The Theory of Wage Rates 4

Why Different Workers Are Paid Different Wages

In today’s economy, it is unusual for businessmen to reduce the wages they pay. There has been no general decrease in money wages since the 1930s, workers view a decrease in money wages as the equivalent of a violation of natural law, and their employers do not want to undermine “worker morale.” This has led economists to devise theories of the aggregate economy based on the assumption that wages cannot fall.

However, wages can fall. In the general deflation following the Civil War, money wages fell irregularly, continuously, for about thirty years. Today, appearances to the contrary notwithstanding, wages fall when supply and demand are allowed to function.


The wage rate falls when a pool of unemployed workers of a particular type expands to the point that businessmen find it significantly easier to hire that kind of worker. A pool expands because demand for workers of that kind decreases or because the supply increases. For example, supply may increase as workers train for relatively higher-paying occupations and move from lower-wage pools to higher-wage pools.

The most common cause of decreases in demand is a recession. In a recession, the number of workers demanded at the market wage decreases for almost every type of worker. At the same time, the supply of most kinds of worker increases as workers are laid off.

The businessman experiences an expansion in the pool of unemployed workers as an abundance of workers available at the current wage. Potential employees in response to an advertisement besiege the business, or word-of-mouth about a job vacancy brings in a surfeit of applicants.

In such circumstances, the businessman may offer less than the current wage, or prospective employees may offer to take less, and the market wage for that type of labor falls. In 1982 and 1983, the average union wage rate fell as unions negotiated lower wages in order to avoid layoffs. In the Great Recession of 2007—2009, skilled and unskilled workers alike accepted lower wages.

How do wages fall when they appear unchanged? In an inflationary economy, the money wage rate does not have to decline in order for the real wage to fall. When prices in general are rising, a fixed money wage can buy less each year. The American economy has been more or less inflationary for most of the last eighty years. Consequently, real wages can and do fall when money wages do not keep up with the rate of price inflation.