The paper is about the sources of growth in income in Australia and the effects of structural change on the distribution of income between labour and capital. The main objective is to find an explanation for the fall in the labour share of income in Australia in the 2000s.
The labour share of income fell by 4 or more percentage points in the 2000s.
However, labour was no worse off in the process.
Labour income grew at a faster rate in the 2000s than in the 1990s through stronger growth in both wages and employment.
The labour income share only fell because capital income growth accelerated even more.
The rise in the terms of trade meant that product prices rose faster than consumer prices. While labour received a smaller share of income at product prices, the slower growth in consumer prices meant that the real value of each dollar earned was worth more in terms of its purchasing power. This purchasing power effect (which was available to all income earners) more than outweighed the apparent reduction in labour's share of national income.
The large rise in Australia's terms of trade brought strong growth in real income —even stronger than the growth in the 'productivity decade' of the 1990s.
This provided scope for growth in both labour and capital income to rise.
Other high-income countries also experienced a decline in the labour income share, but driven by a different set of factors. In other countries, growth in labour income has suffered.
The mining boom was overwhelmingly responsible for the fall in labour share in Australia:
Development of mining and associated capacity added to the economy's capital stock, leading to more capital-intensive production overall.
Higher output prices for minerals (and construction) reduced the real cost of labour so that growth in real wages fell behind labour productivity growth.
The two other industries most affected by the mining boom — Construction and Manufacturing — served to increase the labour income share.
In Manufacturing, a slowdown in capital income growth meant the industry contributed more to labour income than to capital income at the aggregate level.
Construction had stronger growth in capital income than in labour income. However, because the industry is labour intensive, growth in Construction's labour income had a greater effect on aggregate labour income than growth in its capital income had on aggregate capital income.
As the terms of trade now decline, the labour income share will rise. But with a more capital-intensive economy, the share is unlikely to revert fully to previous levels.
Action to restore the old labour income share or to recover 'lost' income share through wage rises would probably only have adverse consequences for employment and inflation and for industries already facing adjustment pressures.
With the prospect of declining terms of trade, a focus on productivity growth will be the way to sustain growth in real wages.