Skill Shortages, Productivity Growth and Wage Inflation in UK Manufacturing

We estimate the impact of skilled and unskilled labour shortages on productivity and wages in the United Kingdom. Skill shortages are higher on average and more variable over the business cycle in the United Kingdom than in comparable economies. Unskilled shortages are comparatively rare, so most of our work concentrates on skill shortages. The bulk of evidence suggests that shortages are related to educational attainment rather than the failure of firms to adjust wages. There are two potential effects of shortages on productivity. First, we argue that shortages add to the cost of employing skilled workers since a firm must wait longer than usual to fill its vacancies. This may lead firms to employ less skilled and more unskilled workers. Second, labour shortages make it less easy for firms to extract effort from their workers. Both of these effects reduce productivity. We provide empirical evidence from two panel data sets of UK manufacturing from 1980-89. We use data from 81 manufacturing industries and also from 33 engineering industries where there is better information on the skill composition of the workforce. Both data sets suggest that the growth of skill shortages in the 1980s reduced productivity growth by about 0.4% per annum (average productivity growth was 5% per annum). Unskilled shortages had no effect. Finally labour shortages might increase nominal wage growth by putting workers in a stronger bargaining position. Both our data sets suggest that skill shortages raised wage growth over the period by about 1% per annum (average wage growth was 7%).