Cutting pay looks like the fastest way to save money. Your own decision form disagrees: underpaying staff, it warns, raises future labor costs.
Learning objectives. After this week you can (1) explain why wages are sticky; (2) explain efficiency wages; and (3) trace the loop from unemployment to spending and back to jobs.
Remember this: wages ratchet up easily and come down slowly. That stickiness is a big reason recessions last.
1) Labor is the biggest bill
In most economies, labor is the largest share of what almost everything costs. That is why wages sit at the center of debates about inflation, unemployment and policy. At your resort the staffing budgets (lift staff, patrol and office staff) pay people; grooming and plowing are the fuel-sensitive lines.
2) Sticky wages
Sticky wages adjust slowly, especially downward. Contracts, morale and a sense of fairness make pay cuts hard. So when demand falls, firms usually cut jobs rather than wages, and unemployment can stay high long after a downturn starts. Wages tend to rise more easily than they fall. Remember Week 2: a raise below inflation is a real pay cut.
3) Efficiency wages
Efficiency-wage theory says paying above the market rate can buy better effort and lower turnover, so higher pay partly pays for itself. A pay cut can cost more later if it drives away workers and effort. Your wage multiplier on the decision form (0.5 to 1.8) compares your pay with the market's: a worker paid $20 where the market pays $16 has a multiplier of 20 ÷ 16 = 1.25. The Wage index on your report's Operations line is how the labor market remembers what you pay.
Percent Change in Wage Index = (New − Old) ÷ Old × 100
Wage index 1.00 → 1.08: labor costs that track it are 8% higher. Wage index 1.10 → 1.045: (1.045 − 1.10) ÷ 1.10 = −5%.
4) The macro loop
Your workers are someone's customers. Layoffs raise unemployment, which cuts household income and spending, which weakens demand, which causes more layoffs. Unemployment rising from 4.5% to 9% in a downturn is mostly cyclical, and for a resort it means fewer paying skiers. In the other direction, a tight labor market pushes wages up as employers compete for scarce workers.
Quick self-check
(a) Why do firms in a slump usually cut jobs rather than pay? (b) Wage index 1.00 → 1.12. How much more do labor costs that track it cost? (c) Pay rises 3% while prices rise 5%. Real wage? (Answers: wages are sticky; 12%; it falls about 2%.)
Common mistakes
- Reading a wage cut as pure savings. Count what it does to future labor costs.
- Expecting wages to fall fast in a slump. They are sticky downward.
- Treating unemployment as only a cost story. It is also your customers' income.
This week in the arena
Read the Wage index on your first and latest reports this week, and note the wage multiplier on your decision form. Compute the percent change in the index. What does it say about how the labor market remembers your pay?