Should the UK implement a maximum wage?
What is a Maximum Wage?
A ‘maximum wage’ is a “legal limit on how much income an individual can earn” (Dietl, H., Duschl, T. and Lang, M. 2010), and has been spotlighted due to reports of ‘fat cat salaries’ such as Sir Martin Sorrell’s £70.4 million salary. This article explores whether a wage cap is economically beneficial. While a maximum wage hasn’t recently been implemented in the UK, in 2012 France’s Jean-Luc Melenchón argued for a 100% tax rate (a wage ceiling equivalent) for incomes over €360,000, approximately 10 times the average salary €35414 (France 2012- OECD).
My definition of ‘maximum wage’ is ten times the median salary (£22,044, 2015 – ONS); this is those earning over £220,440. “Inequality” is defined as income inequality, measured by the Gini Coefficient, and Social Inequality (inequality of resource allocation).
Arguments for and against a maximum wage
FOR: Maximum wage reduces income inequality
AGAINST: But does it really?
A maximum wage reduces firm’s costs of production, therefore firms could hire more (since they can afford to and want to increase production) or give more pay rises/bonuses (as incentives for higher productivity). This increases incomes, reducing income inequality. For example after Trump’s tax cuts, representing a cash windfall like one experienced by firms after a reduction of costs of production due to a wage ceiling, AT&T announced that an additional 200,000 workers would receive $1000 bonuses. This shows that firms are willing to distribute surplus money amongst workers.
Moreover, as employment rises and people earn more, tax revenue to the government increases; they can then further redistribute wealth to lower-earners and fund services like free education and training programmes to reduce social inequality.
Furthermore, as the median wage rises, this will lead to an increase in the maximum wage. This incentivizes high-earners to stimulate the economy (for example CEOs giving more pay rises) in order to raise wages - if not for income equity, then for themselves, as Homo economicus would maximize personal gain. Therefore income inequality would be reduced.
(Source: Swanley & District Labour Party)
However, firms aren’t obligated to give bonuses or pay raises; they can also spend money on productivity-boosting equipment, like computers. Assuming firms are rational, this depends on whether incentivising human productivity is more profitable compared to investment in machinery. As technology improves, it’s plausible that it’ll replace manual jobs, which are more easily automated (e.g. cashiers). In the long-term, automating manual jobs is likely to be more profitable; machines don’t require wages and “are capable of producing goods with higher quality and reliability” (Oxford University). This causes structural unemployment, which affects people working manual-based jobs, who are likely to be lower earners as the work is more unskilled; while those operating the machinery (highly skilled) will be paid higher wages. This would increase income inequality since low-incomers are disproportionately negatively affected by mechanisation.
Moreover, according to HMRC, the top 1% earn (on average) £162,000. Therefore a wage ceiling would do very little to reduce income inequality, as it would affect a minute (less than 1%) proportion of society. This is too little to impact the Lorenz Curve gradient, and hence the Gini Coefficient, significantly, therefore a wage cap has little relevance in impacting national income inequality.
Additionally, as a wage cap means that firms will have higher profits, firms may decide to give shareholders higher dividends, whether in the form of cash, shares of stocks or other forms of equity. This is especially true if shareholders have considerable control over the running and management of the business. This clearly does not solve the problem of income inequality, and exacerbates wealth inequality.
FOR: Maximum wages should be imposed as high wages do not correlate with high production or hours worked
AGAINST: But other factors contribute to wage determination
Another argument for a maximum wage is that high salaries given to ‘fat cats’ do not correlate to high production. For example, in the financial sector average working hours are 33.3 per week. In contrast, heavy industries such as agriculture, forestry & fishing have working hour averages of 46, but have lower Average Weekly Earnings Employment Weights of 8 compared to the Financial sector’s 22 (ONS). This suggests that wage isn’t proportional to work, and that capital is underutilised - it could be better used if proportionally redistributed to lower-incomers (hence reducing income inequality).
However, firms do not pay high wages purely based on working hours but on other factors, including education. Highly-skilled and highly-educated individuals have undergone expensive education processes and so demand higher salaries (due to a lower supply of such labour). Assuming that firms are rational and want to maximize profit by minimizing cost (including the cost of labour), they pay what individuals are "worth" in order to keep costs of production to a minimum. This also includes monetary incentives for workers to stay at the same company since the individual is so highly qualified, and for higher productivity (High Pay Centre estimates 73% of CEO salaries are incentives).
Moreover, a wage cap would lead to a brain drain as there’s less incentive to work in the UK due to wage limitations. This means the UK would suffer as talented individuals go elsewhere for work where such limitations don’t exist, leading to lower productivity, entrepreneurship and investment.
Additionally, high wages correspond to a high level of productivity - for example ‘fat cats’ are usually cited as FTSE-100 CEOs, companies with the highest market capitalisation on the London Stock Exchange. High market capitalisation only occurs if shareholders are certain the firm is highly profitable and hence, highly productive. Therefore, a wage cap would also be a production cap, directly slowing GDP growth, and lowering the UK standard of living.
FOR: Maximum wage leads to higher social mobility and higher productivity
AGAINST: Will it? Less government revenue may lead to cuts in government spending
A wage cap could benefit productivity. Since wealth is theoretically redistributed, more low-earners could afford to pay for higher education for their children. Higher-paid jobs will almost certainly require a university degree since they require highly-skilled individuals. This enables social mobility and income inequality. Moreover as more of the population is highly-educated, it becomes more productive, increasing GDP per capita and generally improving standards of living, and hence social inequality.
However, state schools are funded by taxes. The Institute of Economic Affairs estimates that if the cap was for those earning over £200,000, £21 billion would be lost. This would inevitably cause government spending cuts which would impact schools, many of whom wouldn’t be able to afford good-quality education resources. This in turn impacts the economic potential and productivity of lower-earners, exacerbating social inequality.
Overall, a wage cap does not make economic sense. Improving the graduated income-tax system so that governments can use a proven effective method to collect more money to redistribute to lower-incomers in order to achieve greater equity would be more beneficial. Most arguments which suggest that a maximum wage is economically beneficial is purely circumstantial, whereas statistical facts highlight the counterproductive and damaging nature of a maximum wage cap.