The Negotiation of Wage Agreements in Real Terms

The purpose of this article is to describe the effect of inflation on real wages, to describe the theoretical principles involved in designing contracts that provide wage rate benefits in real terms, and to examine the relation between these principles and their application to collective agreements.

Available evidence indicates that one result of rapidly rising consumer prices during 1972 and 1973 was to produce negligible changes in real wages even though money wage rates were rising relatively rapidly.

Two basic approaches to negotiating acceptable money wage increases designed to take account of inflation are commonly used. In the first approach union negotiators estimate expected rates of inflation over the life of the contract and determine the amount of money wage increase necessary to neutralize the effectof increased prices on purchasing power. To this amount, they then add money wage demands sufficient to achieve hoped for increases in real wages.

In the second approach wage rates are indexed to a consumer price index series so that a rise in the index automatically results in the adjustment of worker's earnings. These arrangements are known as cost of living allowance (COLA) or escalator clauses.

C.P.I. Indexes and the Principle of Maintaining the Real Value of Money Wages.

In order to correctly estimate an expected change in the C.P.I. or to properly utilize a C.P.I. in a COLA formula it must be decided whether it is real wage rates that are being examined between two specificpoints in time or whether it is average real wage rates being examined between twoperiods of time.

Use of the C.P.I. Index Front One Specific Date to Another.

If prices increase steadily throughout the year at a rate of 12 percent per year, money wage rates should increase steadily throughout the year at the same rate.

Use of the Annual Average Consumer Price Index.

The annual average method is equivalent to asking how much prices were higher in each month in 1973 as compared to the same month in 1972 and to average these increases. The use of the average annual method is appropriate for the case where it is theaverage real wage rate of the base period that should be protected. In this case, the real wage rate was not constant during the base period but was declining as prices were rising.

The Use of a Cost of Living Allowance or Escalator Clause to Maintain the Real Value of Wage Rates.

It is not practical to adjust money wages as soon as prices change and consequently wage adjustments can be made with a lag by using some formula relating increases in the C.P.I. to increases in money wage rates. Workers will have been paying higher prices for some time before their money wage rate is adjusted. There is a loss in real wages due to this lag as compared to the case where real wages are kept constant by increasing money wages as soon as prices increase.

The Cost of Living Allowance in the Contract Between the Quebec Government and the Public Sector Employees.

The cost of living allowance used in the contract between the Quebec Government and the public sector employees is a useful one to examine since its covers a large group of employees and it is interesting case in its own right because of its multiple facets.

When wages are adjusted according to the expected rate of increase in consumer priées the problem is to correctly predict the actual rate. If the predicted rate ofincrease in the C.P.I. is used to adjust wages and the actual rate turns out to be higher than the predicted rate, workers will have lost real wages.

The Quebec case eliminates this problem by a two step approach to wage adjustment : firstly, wages are adjusted according to the predicted increase in consumer prices, and secondly a retroactive lump sum payment is provided to cover any decrease in real wages due to a higher actual rate of increase in consumer prices.

Applications.

The proceeding discussion has emphasizedprinciples that must be applied if a COLA provision is to maintain a real wage base during a contract period. Examination of COLA clauses in contracts in large unionized enterprises in 1972 and 1973 reveals that these clauses seldom succeeded in accomplishing this goal.

Principles and Practice.

This article has attempted to show that the ability of negotiators to achieve a real wage goal requires careful consideration of the underlying principles that are applied in alternative techniques used to reach this goal.