ing of the profit-intensive financial sector. More generally, the New Deal
requires first, the re-regulation of the financial sector in order to prevent
future financial excesses and financial crises; second, the reorientation
of macroeconomic policies towards stimulating and stabilizing domestic
demand, in particular in the current account surplus countries; and third
the reconstruction of international macroeconomic policy co-ordination
and a new world financial order along the lines of Keynes’s international
clearing union, so as to discourage countries from adopting export-led
mercantilist policies based on low wages or low wage growth. The chapter
by Hein and Mundt thus concludes this book on wage-led growth strate-
gies with a broad vision of the economic policies that are needed for a
sustainable economic recovery.
Acknowledgements
Finally, we wish to take this opportunity to thank our colleagues who

accepted the invitation to be part of this endeavour, as well as Lance
Taylor who agreed to chair a session at which all of the chapters were pre-
sented. We also wish to thank all those at the ILO who have given techni-
cal, financial and intellectual support to the project that has culminated
in the present book, namely Manuela Tomei, Frank Hoffer, Patrick Belser,
Matthieu Charpe, and especially Sangheon Lee, who showed great deter-
mination in getting the project going.
References
Galbraith, J.K. 2012. Inequality and Instability: A Study of the World Economy Just
Before the Great Crisis (New York: Oxford University Press).
International Labour Office (ILO). 2012. Global Wage Report 2012–13: Wages and
Equitable Growth (Geneva: ILO).
Palley, T.I. 2012. From Financial Crisis to Stagnation: The Destruction of Shared
Prosperity and the Role of Economics (Cambridge: Cambridge University Press).
Rajan, R.G. 2010. Fault Lines: How Hidden Fractures Still Threaten the World
Economy (Princeton, NJ: Princeton University Press).
Stiglitz, J.E. 2012. The Price of Inequality: How Today’s Divided Society Endangers
Our Future (New York: W.W. Norton).
1
Wage-led Growth: Concept,
Theories and Policies1
1.1 Introduction
The subprime financial crisis that started in 2007 and which became
the global financial crisis challenges economists and policy-makers to
reconsider the theories and policies that had gradually been accepted as
conventional wisdom over the last thirty years. It is widely recognized
that the global financial crisis has called into question the efficiency
and stability of unregulated financial markets. This chapter argues that
it has also demonstrated the limitations and even falsehood of the claim
that wage moderation, accompanied by more flexible labour markets as
well as labour institutions and laws more favourable to employers, will
ultimately make for a more stable economy and a more productive and
dynamic economic system.
The introductory chapter has recalled that in a large number of coun-
tries the past decades have witnessed falling wage shares and a polari-
zation of personal income distribution. As will be argued in the next
chapter, we believe that these phenomena are, at most, only partially
associated with technical change and changes in the composition of
output, and that the essential cause of the long-run evolution of income
distribution and its rising dispersion is the change in economic poli-
cies and in the institutional and legal environment that has been more
favourable to capital and its high-end supervisory employees over the
last thirty years or so.
It is time to reconsider the validity of these pro-capital distributional
policies, and to examine the possibility of an alternative path, one
based on pro-labour distributional policies, accompanied by legisla-
tive changes and structural policies that will make a wage-led growth
regime more likely, that is, pursue what we call a wage-led growth strategy,
13
14 Wage-led Growth
which, in our view, will generate a much more stable growth regime for
the future. This issue is particularly important in view of the fact that
the financial crisis has plunged many economies in recession, thus fur-
ther weakening the ability of workers to resist attempts to lower wages
or real wages, and hence with the consequence, at the macroeconomic
level, of further reducing the wage share in national income.
The advocacy of a wage-led economic strategy has a long history. It
has been articulated in reformist visions within the labour movement
and in nineteenth-century economics the phenomenon was discussed
under the heading of ‘underconsumption’.2 Within the Marxist tra-
dition, underconsumption theories have been discussed as problems
in the realization of profit.3 These ideas received a further boost from
their endorsement by Keynes, when he proposed his theory of effective
demand, arguing that excessive saving rates, relative to deficient invest-
ment rates, were at the core of depressed economies. In the more recent
academic debate, post-Keynesian economists have done the most to
analytically clarify the relation between income distribution and effec-
tive demand.4 More recently, the policy-oriented concept of a wage-led
growth strategy was prominently used by UNCTAD (2010, 2011).
A standard objection to the consideration of the underconsumption
thesis, or the consideration of problems related to the lack of effective
demand, is that long-run growth – the trend rate of growth, also called
the potential growth or the natural rate of growth – is ultimately deter-
mined by supply-side factors, such as the growth rate of the labour force
and the growth rate of labour productivity. While adepts of the so-
called ‘endogenous growth theory’ will recognize that investment in
human capital or research and development may end up modifying the
potential growth rate, they usually set aside the idea that actual growth
rates could have an influence on potential growth rates. Yet, since the
advent of the global financial crisis, government agencies and central
banks in many industrialized countries have lowered their forecasts
of long-run real growth, thus demonstrating clearly that weak aggre-
gate demand does have an impact on potential growth. As Dray and
Thirlwall (2011, p. 466) recall, ‘it makes little economic sense to think
of growth as supply constrained if, within limits, demand can create its
own supply’. This explains why we shall focus on the income distribu-
tion determinants of aggregate demand, paying less attention to the
supply-side factors.
The main objective of the present chapter is to provide an accessi-
ble introduction to the topic of a wage-led growth strategy for policy-
makers. Another important objective is to present the overarching
framework underlying the efforts of the authors of the other chapters of

the book, thus also providing an introduction to the notions of wage-led
and profit-led economic regimes, in the hope that other researchers will
adopt these distinctions and embark on the kind of empirical research
required to assess whether various other individual countries or regions
are in a wage-led or a profit-led regime.
In the next section, section 1.2, we provide a policy-oriented frame-
work for the analysis of the interaction between distribution and
growth. We will need to make a distinction between distributional
policies and a macroeconomic regime. It is important to make these
conceptual definitions and distinctions because they are not always
obvious to non-economists. On the one hand governments can pursue
pro-labour or pro-capital distributional policies, which aim respectively
to increase or decrease the share of wages in national income; while
on the other hand we have wage-led and profit-led economic regimes,
which are associated with the structural macroeconomic features of the
country under investigation. More technically, distributional policies
are about the determinants of income distribution, the economic regime
is about the effects of changes in income distribution on the economy.
We will also see how policies and regimes can interact to create either
stable and high growth processes or whether some combination can
lead instead to slow or unstable growth processes.
In section 1.3, we shall examine why an economy would exhibit a
wage-led economic regime, looking both at supply-side effects, that is
the relationship between the share of wages and labour productivity
growth, and also demand-side effects, which is our main concern in
this section and in this chapter. Section 1.4 provides a summary of the
key empirical findings regarding demand and productivity regimes.
Finally, section 1.5 argues that since the world economy as a whole is
likely to be in a wage-led regime, an economically sustainable process
of growth requires the adoption of a wage-led strategy, with pro-labour
distributional and structural policies. This will generate a wage-led
growth process, which will ultimately be favourable to all concerned,
including employers.
1.2 Distribution and growth: A conceptual framework
The relation between distribution and growth had been at the centre
of macroeconomic analysis in classical economics, but with the domi-
nance of neoclassical economics in the twentieth century, issues of dis-
tribution have been neglected, since income distribution was assumed
16 Wage-led Growth
to be regulated by marginal productivity relations within a perfect com-

petition model, with wages for various occupations being determined
by the pure market forces of supply and demand. But such a mechanical
model of wage determination and income distribution does not hold
up in a world where monopsonist features, imperfect competition and
economic and social power come into play.5 In such a world, in contrast
to the ideal world of market fundamentalism, market forces do not pro-
duce optimum results and there is room for modifying income distribu-
tion. In the following we offer a policy-oriented framework to analyse
the relation between distribution and growth. We start by contrasting
pro-labour and pro-capital distributional policies.
1.2.1 Pro-capital versus pro-labour distributional policies

Income distribution is the outcome of complex social and economic
processes, but governments directly influence it by means of tax policy,
social policy and labour market policy. As shown in Table 1.1, we define
as pro-capital distributional policies those policies that lead to a long-
run decline in the wage share in national income, while pro-labour dis-
tributional policies are policies that result in an increase in the wage
share. Pro-capital distributional policies usually claim to promote
‘labour market flexibility’ or wage flexibility, rather than increasing
capital income. They include measures that weaken collective bargain-
ing institutions (by granting exceptions to bargaining coverage), labour
unions (for example, by changing strike laws) and employment protec-
tion legislation, as well as measures (or lack of measures) that lead to
lower minimum wages. There are also measures that alter the secondary
income distribution in favour of profits and the rich, such as exempting
capital gains from income taxation, or reducing the corporate income
tax. Ultimately, pro-capital policies impose wage moderation.
Pro-labour policies, in contrast, are often referred to as policies that
strengthen the welfare state, labour market institutions, labour unions,
and the ability to engage in collective bargaining (for example, by
extending the reach of bargaining agreements to non-unionized firms).
Pro-labour policies are also associated with increased unemployment
benefits, higher minimum wages and a higher minimum wage relative
to the median wage, as well as reductions in wage and salary dispersion.
All else being equal, with a pro-labour distributional policy, the wage
share will remain constant or will increase over the long run, as real
wages grow in line with labour productivity or exceed productivity. By
contrast, in the case of a pro-capital distributional policy, real wages
will not grow as fast as labour productivity.
Of course, there are also other factors influencing income distribu-

tion, such as technological changes, trade policy, globalization, finan-
cialization and financial deregulation. These factors have recently
played an important role (Stockhammer 2013), but we will not elabo-
rate on them here, as we wish to focus on the interaction of distribu-
tional policies and economic regime.
1.2.2 Profit-led versus wage-led economic regimes

So far we have considered the economic policies pursued by a govern-
ment, which could alter income distribution in favour of profits or of
wages or the median wage. Next we consider the following question:
knowing that income distribution is shifting in favour of profits or
wages, what is the effect of such a shift on economic performance? For
instance, if income distribution in a country is shifting in favour of
profit recipients, does this by itself have favourable consequences on
aggregate demand in the short run, on the growth rate of aggregate
demand in the long run, or on the growth rate of labour productivity?
If indeed this shift towards profits has favourable repercussions on the
economy, as we have just defined them, then we shall say that this
economy is in a profit-led economic regime. If not, if the shift towards
profits has a negative impact on the economy, then the economy is in
a wage-led economic regime. By symmetry, we can argue that economies
that, all else being equal, experience rising wage shares that induce a
favourable outcome are part of a wage-led regime, while rising wage
Table 1.1 Pro-labour and pro-capital distributional policies
Distributional policies
Pro-capital Pro-labour Other factors
Policies ‘Labour market ‘Welfare state’ Changes in

flexibility’ Increase minimum technology
Abolish minimum wages Globalization
wages Strengthen collective Financialization
Weaken collective bargaining
bargaining
Impose wage
moderation
Results Weak wage growth Rising real wages
Wage share ↓ Stable (or ↑) wage share
Increased wage Decreased wage
dispersion dispersion
18 Wage-led Growth
shares that generate an unfavourable outcome indicate the presence of a

profit-led regime. This is all summed up in Table 1.2. At this stage, we do
not attempt to distinguish between demand and productivity effects,
but only discuss the economic regime, assuming for the moment that
demand and productivity react in a similar direction to distributional
changes. We shall tackle this issue in more detail in the next section.
Whether an economy is under a profit-led or a wage-led regime is
affected by the structure of the economy. It will depend in part on
the existing income distribution in the country, but also on various
behavioural components, such as the propensity to consume of wage
earners and recipients of profit incomes, on the sensitivity of entrepre-
neurs to changes in sales or in profit margins, and on the sensitivity of
exporters and importers to changes in costs, foreign exchange values,
and changes in foreign demand, as well as the size of the various com-
ponents of aggregate demand – consumption, investment, government
expenditures and net exports. While an economic regime also depends
on the various economic structures and institutions, as well as various
forms of government policy, it should be clear that the nature of the
economic regime as defined in Table 1.2 is not a choice variable for
economic policy in any straightforward sense. It should not be under-
stood as designed by economic policy, but rather as determined by the
institutional structure of the economy.
We can now bring together the analyses of distributional policies
and of economic regimes, as shown in Table 1.3. Between the two
sets of distributional policies and the two economic regimes, four dif-
ferent combinations are possible with quite different properties. If
pro-capital distributional policies are pursued in a profit-led economy,
this will result in a profit-led growth process. Inversely, if pro-labour
policies are pursued in a wage-led economy, this will result in a wage-
led growth process. These are the two cells in the main diagonal in
Table 1.2 Definition of profit-led and wage-led regimes
Overall impact on the economy
Expansionary Contractionary
Income An increase in Profit-led regime Wage-led regime

distribution the profit share
change imposed
on society An increase in Wage-led regime Profit-led regime
the wage share
Table 1.3. In both cases distributional policies and economic struc-

tures are consistent with each other. However, if pro-capital policies
are pursued in a wage-led economy or if pro-labour policies are pur-
sued in a profit-led economy, this will result in stagnation. In prac-
tice, inconsistent distributional policies and regimes are also likely to
evolve towards unstable growth patterns as growth will have to rely
on external stimulation.
Table 1.3 is useful in classifying different political ideologies as the
four different combinations allow us to classify many important argu-
ments. Take the first cell (pro-capital policies in a profit-led economy).
This scenario, as shown in Table 1.4, corresponds to liberal ideology and
what is often called trickle-down economics. Policies more favourable
to profit recipients and to employers and their high-ranking employees
are said to lead to improved macroeconomic performance. Under such
a scenario, the average worker will eventually benefit from wage cuts
and harsher working conditions as higher profit margins will induce
entrepreneurs and executive officers to work harder and invest in more
numerous machines and more productive capacity, so that rewards
will eventually trickle down to workers as well, in the form of higher
employment rates and higher purchasing power. This scenario could be
called ‘neoliberalism in theory’. It rests on the idea of a trickle-down
process whereby increasing profits lead to virtuous cycle of higher
growth that ultimately also benefits labour and the poor.
The cell that mixes pro-labour policies in a wage-led regime sum-
marizes what many economists (for example, Marglin and Schor 1990)
regard as a key characteristic of the post-war era. The expansion of the
welfare state (in advanced economies) led to a golden age of growth
which was favourable to both workers and entrepreneurs, as rising real
wages generated large increases in labour productivity and profits until
the 1970s.
Table 1.3 Viability of growth regimes
Distributional policies
Pro-capital Pro-labour
Economic regime Profit-led Profit-led growth Stagnation or

process unstable growth
Wage-led Stagnation or Wage-led growth

unstable growth process
20 Wage-led Growth
Table 1.4 Actual growth strategies in the economic regime/distributional

policies framework
Distributional policies and strategies
Pro-capital Pro-labour
Economic Profit-led ‘Neoliberalism in ‘Doomed social reforms’

regime theory’ (TINA)
Trickle-down capitalism
Wage-led ‘Neoliberalism in Social Keynesianism
practice’ – Unstable, Post-war Golden Age
has to rely on
exogenous growth drivers
(debt-led growth or
export-led growth)
The next cell (pro-labour policies in a profit-led economy) could be

termed ‘doomed social reforms’. It is the scenario that neoliberals claim
would happen if progressive social reforms were implemented. Margaret
Thatcher’s famous dictum, later repeated by several think-tanks and even
left-wing politicians, that ‘there is no alternative’ (TINA), makes sense in
this cell. Some Marxists use a similar scenario to illustrate the futility of
attempts to restore a more humane economy within the capitalist mode
of production. Within this cell, attempts to raise workers’ compensa-
tion or the wage share inevitably lead to a slowdown of the economy, as
such changes in income distribution are inconsistent with the profit-led
regime of the economy, usually leading to their quick abandonment.
Finally there is the fourth cell, which combines pro-capital dis-
tributional policies with a wage-led regime. We will argue that this
describes ‘neoliberalism in practice’ in several countries, since two or
more decades of pro-capital redistribution policies have resulted in a
general increase in economic inequalities and in a mediocre economic
performance relative to the performance achieved in the Golden Age.6
Furthermore, this neoliberalism in practice, has been accompanied by
a heavy reliance on a bloated financial sector or on external demand,
which has generated economic and financial instability. The reliance
on these external drivers – export-led growth and debt-led growth –
constitutes an attempt to circumvent the slow growth inherent to the
contradiction between the pro-capital distribution policies being pur-
sued by society and the intrinsic properties of an area under a wage-led
economic regime, as explained in detail by Hein and Mundt (2013) in
the final chapter of the book.
Thus far, we can conclude that if several countries, or if some regions,

are under a wage-led regime, then pro-capital policies that pertain to
boost the confidence of employers will fail. These policies will not gen-
erate favourable effects on aggregate demand and productivity. In a
wage-led regime, what we need instead are pro-labour policies, which
will help to generate sustainable growth. In other words, in a wage-led
regime, what we need is a wage-led growth strategy. What we now have
to examine are the factors that determine whether an economy is in a
wage-led or a profit-led regime. And we shall see later still the results of
a set of empirical studies on this specific question.
1.3 Profit-led or wage-led economic regimes?
In this section, we wish to present the tools that will help us distinguish
between wage-led and profit-led economic regimes. Following conven-
tional practice among researchers in the field established since Boyer
(1988), we will distinguish between demand regimes and productiv-
ity regimes, although, as we shall see, the overall effects on aggregate
demand and productivity growth are interdependent. We first deal
with the demand side, emphasized by Keynesian economists.
1.3.1 Demand regimes

To assess whether an economy is in a wage-led demand regime or in a
profit-led demand regime, we need to consider the four components of
gross domestic product (GDP), that is, the four components of aggre-
gate demand, which are private consumption (C), private investment
(I), government expenditure (G), and net exports (NX, exports minus
imports), which we can write as:
AD = C + I + G + NX
Broadly speaking, we will say that an economy is in a wage-led demand

regime when an increase in the wage share (or a decrease in the profit
share) leads to an increase in the sum of the components of aggregate
demand; and we will say that an economy is in a profit-led demand
regime when an increase in the profit share (or a decrease in the wage
share) leads to an increase in the sum of the components of aggregate
demand.
It is customary to consider that the first three components of aggregate
demand – consumption, investment and government expenditure – are
the domestic components of aggregate demand. This will thus allow us
22 Wage-led Growth
to make the distinction between the domestic demand regime and the
total demand regime. Since it is difficult to treat government expendi-
tures as anything but exogenous, to assess the domestic demand regime
we only need to consider the impact of a change in income distribution
on consumption and investment.
Let us start with the effect of an (exogenous) increase in the wage
share (or in real wages at constant labour productivity) on private con-
sumption. If the propensities to consume out of profits and out of wages
are the same, then the change in real wages will have no impact whatso-
ever on consumption, which is the standard assumption in mainstream
models, where income distribution plays no role. However, if the pro-
pensity to consume out of wages is higher than the propensity to con-
sume out of profits, then a shift in income distribution towards wages
will induce an increase in consumption demand. This occurs because
the redistribution of income towards a higher wage share generates
an increase in consumption expenditures, since wage earners spend a
greater portion of their income than profit recipients. A decrease in
wage dispersion, providing a greater share of income to the lower quin-
tiles, would lead to a similar result. These effects are at the core of the
arguments of the underconsumptionist economists who highlight the
detrimental impact of rising or high profit shares, as can be found in
the modern and canonical Kaleckian models of Rowthorn (1981), Taylor
(1983) and Dutt (1987).
These consequences are well supported by empirical evidence, which
shows that the propensities to save out of profits are much higher than
those to save out of wages (in part because firms, by definition, save all
of their retained earnings) and which also shows that the propensities
to save of the richest quintiles are higher, as one would expect, than
those of the poorest quintiles.7 These effects reinforce each other since
wage earners generally are poorer than most profit recipients. Capital
gains on real estate and the stock market may reduce somewhat the
differential between the propensities to consume of wage earners and
profit recipients, and this differential will also be affected by the exist-
ing social security system.
The favourable effects of higher wage shares on consumption and
aggregate demand may, however, be overturned by the detrimental
effects of a higher wage share on private investment expenditures. Most
Kaleckian economists argue that expected profitability depends on past
realized profitability, and hence on sales, relying on the strength of the
accelerator effect, and thus believing that investment should not be neg-
atively affected by an increase in the wage share.8 By contrast, Marxists
and several other economists tend to claim instead that expected profit-
ability depends on the share of profits in national income, that is, on
the profit margin of firms, or, more precisely, on the profit rate that
firms expect to achieve on their capital when capacity is utilized at its
normal rate (see Lavoie 1995, pp. 795–800). As higher real wages, all
else constant, imply lower profit margins and lower profitability at the
normal rate of capacity utilization, it implies a downward shift of the
investment function. These profitability effects have been formalized
by Bhaduri and Marglin (1990), the article of which is famous for hav-
ing defined the dichotomy between wage-led and profit-led demand
regimes. Similar formalizations of the investment function were also
adopted by Kurz (1990), Taylor (1991) and Blecker (2002), as well as
by many authors wishing to assess the presence of these regimes in
empirical studies. This variant of the canonical Kaleckian model is often
referred to as the post-Kaleckian model of growth and distribution. It is
worth quoting Bhaduri and Marglin in full here:
Any increase in real wage rate, depressing profit margin and profit
share ..., must decrease savings and increase consumption to validate
the under-consumptionist thesis... Nevertheless, aggregate demand
(C + I) may still rise or fall depending on what impact that lower
profit margin/share has on investment. Since it is plausible to argue
that, other things being equal, a lower profit margin/share would
weaken the incentive to invest, the contradictory effects of any exog-
enous variation in the real wage on the level of aggregate demand
become apparent. A higher real wage increases consumption but
reduces investment, in so far as investment depends on the profit
margin. (Bhaduri and Marglin 1990, p. 378)
Table 1.5 summarizes the various factors that will determine whether
the structure of an economy is such that it is in a wage-led or a profit-
led demand regime. Of course, there are many more factors other than
income distribution that determine aggregate demand: monetary pol-
icy, fiscal policy, various shocks such as oil price shocks, the bursting
of stock market bubbles, changes in real exchange rates, changes in the
growth rate of foreign GDP, and so on. Indeed, for most year-to-year
changes, income distribution will only be a minor influence on the
determination of aggregate demand, with other developments playing a
more prominent role. However, if there are long-lasting deep changes in
income distribution as have occurred in the last quarter century, they
will end up having a substantial role.
24 Wage-led Growth
Table 1.5 Economic structure: wage-led and profit-led demand regimes
Demand regime
Profit-led Wage-led
Economic Small differentials in Propensity to consume out of

structure propensities to consume wages is much higher than the
propensity to consume out of
profits
Investment is highly Investment is not sensitive to
sensitive to profitability profitability and accelerator
and accelerator parameter parameter is high
is low
Very open economy with Relatively closed economy
high net export price with low net export price
elasticity and high import elasticity and low import
income elasticity income elasticity
Other factors Other sources of demand:
Government fiscal and monetary policies
Financial factors: financial asset and real estate price bubbles
Exchange rate evolution and changes in world demand
Changes in world commodity prices ...
1.3.2 Demand regimes with net exports

So far, we have not taken into account net exports, having only dis-
cussed the domestic components of aggregate demand. It is usually
argued that an increase in real wages or the wage share will have a nega-
tive impact on the trade balance. It is further argued that the negative
effects on net exports of a higher wage share are more likely to be sig-
nificant in small open economies with high net export price elasticity.
Finding out whether an economy is in a wage-led or profit-led demand
regime, in total, one must thus consider the net effect of an increase in
the wage share on the three private components of aggregate demand –
consumption, investment and net exports – and hence the net effect is
not clear a priori and will depend on the relative size of the effects on
the three components.
Blecker (1989, 2011) as well as Bhaduri and Marglin (1990) have exam-
ined the possible effects of changes in income distribution on net
exports. If wages are pumped up, without a rise in export prices, this
will lead to a reduction in profit margins and may render some exports
unprofitable; if prices are pushed up, some export products will no
longer be competitive. As Blecker (1989, p. 404) said, ‘this is essentially
the case of a ‘profit squeeze’, in which profit margins are compressed

between domestic costs on the one side and foreign competition on the
other’.9 Hence an economy which is in a profit-led domestic demand
regime will normally necessarily be in a profit-led total demand regime
as well. Table 1.6 shows this and summarizes the various possibilities
when distinguishing between the effects of an increase in the wage
share on domestic aggregate demand and the effects on total aggregate
demand, also taking into account the foreign sector.
To take into account international trade and net exports when
assessing the impact of changes in income distribution certainly
adds a degree of complexity. First, the favourable domestic impact of
an increase in the wage share may get reversed once we consider the
effects on net exports, as shown in Table 1.6. As long as the negative
impact of a higher wage share on profitability is not too large, we may
be easily persuaded that ‘there is no necessary antagonism between
capitalists and workers in a mature capitalist economy characterized by
excess capacity: it is possible to increase both real wages and employ-
ment on the one hand, and realised profits and growth on the other
hand. This comforting conclusion must be drastically revised in the
light of the model of an open economy... The possibility of a conflict
between a redistribution towards wages and maintaining international
competitiveness greatly reduces the prospects for a happy coincidence
of worker’s and capitalists’ interests’ (Blecker 1989, pp. 406–7).10
But there is a second delicate point in the case of an open economy –
the possibility of an error of composition – especially when an economy
Table 1.6 Effects of an increase in the wage share and domestic and total
demand regimes
Effect on total aggregate demand,

including net exports
Positive Negative
Effect on domestic Positive Wage-led domestic Wage-led domestic

aggregate demand demand regime demand regime
(investment and and wage-led total and profit-led total
consumption) demand regime demand regime
Negative Profit-led domestic
demand regime
and profit-led total
demand regime
26 Wage-led Growth
is in a domestic wage-led demand regime. It is worth quoting Blecker’s

views on this in full:
A situation in which competitive wage cuts (or ‘wage restraints’) are

pursued in all countries will potentially harm the interests of work-
ers everywhere: real wages will be sacrificed, as long as mark-ups are
flexible; but employment will not increase, as long as the competi-
tive gains cancel each other out. In this case, the regressive effect
of multilateral wage cuts on income distribution could well lead to
a world-wide depression of demand and employment. On the one
hand, if workers in all countries increase their money wages, and if
the international competitive effects roughly cancel out, then the
world economy as a whole can potentially enjoy wage-led growth –
provided that firms still feel sufficient competitive pressures to com-
pel them to cut their mark-ups in response to the wage increases.
(Blecker 1989, p. 407)
Knowing whether the economy is within a domestic wage-led or profit-

led regime is important in itself. Since one country’s exports are some
other country’s imports, this raises the possibility of a fallacy of com-
position: while each individual country can increase its demand by
exporting more, not all countries can do so simultaneously. The world
economy overall is a closed economy. It is thus essential to look at the
domestic effect and the total effects (that is, including net exports)
separately. The domestic effects of the world economy only include the
effects on consumption and investment and should be interpreted as
a scenario where the change in the wage share affects all trading part-
ners simultaneously. It can be thought of as the result of a change in
the world wage share. Thus, while a country may be under a profit-led
demand regime when considering the total effect of an increase in the
wage share, a simultaneous increase in the wage share of all countries
may still have a positive effect on the aggregate demand of a profit-
led country if its domestic demand is wage-led. We will see that this
is indeed the case when we go over the most recent empirical results
related to demand regimes.
1.3.3 Productivity regimes

So far we have dealt with aggregate demand. What about supply effects?
From our standpoint, the key summary variable for the supply side is
labour productivity. Thus this section will focus on the productivity
regime.
Productivity will be profit-led if an increase in wages discourages

productivity-enhancing capital investment and, as a consequence, the
growth of labour productivity slows down (as most forms of techno-
logical progress require capital investment, this is called embodied
technological progress). Increases in wage growth may have a posi-
tive effect on productivity growth, if either firms react by increasing
productivity-enhancing investments in order to maintain competitive-
ness or if workers’ contribution to the production process improves.
This may be the case either because of enhanced workers’ motivation
or, in developing countries, if their health and nutritional situation
improves. This case is often referred to as the efficiency wage hypoth-
esis in the mainstream literature.11 But we may as well call it the Webb
effect, since a positive causal relationship going from higher real wages
to higher productivity was already proposed a long time ago by Sidney
Webb (1912), one of the founders of the London School of Economics.
The main features of the two productivity regimes are presented in
Table 1.7.
Defined as we just did, even mainstream economists might recognize
that all economies are in a wage-led productivity regime, since main-
stream economists would argue that rising real wages induce firms to
invest in more capital-intensive methods, which, under the standard
assumptions of neoclassical production functions, would lead to higher
labour productivity.12 We may, however, also take into account indirect
effects, based on another branch of post-Keynesian economics – the
Kaldorian branch – as do Boyer (1988), Setterfield and Cornwall (2002)
as well as Naastepad and Storm (2010), to assess whether a productivity
regime is wage-led or profit-led.
Table 1.7 Economic structure: wage-led and profit-led productivity regimes
Productivity regime
Economic Profit-led Wage restraint leads to productivity-enhancing

structure investment
Higher real wage growth or a higher wage share
leads to slower productivity growth
Wage-led Wage growth has strong positive effects on
labour effort and productivity-enhancing
investments
Higher real wage growth or a higher wage share
leads to faster productivity growth
28 Wage-led Growth
In this case, we must also incorporate the demand effects. Kaldorians

have for a long time argued that supply-side growth is endogenous, thus
predating the mainstream theories of endogenous growth. This is the
so-called Kaldor–Verdoorn law, for which there is a substantial amount
of empirical evidence (McCombie and Thirlwall 1994; McCombie 2002)
and the formal origins of which can be traced back to Kaldor’s (1957)
technical progress function. The Kaldor–Verdoorn law claims that there
is a positive relation between the growth rates of GDP and the growth
rate of labour productivity. In other words, demand-led growth will
have an impact on the supply components of growth (Léon-Ledesma
and Thirwall 2002; Dray and Thirwall 2011). More simply, it is claimed
that there is a positive causal relationship going from the growth rate
of the economy to the growth rate of labour productivity (and even the
growth rate of the labour force).13
What does the Kaldor–Verdoorn relation imply for the assessment of
the productivity regime? Suppose there is an increase in the wage share
or in growth rate of real wages. As argued before, the partial effect
on productivity growth is likely to be positive. In the case of a wage-
led demand regime the indirect Kaldor–Verdoorn effect will reinforce
the direct productivity effect. Hence in this case, the total productiv-
ity effect will always be positive and we will always have a wage-led
total productivity regime. Take now the case of a profit-led demand
regime. An increase in the wage share or in the growth rate of real
wages will generate a decrease in the growth rate of the economy. The
Kaldor–Verdoorn effect will translate this decrease into a decrease in
the growth rate of labour productivity. However, this indirect negative
effect of increasing the growth rate of real wages may be partially or
entirely wiped out by the direct positive productivity effect, assum-
ing once more a wage-led partial productivity regime, as empirically
verified for Organisation for Economic Co-operation and Development
(OECD) countries by Storm and Naastepad (2008, p. 535) and Hein
and Tarassow (2010, pp. 747–9). Thus, although the economy is in a
profit-led demand regime, the effect on labour productivity growth of
an increase in the wage share may be positive overall, since the direct
positive productivity effect of the increase in the wage share or in the
growth rate of real wages may still overwhelm the negative indirect
productivity effect arising from the decrease in economic activity gen-
erated by wage expansion in this regime. Table 1.8 summarizes the pos-
sible combined results of the productivity and demand regimes when
the partial productivity regime is wage led, which is the most likely
case, and the wage share or the growth rate in real wages is increased.
Table 1.8 Total productivity effect of an increase in the wage share, when the
partial productivity regime is wage-led
Indirect Total productivity

Partial productivity effect (sum of
productivity effect (Kaldor– partial and
Demand regime effect Verdoorn effect) indirect effects)
Profit-led Positive Negative Positive or negative

Wage-led Positive Positive Positive
So far we have assumed that economic activity or economic growth

has an effect on the growth in labour productivity. But we have not
yet taken into account the possibility that productivity growth could
have a feedback effect on economic growth and economic activity. Thus
what happens on the productivity front as result of changes in income
distribution could have an additional indirect effect on the demand
regime. Since the various possible cases of this interdependence between
the demand and the productivity regimes are discussed extensively by
Storm and Naastepad (2013), here we simply mention the fact that the
feedback effects of productivity growth on output growth may trans-
form an apparent profit-led demand regime into a wage-led one (whereas
the opposite is impossible). This will happen when the total productivity
effects of an increase in the wage share are positive and large, and when
the positive effects of productivity growth on aggregate demand over-
whelm the presumably weak negative effects of a higher wage share on
aggregate demand (Hein and Tarassow 2010, pp. 737–9).
1.4 Summary of empirical estimates
The previous section has developed a conceptual framework to define

wage-led and profit-led economic regimes. The key components of
this framework have been investigated empirically by various authors,
including those who participate in the current book. Here we report
their main results.
1.4.1 Demand effects

The Bhaduri and Marglin (1990) post-Kaleckian model has recently
inspired a rich empirical literature that attempts to identify demand
regimes by econometric means. Hein and Vogel (2008), Stockhammer
and Stehrer (2011) and Onaran and Galanis (2013) offer extensive
30 Wage-led Growth
discussions of the literature, so here we only present a quick assessment.

Although they use different methods and rely on different sources of
data and time periods, a vast majority of the studies agree that the few
OECD countries that have been studied turn out to be running under
wage-led domestic demand regimes. The results are less homogeneous
when it comes to the total demand regimes, with different authors
often coming to different conclusions regarding the same country.
Onaran and Galanis (2013) in the present book provide new consistent
estimates for most G20 countries, which are summarized in Table 1.9.
This presents the effects of a reduction in the (adjusted) wage share. More
precisely, it details the effects of a one percentage point increase in the
profit share of an individual country on the components of demand of
that country (columns A, B and C), on private excess demand (the sum
of those three components, column D) and on aggregate demand (tak-
ing multiplier effects into account, column E). Comparing the estimates
of columns A and B, it can be verified that their sum is always negative
and hence that all the countries of the sample are in a wage-led domestic
demand regime, thus retrieving the consensus result that was achieved in
previous studies. The impact of the increase in the profit share on private
excess demand (column D) is negative in a majority of countries, thus
meaning that these countries are in a wage-led total demand regime, but
there are still a number of countries that have a profit-led total demand.
However, as countries trade with each other, the effects of changes
in income distribution in individual countries are not the same as the
effects that would arise as a result of a worldwide change in income dis-
tribution. Thus the table also reports the results of simulating the com-
plex interactions of the international demand components. Column G
gives the results for a simultaneous (‘worldwide’) decrease in the wage
share in all G20 countries by one percentage point. This effect is nega-
tive in the vast majority of the countries. Several countries that were in
a profit-led total demand regime, when assessed individually, nonethe-
less do suffer reductions in demand if their trade partners also experi-
ence a decline in the wage share. Indeed, total G20 GDP declines by
0.36 per cent in reaction to a worldwide one percentage point decline
in the wage share, thus helping to explain why even countries that are
in a profit-led total demand regime might suffer nevertheless from a
worldwide reduction in the wage share.
These results have important policy implications. They indicate that,
at least with regard to aggregate demand, an internationally coordi-
nated wage-led growth strategy seems viable. Aggregate demand in
the world economy is clearly wage led. While there are some countries
Table 1.9 Summary of the results of Onaran and Galanis (2013): effects of a
national and global one percentage point increase in the profit share
Effects of national increase in profit share on:

Effect of
worldwide
increase in
private profit share
excess aggregate on aggregate
C/Y I/Y NX/Y demand/Y demand demand
A B C D (A+B+C) E G
Euro area-12 −0.439 0.299 0.057 −0.084 −0.133 −0.245

Germany −0.501 0.376 0.096 −0.029 −0.031 −
France −0.305 0.088 0.198 −0.020 −0.027 −
Italy −0.356 0.130 0.126 −0.100 −0.173 −
United −0.303 0.120 0.158 −0.025 −0.030 −0.214
Kingdom
United −0.426 0.000 0.037 −0.388 −0.808 −0.921
States
Japan −0.353 0.284 0.055 −0.014 −0.034 −0.179
Canada −0.326 0.182 0.266 0.122 0.148 −0.269
Australia −0.256 0.174 0.272 0.190 0.268 0.172
Turkey −0.491 0.000 0.283 −0.208 −0.459 −0.717
Mexico −0.438 0.153 0.381 0.096 0.106 −0.111
Korea, Rep. of −0.422 0.000 0.359 −0.063 −0.115 −0.864
Argentina −0.153 0.015 0.192 0.054 0.075 −0.103
China −0.412 0.000 1.986 1.574 1.932 1.115
India −0.291 0.000 0.310 0.018 0.040 −0.027
South Africa −0.145 0.129 0.506 0.490 0.729 0.390
Note: The global simulation excludes Germany, France and Italy since they are part of the
euro zone.
Source: Onaran and Galanis (2013, Table 2).
‘Effect of worldwide change in profit share on aggregate demand’: effect of a simultaneous
change in the profit share in all countries, including domestic multiplier effects and
international trade effects
that are individually profit led, the positive effect of the profit share on
demand relies on net exports. Effectively this means that some individ-
ual countries can successfully pursue ‘beggar-thy-neighbour’ policies
via wage moderation, but this does not constitute a viable strategy for
32 Wage-led Growth
demand on a global scale. If all countries pursue wage moderation poli-

cies, a much smaller subset of the countries in a profit-led total demand
regime will still benefit from their pro-capital distributional policies.
This highlights the need for policy-makers to realize the role of wages
as a source of demand. On a more technical level, it highlights the need
for international coordination when dealing with wage and social poli-
cies, so as to prevent a race to the bottom in wages.
1.4.2 Productivity effects

On the supply side, the key question is how changes in the wage share
or in real wages affect productivity growth (or, more broadly speak-
ing, technological progress). Mainstream economists typically argue
that competitive markets are most conducive to growth and, in the
next step, argue for labour market (and product market) deregulation.
Critical economists highlight that not only can labour market insti-
tutions have positive social effects as they help to overcome market
failures, but they also may have positive effects on economic growth
because good labour relations will improve the propensity of workers to
contribute to the production process.
Recently, this has inspired several empirical studies, which are sur-
veyed by Storm and Naastepad (2013). Naastepad (2006) found that a
one percentage point increase in real wages would lead to a 0.52 per-
centage point increase in labour productivity for the Netherlands.
Storm and Naastepad (2009) investigate labour market institutions in
twenty OECD countries from 1984 to 2004. They find that relatively
regulated and coordinated (‘rigid’) institutions lead to higher produc-
tivity growth. Vergeer and Kleinknecht (2010–11) perform a panel anal-
ysis for OECD countries from 1960 to 2004 and also find that stronger
labour market institutions lead to faster long-run growth. Both studies
also look at the impact of real wage growth on productivity growth.
Both Storm and Naastepad (2009) and Vergeer and Kleinknecht (2010–
11) find that faster real wage growth leads to faster productivity growth,
the former with an elasticity ranging from 0.50 to 0.55 while the latter
gets numbers ranging from 0.31 to 0.39 for a longer time period. Hein
and Tarassow (2010) analyse the link between income distribution and
productivity growth for six OECD economies by means of time series
analysis over the 1960–2007 period. They also report that faster real
wage growth leads to faster productivity growth, the elasticity running
around 0.30 except for Austria where it reaches 0.67.
All of these studies face challenges in identifying the direction of
causality and the distinction between short-run and long-run effects,
and more research is certainly needed. Indeed, simple national growth

accounting makes it clear that faster productivity growth should be asso-
ciated with faster real wage growth, thus bringing about the problem of
reverse causality. However, Marquetti (2004) has found that while real
wages appear to Granger-cause productivity, the reverse is not true –
there is unidirectional causality. This would thus justify studies that
pertain to study the impact of real wage growth on productivity growth.
Storm and Naastepad (2013) summarize these findings by positing
that, as a reasonable order of magnitude (for advanced economies), one
can assume that a one percentage point increase in real wage growth
leads to a 0.38 percentage point increase in labour productivity growth.
This illustrates that higher real wages induce firms to increase labour
productivity in order to protect their profitability. Hence, despite the
small number of studies, it seems fair to conclude that the available evi-
dence suggests that real wage growth has a positive long-run effect on
labour productivity growth. This is important for economic policy as it
suggests that excessive wage constraint is likely to lead to weak produc-
tivity performance, while a wage-led growth strategy is consistent with
positive developments on the supply side.
Indeed, Storm and Naastepad (2013) suggest that countries, such
as the Netherlands, which seem recently to have been successful in
achieving full employment with pro-capital income distribution poli-
cies, obtain such results because slow growth in real wages has also gen-
erated slow growth in labour productivity, thus so avoiding the advent
of technological unemployment, but at the cost of slow improvements
in living standards.
1.5 Conclusion: Wage-led growth – a viable economic

strategy
Wages have a dual function in capitalist economies. They are a cost of

production as well as a source of demand. An increase in the wage share
has several effects on demand and whether actual demand regimes
are wage led or profit led is subject to an ongoing academic debate.
Our understanding of the available evidence is that domestic demand
regimes are likely to be wage led in most economies. In open economies
the net export effects may overpower the domestic effects and total
demand in many individual countries may well be profit led. However
larger geographical (or economic) areas are likely to be wage led. The
most recent empirical studies show that the world economy overall is
in a wage-led demand regime and if all countries pursue pro-labour
34 Wage-led Growth
distributional policies simultaneously, even countries that are profit-led

will experience increases in aggregate demand, their economic activity
being driven up by faster growth abroad. This can be contrasted to a
situation where all countries are pursuing an export-led strategy: it is
clear that only half of them will be successful, as all countries cannot
be simultaneously net exporters.
There is comparatively less research on the supply-side effects of an
increase in the wage share. However, there are several studies that find
positive effects of wage increases on productivity growth, suggesting
that the long-term effects of wage expansion are likely to be favourable
to the economy.
There is an alternative to neoliberalism. A wage-led growth strategy
is a viable option and the most likely strategy to succeed if coordinated
internationally.14 A wage-led growth strategy would combine pro-labour
distributional social and labour market policies, along with a proper
regulation of the financial sector.
Distributional policies that are likely to increase the wage share and
reduce wage dispersion include increasing or establishing minimum
wages, strengthening social security systems, improving union legis-
lation and increasing the reach of collective bargaining agreements.15
All of these policies go against orthodox economic wisdom and, under
the perceived pressure to reduce public budget deficits, current eco-
nomic policy seems to be moving in the opposite direction, with
calls for government austerity policies, which are most likely to affect
the middle class and the poor, and calls for structural reforms – a
euphemism for more flexible labour markets and reduced wage rates.
However, in times of crisis and with a lack of effective demand, what
economies need is more state involvement, not less. A successful
policy package to economic recovery needs to have sustained wage
growth as one of its core building blocks. Only when wages grow with
productivity growth will consumption expenditures grow without ris-
ing debt levels.
To be successful a modern version of a wage-led growth strategy will
require a restructuring of the financial sector. The deregulated financial
sector has fuelled speculative growth and resulted in the worst reces-
sion since the 1930s. If a repeat of the crisis is to be prevented, this
will require managing international capital flows, a refocussing of the
financial sector on narrow banking, the elimination of destabilizing
financial innovations, and a higher fiscal contribution of the financial
sector (for example, in the form of a financial transactions tax). Briefly
put, as suggested by Hein and Mundt (2013), what is needed is a ‘Global
Keynesian New Deal’.
Notes
1. The paper was presented at a session of the Regulating for Decent Work
(RDW) conference, held at the ILO, Geneva, 6–8 July 2011. We wish to
thank participants for their remarks and questions – in particular, Pierre
Laliberté, Eckhard Hein and Simon Sturn.
2. See Bleaney (1976) for a historical account of underconsumptionist theories.
3. For example, Baran and Sweezy (1966).
4. Based on the analysis of Kalecki (1971), Steindl (1952) and Bhaduri (1986),
the benefits of a wage-led growth strategy has been resurrected and formal-
ized by several Kaleckian or post-Keynesian authors, starting with Rowthorn
(1981), Taylor (1983), Dutt (1987) and Lavoie (1995). Taylor (1988) showed
early on that when emerging countries had enough capacity to adjust, a
wage-led growth strategy made sense.
5. It has sometimes been argued that because several empirical studies of aggre-
gate production functions have yielded estimates of the output elasticities of
factors that were consistent with the predictions of marginal productivity the-
ory under conditions of perfect competition (because these elasticities equated
pretty closely the shares of wages and profits), it was possible to conclude that
markets behaved as if they were fully competitive. But it has since been shown
that this success was achieved because what the regressions of aggregate pro-
duction functions are really measuring are the wage and profit shares, not the
output elasticities, as the regressions are in fact estimating national accounting
identities. See Lavoie (2007) and Felipe and McCombie (2013) for a review of
this critical literature.
6. Although some researchers would argue instead that reliance on free mar-
ket mechanisms and more flexible labour markets have generated large
increases in world real income over the last three decades (Balcerowicz and
Fisher, 2006). But these authors forget to compare the last decades to the
evolution of the 1950s and 1960s. Harvey (2003) and Glyn (2006) offer
insightful discussions of neoliberalism in practice.
7. Both Marglin and Bhaduri (1990) and Bowles and Boyer (1995) found that
this differential in propensities to save out of profits and out of wages was
around 0.40 on average over several countries. This is in line with the esti-
mates of Onaran and Galanis (2013).
8. Kalecki’s equation, in its simplified version where wages are all consumed
and profits are all saved, says that realized profits are equal to the value
of investment expenditures. If investment depends on realized profits, the
equation would imply that higher real wages that induce higher investment
expenditures would always lead to higher profits, and hence taking profit-
ability into account would never allow us to modify our previous conclu-
sions. This has been called the paradox of costs by Rowthorn (1981): higher
wage costs reduce profits for a single firm, but with the accelerator they
increase overall profits if all firms face similar cost increases.
9. An increase in real wages may not have a negative effect on net exports if
it arises as a result of a spontaneous change in the pricing strategy of firms,
with producers and exporters deciding to reduce their profit margins.
10. Blecker refers to a mature economy, but it should be pointed out that Taylor
(1983) figured that less developed countries also operate with excess capac-
ity, and hence that the Kaleckian model also applies to emerging countries.
36 Wage-led Growth
11. A meta-analysis – a regression on regressions – here based at the firm and

industry level and conducted by Krassoi Peach and Stanley (2009), has
shown that the best statistical studies find a strong and robust evidence
of this efficiency wage effect, thus showing that higher real wages lead to
higher productivity. This positive link is even reinforced when controlled
for simultaneity.
12. Indeed, this is tied to the standard assumption of a downward-sloping
labour demand curve. One could also define an employment regime, which
would depend on an interaction of the demand regime and the productivity
regime, as defined in the rest of this subsection (see Storm and Naastepad
2012). Keynes doubted that a wage cut would stimulate employment and
thought that, at least in some circumstances, it might decrease employment
(Keynes 1936, chapter 19). This latter case is akin to a wage-led employment
regime. For modern post-Keynesian discussions of employment and wages,
see Lavoie (2003) and Stockhammer (2011).
13. McCombie (2002, p. 106) says that the Verdoorn coefficient is in the 0.3 to 0.6
range, meaning that a one percentage point addition to the growth rate of out-
put will generate a 0.3 to 0.6 percentage point increase in the growth rate of
labour productivity, a number which is also consistent with the one obtained
recently by Storm and Naastepad (2008). Hein and Tarassow (2010), looking at
1960–2007 data, find a similar range for European countries, but a lower range
for the United Kingdom and the United States, between 0.1 and 0.25.
14. It is sometimes argued by Marxist authors that wage-led demand regimes
are unstable, meaning that high output and employment growth rates
achieved with high wage shares will generate further increases in the wage
share because of the stronger bargaining power of workers. Thus the feedback
effects of aggregate demand and employment on income distribution, effects
that we have not considered in this paper since we assumed the wage share to
be an exogenous element, can make the wage-led demand regime unstable in
that growing wage shares and higher growth may create a reinforcing cycle
(Stockhammer 2004). This argument however omits the feedback effects
driven by the productivity regime. Fast output growth may not entail fast
employment growth, because of the rise in productivity growth generated by
the Kaldor–Verdoorn effect, as explained in detail in Storm and Naastepad
(2013).
15. Meta-analysis has shown that raising minimum wages do not lead to
reduced employment, in contrast to what is asserted by mainstream authors
on the basis of a partial equilibrium analysis. Doucouliagos and Stanley
(2009) demonstrate that the minimum wage literature is contaminated by
publication bias, and that the best studies support the claim that there is no
negative relationship between minimum wages and employment.
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Wage-led Growth

An Equitable Strategy for Economic

List of Tables and Figures vi

Notes on Contributors xii

1 Wage-led Growth: Concept, Theories and Policies 13

2 Why Have Wage Shares Fallen? An Analysis of the

3 Is Aggregate Demand Wage-led or Profit-led?

4 Wage-led or Profit-led Supply: Wages, Productivity

5 The Role of Income Inequality as a Cause of the

6 Financialization, the Financial and Economic Crisis,

I.1 Labour income share as percentage of GDP at current factor

4.2 Estimates of the impact of real wage growth on

2.1 Adjusted wage shares in advanced countries,

4.5 The more strongly wage-led the economy, the less

The current global crisis, known as the Great Recession, is challenging

The main goal of this book is to go beyond the microeconomic view of

Giorgos Galanis is a doctoral candidate in Economics at the University

Eckhard Hein is Professor of Economics at the Berlin School of

Matthias Mundt obtained an MA in International Economics from the

C.W.M. (Ro) Naastepad is Assistant Professor at Delft University of

Özlem Onaran is Professor of Workforce and Economic Development

Engelbert Stockhammer is Professor of Economics at Kingston

He has published widely in academic journals on the determinants of

Servaas Storm is Assistant Professor at Delft University of Technology,

Simon Sturn is a graduate student at the University of Massachusetts at

Till van Treeck is a Senior Economist at the Macroeconomic Policy

The main goal of the book is to go beyond the microeconomic view

Three views of the crisis

Several arguments have been offered to explain the development of

1. Early 2. Early Change (3 – 2),

Argentinaa,b ... 38.42 32.79c −5.63

debt (‘debt-led growth’) or on low wages so as to help generate exports to

of demand formation and productivity growth as dependent on wage

Presentation of the six chapters

The objective of the first chapter, by Marc Lavoie and Engelbert

pro-labour distributional policies with structural policies that strengthen

provides an econometric analysis that intends to measure the impact of

as well as a real estate boom – and not merely to temporary changes in

Finally, we wish to take this opportunity to thank our colleagues who

framework underlying the efforts of the authors of the other chapters of

1.2 Distribution and growth: A conceptual framework

to be regulated by marginal productivity relations within a perfect com-

1.2.1 Pro-capital versus pro-labour distributional policies

Of course, there are also other factors influencing income distribu-

1.2.2 Profit-led versus wage-led economic regimes

Table 1.1 Pro-labour and pro-capital distributional policies

Pro-capital Pro-labour Other factors

Policies ‘Labour market ‘Welfare state’ Changes in

shares that generate an unfavourable outcome indicate the presence of a

Table 1.2 Definition of profit-led and wage-led regimes

Overall impact on the economy

Income An increase in Profit-led regime Wage-led regime

Table 1.3. In both cases distributional policies and economic struc-

Table 1.3 Viability of growth regimes

Economic regime Profit-led Profit-led growth Stagnation or

Wage-led Stagnation or Wage-led growth

Table 1.4 Actual growth strategies in the economic regime/distributional

Distributional policies and strategies

Economic Profit-led ‘Neoliberalism in ‘Doomed social reforms’