Relationship between wages, productivity and inflation
Some Generalizations
Wages are positively related to labor productivity.
As labor productivity increases, wages increase.
If
nominal wages increase faster than increase in labor productivity, we
will have inflation in the economy, equal to that differential.
If nominal wages increase by 5%, while labor productivity has only increased by 2%, inflation will be around 3%.
This is because output (dependent on labor productivity) is increasing at a slower rate than increase in nominal wages.
It is a case of "more money chasing fewer goods", the quintessential prerequisite for inflation.
The
reverse will also be true. If nominal wages increase slower than
increase in labor productivity, we will not have inflation (possibly
deflation) in the economy.
If nominal wages increase by 2%,
while labor productivity has increased by 5%, deflation will be around
3% (same as -3% inflation).
This is because output (dependent
on labor productivity) is increasing at a faster rate than increase in
nominal wages, thus prices do not rise, indeed they may fall
(deflation).
If nominal wages increase at the same rate as
increase in labor productivity, we will not have either inflation or
deflation in the economy.
If nominal wages increase by 5%, and labor productivity also increases by 5%, neither inflation nor deflation will be present.
This is because output (dependent on labor productivity) is increasing at the same rate as the increase in nominal wages.
These are generalizations and hence generally tend to hold true.
