Smoke and mirrors and the truth about workers’ wages not keeping up with inflation

Angella MacEwen | CUPE Staff
Colleen Butler | CUPE Staff      

From groceries to gas to housing, the cost of living is skyrocketing. This increase in prices is called inflation. In 2022, the average inflation rate in Canada is expected to be 8%.

When wages fail to keep up with inflation, workers fall behind. Today, in the wake of the COVID-19 crisis, many workers are being hit hard by inflation, making it much more difficult to make ends meet.

In 2021, base wage increases in Canadian collective agreements were well below inflation for all provinces, falling short by an average of 1.5 percentage points. The gap was smallest in British Columbia, where the average wage settlement increased by 2.2% compared with an annual Consumer Price Index increase of 2.8%.

The majority of provinces saw inflation increase close to 2 percentage points above wage growth for the year. This large gap comes from much higher than expected inflation in 2021, as supply chain disruptions lasted longer than expected and many corporations took advantage of pent-up demand to hike prices.

When wage increases don’t keep up with inflation, workers lose money – even if their paychecks look like they are getting bigger. To keep up with inflation this year, workers would need to bargain a wage increase over 8% to get an actual raise.

This graph illustrates how a gap between wages and inflation can grow over time. It shows the actual value of the Consumer Price Index from January 2017 to January 2022, alongside two hypothetical wage settlements. It compares a settlement that increases wages by 2% each January with one that increases wages by 1.5%. In the example where wages increase by 2% each January, you can see that while wages fall behind inflation as the months go by, they come close to catching up when the wage increase kicks in at the beginning of the next year. In the example where wages are increased by 1.5%, an amount lower than average inflation throughout this period, workers’ wages fall behind inflation by 2019, and face a significant gap by January 2022

What is causing inflation?

In the 1970s, economists believed that inflation was caused by too much money floating around in the economy. They thought the only way to lower inflation was to keep the amount of money in the economy relatively constant. This approach is called monetarism. Even though monetarism was largely unsuccessful in combatting inflation, it has stuck around as a zombie idea that refuses to die.

Conservative populists still say the Bank of Canada is causing inflation by printing too much money. But the truth is that most money is created when private banks lend money to individuals and businesses. Either way, money creation isn’t inflationary in and of itself. Other factors in the real economy play a bigger role.

More money in the economy isn’t a problem as long as supply can keep up with demand. For example, if there are enough workers and materials to make a certain product, it will be straightforward to expand production by adding another shift in an existing facility. But if there is a shortage of workers or supplies required to expand production, we might see longer term shortages that result in price increases for that product.

While most analyses of inflation concentrate on demand, current inflation is being driven by supply shortages and profiteering.

Inflation happens when demand for goods surpasses the supply of goods. Sometimes, this can be caused by unforeseen factors that suddenly reduce our economy’s ability to supply goods. This happened during the pandemic, when lockdowns caused shortages throughout global supply chains. Similarly, the Russian invasion of Ukraine has affected the availability and price of grain, fertilizers, and fossil fuels.

Inflation can also be spurred by a combination of demand growth and supply challenges. For example, increasing demand and problems in the supply chain have resulted in an ongoing shortage of semiconductor chips. This has had a ripple effect by reducing the number of new vehicles that get made. With fewer new vehicles being produced, the price people are willing to pay for a second-hand vehicle has increased dramatically.

Today’s inflation is also being caused by profiteering. Canadians for Tax Fairness studied financial information from publicly-traded companies in Canada, and found that between 2019 and 2021, their average annual sales revenue increased by $174.5 million – but their costs only increased by $16.9 million. That means that 90% of the increase in revenue in 2021 was from higher profit margins. Lack of regulation, competition, and low corporate tax rates make profiteering worthwhile for corporations.

Even though current inflation is being caused by supply issues and profiteering, central banks are still attempting to address inflation by reducing demand. In other words, central banks want to solve inflation by reducing the amount of money in people’s pockets. Because the central banks can’t take money away from people directly, they do it by making it more expensive to borrow money. When interest rates are raised, there are fewer borrowers.

As a result, private banks create less money. The theory is that when less money is circulated, there is less investment in the economy and unemployment increases. Ideally, this reduces people’s purchasing power and slows the rate of price increases.

The problem is that changing prices by changing interest rates is a bit like steering a cruise ship with a canoe paddle. The Bank of Canada expects it to take two years before they fully see the impact of their actions on the economy. In the past, the Bank has increased interest rates higher and faster to prove that they were committed to reducing prices. This is because the only immediate impact of their actions is on people’s expectations. As such, central banks have had a tendency to go too far and cause a great deal of hardship for workers.

When wages fail to keep up with inflation, workers fall behind. It doesn’t have to be this way. Unions can help. To protect workers against inflation, we need to bargain appropriate wage gains and cost-of-living increases.

 

How do governments respond to inflation?

The current economic consensus assumes that only central banks can address inflation, and governments should stay out of their way. Because of this, governments often respond to inflation and interest rate increases with austerity.

At the same time, government revenues often improve significantly during periods of inflation. Their revenue is a proportion of economic activity. As prices rise, so does government revenue.

The financial situation for the provinces has actually improved dramatically over the past year. When added together, 2021 provincial budget forecasts estimated a total deficit of $76 billion for the 2021 fiscal year. But the 2022 provincial budgets revealed that actual deficits for 2021 were only $24 billion.

Deficits were reduced because provincial revenues increased at a higher-than-expected rate. Strong economic growth and higher prices for natural resources contributed to this increase. Provincial incomes were also boosted by inflation, largely through increased sales and corporate tax revenue stemming from higher prices. And governments use smoke and mirrors to make it look like they are spending more than they really are. 

Lower government deficits might seem like good news for public services that have been struggling with austerity since the 2008 financial crisis. But this is not necessarily the case. While revenues increased for provincial governments in 2021, and will again in 2022, many are still underinvesting in public services and capping wage increases between 1 and 2%.

What can governments do? 

There is a great deal that fiscal policy can accomplish in the face of inflation. In the short term, it is important to understand the causes behind inflation, and try to understand what can and cannot be fixed. For example, governments should be helping to repair supply chains and transportation networks in the short term, and thinking about how to make our industrial policy resilient to future challenges in the long term.

In times of inflation, governments can think about how to provide public alternatives for high-priced items. For example, if gas prices are going to be high in the long term, governments at all levels should think about how to make it easier and cheaper to get around without needing fossil fuels. This is a more targeted and equitable way of reducing demand for a high-priced good than the central bank model of reducing the money supply.

Governments can also regulate prices. Wherever possible, policy makers should think about how to maintain the supply of goods that are price controlled. Rent control is a good example of this: a solid plan for public investment in non-market and co-op housing would help ensure there was sufficient supply of affordable rental housing.

Public services also play a big role in making life more affordable for everyone. Government spending on everything from child care and health care, to public transit and recreation makes life more affordable for people, and makes us all less vulnerable to periods of inflation or economic downturns.

If policy makers are worried about stimulus spending increasing interest rates, they can fund this spending with the revenue increases they inevitably receive during periods of high inflation. In addition, governments across Canada have cut taxes for corporations and the wealthy over the past 30 years. This means that there is significant room to increase these taxes.

Spending that is not funded by borrowing will not be considered inflationary by the central banks, and so won’t prompt them to raise interest rates further. Increasing corporate tax rates and taxes on wealth will also counteract the negative impacts of increasing wealth concentration and inequality.

Our role as union leaders

To protect workers against inflation, we need to bargain appropriate wage gains that go above the rate of inflation and appropriate cost-of-living adjustments (COLAs). COLAs are clauses that automatically trigger wage increases when the cost of living rises. They are especially helpful because it is difficult to predict spikes in inflation. When provinces impose wage restraints and austerity, our only solution is coordinated action – up to and including strike action.

Start the conversation about bargaining during inflation in your local today with this video: cupe.ca/video-bargaining-during-inflation

CUPE provides its members with a tool to measure inflation and to check if their wages are keeping up with changing prices in their region. Find it at: cupe.ca/cpi-calculator