Was Osborne Right On Public Sector Pay?

A guest post written by Peter Kenway, Director of the New Policy Institute. A longer version of this article can be found here

George Osborne's claims on public sector pay in the Autumn statement do not stand up to scrutiny. In his statement to parliament on 29 November, George Osborne said the following:

"We will set public sector pay awards at an average of 1% for each of the two years after the pay freeze ends.

"Many are helped by pay progression – the annual increases in salary grades that many people are entitled to, even when pay is frozen.

"It is one of the reasons why public sector pay has risen at twice the rate of private sector pay over the last four years."

Was he right?

The latest statistics on average weekly pay from the ONS is for September 2011. These show that compared with four years earlier, average weekly pay in the private sector had risen 6.2% whereas average weekly pay in the public sector had risen by 12.8%, that is, an excess of 6.6% . Osborne’s basic premise is therefore correct – public sector pay has risen more than twice as fast as pay in the private sector.

What about pay progression in the public sector as the reason for this difference? While it is true that many public sector workers do enjoy pay progression, the information needed to quantify its extent, in both the public and private sectors, cannot be gleaned from the official statistics. So no evidence here either way.

But are there other factors that might explain the difference in the rates of growth of pay in the two sectors over the four years and for which evidence does exist? There certainly is, and once this is accounted for, the picture changes dramatically.

Bonuses and Arrears

First, it is clear from the data that bonuses in the private sector were down sharply in January 2009 compared with a year earlier. Given what had happened to the economy and the financial sector in over the previous year, that is entirely understandable. But since this is exactly what is meant to happen with bonuses at times like this, it is absurd to use the collapse as a reason for holding down public sector pay.

Luckily, the ONS publishes alternative series for average weekly earnings which strips out the effect of both bonuses and pay arrears. On this basis, instead of rising just 6.2% over four years, private sector weekly earnings rose 7.8%. Over the same period, public sector earnings rose 12.6%. While the overall picture is the same, leaving out bonuses reduces the gap between the two sectors by nearly two percentage points.

A chart that plots these two series from 2005 onwards can be seen here. One thing this chart shows is how the public and private sectors seem to take it in turns to lead on earnings growth. In 2005, public sector earnings were rising faster than those in the private sector. Between 2006 and 2008 the private sector led. Then from late 2008, the private sector fell back again – for a period of about 18 months substantially so. Since mid 2010 the two sectors have been tracking one another closely.

The Changing Public Sector

Much more surprising is the sudden step in average public sector earnings in mid 2009? What was this? A sudden bout of generosity on the part of public sector employers at the tail end of the recession? No. It is a statistical quirk caused by the fact that from July 2009, earnings in the now nationalised banks, RBS and Lloyds/HBOS, started being included in the public sector. When this is taken account of – luckily again, the ONS produces a public sector average earnings series excluding financial services – the apparent step up in public sector pay in mid 2009 disappears.

It is true that in mid-2009 the public sector was still doing better than the private sector (where earnings at this point had slumped). This would still be true even if the two banks were still in the private sector. We estimate that if they were, private sector earnings would have risen 8.4% over the four years. Over the same period, public sector earnings excluding financial services rose 11%. So there is still a gap but it is down to 2.6%.

Conclusion

Failure to take account of the effects of something as big as the nationalisation of RBS and Lloyds is a gross error. Osborne’s claim depends upon it. Once that error has been corrected however, it is less the small difference between the two sectors that is the story than the large difference between earnings growth in both sectors and inflation at 5%. The resulting fall in ‘real’ wages – that is wages after allowing for inflation – is a major reason why the economy is now so sluggish. Since the economy will not recover until pay picks up, bigger rises in both sectors, and especially in the private sector, are fast becoming a patriotic duty.