UK: A FLEXIBLE LABOUR FORCE THAT WILL STRAIN THE PUBLIC PURSE. - If employment costs shift to the public sector, high taxes will be here to stay, says David Smith.

Last Updated: 31 Aug 2010

If employment costs shift to the public sector, high taxes will be here to stay, says David Smith.

A flexible labour force has been an ambition of government economic policy for so long that it surely must be a good thing. Normally, I would not disagree. Flexibility brings with it an ability on the part of companies to respond swiftly to changes in demand. It enables new production techniques to be introduced with the minimum of fuss. It allows companies to move more easily between locations. Above all, it implies an end to the stultifying pettiness that often characterised UK labour relations in the past.

All these are benefits that British managers are now enjoying. They partly reflect the labour-market reforms of the Thatcher era, and the fact that, in several set-piece contests, the unions came off worse. But they are also due to the change in the nature of work, and the decline in the relative importance in the economy of large industrial plants, where the power of organised labour was at its strongest.

Flexibility also has a downside, however, and it is one that a government struggling to eradicate a huge budget deficit could do without. A flexible labour force, it appears, is one in which a significantly larger part of the burden of maintaining the income of the workforce falls upon the public purse.

The first hint of this was in the recent recession. The downward lurch into recession began in the middle of 1990 and, on the basis of past behaviour, unemployment could have been expected to begin rising a few months later. But unemployment began to rise in March 1990, in anticipation of the onset of recession, as companies prepared for a drop in demand by cutting back on staff, or cancelling recruitment activity.

This was not the only surprise. The rise in unemployment, from 1.6 million to a shade under three million, was sharper than might have been expected given the scale (if not the duration) of the recession. Employment dropped by two million (not all of which was reflected in a higher unemployment total) with half the fall occurring in manufacturing, a sector that everyone understood to have completed most of a necessary rationalisation process by the mid-'80s.

All this, of course, did not simply reflect legislation changes. In the bad old days, firms used to hoard labour during downturns, even if workers were ridiculously underemployed. The rationale was that it made sense to hold on to tried, trusted and skilled employees, or else problems would arise when demand returned to normal. Such tactics may have made sense in the '50s and '60s when unemployment remained relatively low, even during cyclical downturns. But they carry little resonance today. Even at the end of the late '80s boom, unemployment was, by past standards, very high.

The more aggressive retrenchment policies followed by UK industry (and services) in the recession had a highly beneficial impact on company profitability. The company sector emerged into the upturn financially stronger than could have been reasonably expected and this was clearly a good thing.

But the sharp rise in unemployment had a disastrous effect on the public finances. And this was not just due to the mechanical link between rising unemployment and increased social security spending, as well as the reduction in income tax revenues that resulted from a smaller employed workforce. It is my belief that, in addition to these factors, the Government was encouraged to loosen its grip on public spending in areas not directly related to the unemployment rise, to buy political popularity which had been badly damaged by the recession.

Surely, however, the early and substantial recession-related rise in unemployment has had its counterpart in a falling jobless total during the upturn? Unemployment began falling in early 1993 much sooner than forecasters had predicted, and this looked to be another of the beneficial effects of flexibility. Well, up to a point. The fact that unemployment fell earlier in the recovery than past patterns would have suggested was welcome, and owed something to the frenzied job cuts that occurred when the economy was on the turn, in particular the third quarter of 1992, when employment dropped by nearly 400,000 - easily a record.

It is indeed possible for firms to retrench too much, and some may have done so, leaving themselves exposed when 1993 turned out to be a year of recovery, rather than stagnation. However, the fall in unemployment, while sustained, remains something of an enigma.

When we look at the official figures for employment for the first nine months of 1993, it is clear that full-time employment has continued to decline, even as the economy has recovered. Between December 1992 and September 1993, there was a fall of 124,000 in full-time employment (100,000 among men and 24,000 for women). At the same time, however, part-time work increased, with an increase of 185,000 (61,000 for men and 124,000 for women). This gives a net increase in employment of 61,000 and is consistent with a fall in unemployment, except that conventional wisdom has it that a rise in part-time work does not have a great impact on the unemployment total. This is because, to take an example, women taking part-time jobs have traditionally not been drawn from the existing pool of unemployed people - they have usually been married women returning to work. Hence the enigma.

The explanation may be that, in our flexible labour market, part-time jobs are indeed being taken by the unemployed or by existing full-time workers, because of a paucity of full-time opportunities. There is anecdotal evidence to support this. Burton, the retailer, was one company to convert a significant proportion of its full-time staff to part-time work. Sock Shop is a more recent example.

Nor is this a recent phenomenon. Even as full-time jobs for men have declined sharply, there has been a 300,000 rise in male part-time employment since 1990. Among women, the increase in part-time employment has been even bigger. Nearly half of all employed women are now part-timers.

From the point of view of companies, this cannot but be beneficial. We are seeing the development of a kind of 'just-in-time' approach to labour, with firms employing people only when they need them. Profitability is enhanced. But consider the position of government. If increasing numbers of breadwinners are only part-time workers, and their incomes have to be topped up via the social security system, then there is a higher level of public spending (and lower tax receipts) right through the economic cycle. Flexibility has resulted in a transfer of employment costs from the private to the public sector.

In the end, of course, the public sector cannot carry such costs indefinitely - the burden has to be shifted back. Such a shift will not, clearly, come in the form of government directives to firms to employ more people on a full-time basis. But it will come in the form of permanently higher taxation. And this is why hopes of an early reversal of the tax increases currently being introduced are almost certainly misplaced.

David Smith is economics editor of the Sunday Times.

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