This report addresses the nature and effects of wage norms and their links to public sector salary caps. Questions addressed include:

• what are the recent patterns of nominal and real wages growth?
• what is the role of wage norms in explaining these patterns? and
• what influences does public policy have on those norms, particularly through public sector pay?

It also considers the possible effects of changing those policy settings. It addresses these issues by reference to data on developments in the labour market and in economic theory, as well as policy on public sector salary caps. It makes special reference to the situation in the New South Wales (NSW) public sector.

The report commences by discussing recent patterns in nominal and real incomes in historical, economic and international context, including the situation for NSW public sector occupations, then considers the nature of wage norms and their links to monopsony in labour markets, the influence of public sector pay upon wage norms, the effects of wage norms on policy, changes in wage norms, the role of pubic sector pay in raising wage norms and the effects of removing public sector salary caps. As public sector salary caps are the focus of this report, but just one element in shaping wage norms, discussion of the relationship of wage norms to several other important factors is concentrated in an Appendix.