Will Abenomics raise wages? Aggressive quantitative easing policy and the features of the Japanese labor market

Opinion article by Associate Professor Sachiko Kuroda of the Faculty of Education and Integrated Arts and Sciences, Waseda University

Figure 1: The hourly nominal wage change and the consumer price index inflation rate

Data: "Basic Survey on Wage Structure" (The Ministry of Health, Labour, and Welfare), "Consumer Price Index" (Statistics Bureau)

Note: The wages were calculated by dividing regular workers’ average nominal wage (annual income including bonus and overtime pay) by working hours.

Under the first arrow of Abenomics, Bank of Japan is conducting aggressive quantitative easing policy. Japanese expectations of economic restoration are increasing, however, there are also concerns that, even with the overcoming of deflation and the price stability target of 2% inflation being achieved, difficulties in people's lives will continue if wages will not rise to match inflation. Accordingly, the development of wages is receiving a great attention in Japan. In order to deal with the situation, the Prime Minister made an unusual request for the leaders of big companies to raise compensation for their employees. Here, I would like to consider the relationship between decisions regarding wages and the features of the labor market in Japan.

Figure 1 shows the year to year change of hourly nominal wage of regular employees and the inflation rate from consumer price index to observe how wages in Japan shifted under low inflation and deflation since 1990. The figure tells that, the change of hourly nominal wage fluctuated positively until the mid-1990s, however, it fell below 0% after 1998. In particular, it dropped significantly after the financial crisis in 2008. These casual observations tell us that Japan's typical response to negative shocks after the 1990's was to cut wages in nominal terms. A series of flexible downward adjustments decreased the hourly actual wage to almost the same level as in 1995.

These wage cuts is a special feature observed only in Japan (at least so far), which has not been common in other advanced countries. For example, a survey conducted for euro area firms by the European Central Bank reports that the percentage of firms that had experienced a wage cut accounted only about 2%, even after the financial crisis in 2008.

So why wage cuts are common in Japan, but less so in other countries? There are several possible reasons which come from the differences in the characteristics of each country's labor market. The first difference lies in the framework of determining wages. In markets where a wage raise is negotiated across industries and occupations, there is a risk that workers may consider it unfair for individual companies to perform wage cuts against it. Companies therefore choose to lay off workers instead to avoid cutting wages of remaining workers and prevent the deterioration of morale. In Japan, on the other hand, it is common for a company to negotiate wages individually with its employees, and as a result, the wage negotiation is likely to reflect matters such as corporate performance and prospects. The second difference is that bonuses account for a large amount of annual income in Japan. This allows the annual income to adjust flexibly by increasing or decreasing bonuses according to economic fluctuations. These features of determining wages had functioned well in the Japanese labor market for a long time. It serves as an effective measure to protect workers from short-term negative shocks, such as hoarding employees who have accumulated firm specific skills with the large training costs. As a result, the unemployment rate in Japan has been shifting steadily low relative to the rates of other countries.

However, such practice also causes a lack of mobility of the Japanese labor market. In a market where the labor mobility is inactive, workers are likely to accept a wage cut and unpaid overtime in exchange for staying employed for fear of the difficulty of finding a new job as a regular employee after being dismissed from their current positions. Moreover, under the prolonged depression, some point out that such a downward flexibility in wages is making the country difficult to get out from deflation. That is, the situation with wage cuts traps individual companies in a negative spiral: although the wage cut makes it possible to lower the prices of goods and services while protecting employment in a micro level, since each firm takes the same strategy, the consequence is that the macro price level also decreases. Therefore, the competitiveness of individual companies will not be improved, which leads to a further wage cuts.

In order to move away from the negative spiral, improving the condition of the labor market is necessary. To prepare various outside options other than the wage cut for workers and to promote mobility of labor to industry with an international comparative advantage, it is necessary to change the labor market from one with only bipolar ways of working that is, the "regular employees, who have a relatively low risk of losing a job, but who are forced to be transferred anytime anywhere and work long hours," or "non-regular employees, who have a high risk of losing a job, but who can choose working hours and workplace relatively freely," to one where workers can choose what they like or what is suitable for their current stage of life from various packages of wages and labor conditions. Preferred labor conditions may vary depending on the employee's age and life stage. If various possible combinations regarding wages and labor conditions become available, and the labor market can be developed to one where workers can move between these options smoothly, both labor productivity and real wages may improve due to the increase in efficiency in the matching between workers and employers. Furthermore, it would also lead to the utilization of a non-labor workforce who have hitherto resigned from working. Some measures, currently considered by Japanese government to strengthen growth, such as introducing a system of quasi-regular employees with job descriptions limited to certain areas and jobs or extending the childcare leaves to three years may be the first step for the society toward diversity. Some suggest, however, that this is difficult since it may cast a large burden for firms to implement, and there are not so many needs from workers who wish to work under such conditions.

To this end, the following is a digest of a survey that was conducted through 719 firms and 4,439 employees. This survey asked both firms and employees a hypothetical question, "How much cost should be incorporated into the wage to implement (1) a generous childcare and family-care leaves (that exceed those with the current law) and (2) a short working-hour program?" Figures 2(1) and 2(2) show the results. According to the figures, an overwhelming majority of employees responded with either "a wage cut to cover the introduction is not acceptable (wage premium of 0%)" or "a wage cut to the extent of 10 to 20% is acceptable," while the overwhelming majority of firms responded that "an introduction is totally unacceptable (wage premium of -100%)," which demonstrates a huge gap between employer and employees. Since various ways of working did not prevail in Japan for a long time and bipolar ways of working become the norm of the society, many firms may believe that there would be enormous direct and indirect costs to provide other ways of working. However, when limiting samples to the employees and firms who were willing to accept the introduction of the system, the average wage premium for introducing a child care and family care leaves were: employees -33.8%, firms -8.3%, while those of the short working-hour program premium were: employees -27.8%, firms -11.0%. That is, the firms that considered there to be a possibility for introducing the system think it is feasible if an average wage cut of approximately 10% was implemented to introduce the policy, while workers expected a flexible way of working even with a wage cut of approximately 30%. These results suggest that various combinations regarding wage and labor conditions can be provided without additional costs, and that there is a possibility to increase the welfare of employees, if companies can understand the potential needs of employees. In the future labor market in Japan, we are required to change our mindsets by shifting from the singular thought of wage cuts for protecting employment to the thought of creating new combinations of wages and labor conditions corresponding to various needs.

Sachiko Kuroda
Associate Professor, Faculty of Education and Integrated Arts and Sciences, Waseda University

Associate Professor, Faculty of Education and Integrated Arts and Sciences, School of Education, Waseda University
Graduated from Faculty of Economics, Keio University.
PhD (Keio University)
Economist, Bank of Japan
Associate Professor, Institute of Economic Studies, Hitotsubashi University
Associate Professor, Institute of Social Science, The University of Tokyo
2011-: Current position

Figure 2

Distribution of Wage premiums for each policy based on the hypothetical question

Reference): Kuroda and Yamamoto (2013)
Notes: The employee samples are limited to women. The average wage premiums are calculated by excluding both employees who suggest 0 % wage cuts and firms suggest 100% wage cuts from samples

Published: 20 May 2013


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KURODA Sachiko & YAMAMOTO Isamu, 2013. "Wage Premiums for Firms' Work-Life Balance Practice: Evidence from Japanese matched firm-worker data (Japanese)," RIETI Discussion Papers Series, 13-J-004, Research Institute of Economy, Trade and Industry (Japanese).