On the IMF’s Recommendation of an Incomes Policy

IMF’s Staff Report on Japan 2016

Members of the International Monetary Fund (IMF) are subject to Article IV consultation by the IMF staff on a periodic cycle. On the basis of the consultation, staff prepares a Staff Report, which will be discussed by the Board of Directors before being published, and submitted to the member country for their consideration.

In the case of Japan, the consultation takes place every year. The Report for 2016 was published last August. As is usual, the Report contained a thorough analysis of the current Japanese economic situation, and comprehensive policy recommendations. The special feature of this year’s Report, however, was that it included an “unorthodox” recommendation of an incomes policy.

Idea of an incomes policy

Incomes policy was a popular policy tool that was frequently employed in the 1960s and 1970s in order to control the relatively high rates of inflation. Incomes policy falls in between macroeconomic policy control of inflation (by monetary policy), and direct control of wages and prices (by freezes). It usually consisted of an arrangement between the government, the business, and the labor unions which tried to restrain wage increases to a level consistent with the desirable inflation rate. In Japan, a number of government committees headed by Professors Sumida and Kumagai discussed its pros and cons in late 1960s and early 1970s. However, Japan never formally implemented such a policy.

The IMF revived the idea of the incomes policy in quite a different environment; deflation. The policy in this kind of an environment can be summarized as “a set of indirect control measures to achieve wage increase that is consistent with the inflation target of 2 percent”.

In a sense, the Japanese Government is already engaged in such a policy because it has tried to morally persuade the business (“moral suasion”) to raise wages, has introduced a tax incentive for business to raise wages, and has committed itself in raising minimum wages.

IMF’s recommendation

IMF, however, goes further by recommending to
(a)Set a guideline for the wage increase of 3 percent (which is equivalent to 1 percent productivity increase plus 2 percent inflation),
(b)Achieve the wage increase by “comply or explain” approach,
(c)Back this up by stronger tax incentives or penalties,
(d)Raise administratively controlled wages, and
(e)Call for supplementary wage rounds.

Furthermore, IMF advocates for a reinforcement of incomes policy by introducing a labor contract reform that
(f)Promotes “intermediate” contracts, and
(g)Accelerate the introduction of “equal-pay for equal work” program.

While sharing the view that wage increase is essential in achieving the inflation target, and, for that end, every possible means should be investigated and tried, the recommendations as proposed by the IMF warrant some comments.

A comment on the wage increase guideline

First, specific wage increase guidelines would inevitably have some side-effects.

Market determined wages play an important role of signaling relative prices. That is the aspect of wages that Haberler had in mind when he said that “A mechanical and uniform enforcement of the guideline target — would freeze the pattern of relative wages (wage structure) with progressively deleterious consequences” (AER 1972).

Firms naturally differ in productivity. By requesting a uniform wage increase, profitability of some may be seriously affected. They may even have to exit from the business.

It may be the case that exit of unprofitable and inefficient firms would lead to improvement in the productivity of the economy as a whole. Such a structural implication is said to have been behind the wage policy in Singapore that intended to push labor intensive industries out of the border, and to invite high-productivity firms to the country.

If this is the kind of implication that IMF aims in Japan, it needs to be discussed more explicitly: We should look into whether this kind of a policy is feasible and desirable. We should also consider establishing safety-net measures to prepare for the increase in exits from business if the policy is to be pursued.

A comment on the labor contract reform

Second, labor market reform would be difficult to achieve unless the lifetime employment system is reviewed altogether.

IMF advocates for promoting “intermediate” labor contracts. They are kind of contract that offers worker with the coverage of a lifetime employment system but pays lower wage taking into account the limited scope of deploying them to offices in other regions or to other kind of jobs.

Since this is the case, there would inevitably be a limit as to the extent that workers would be offered such contracts. In an environment where firms face immense uncertainty towards the future, firms should be reluctant in engaging in a long-term commitment.

If the IMF is expecting the lifetime employment system to stay with the Japanese economy in the future, it should be difficult to achieve the proposed promotion of “equal-pay for equal work”. That is because the job-description, which is the prerequisite for the “equal work” identification, is lacking in the lifetime employment system. A worker under a lifetime employment system could be doing any kind of job since his job had not being specified, and his wage reflects seniority rather than the value of the kind of job he is doing.

To achieve “equal-pay for equal work”, the Japanese employment system needs to be changed to one that is job-description based and that allows more mobility. In that sense, it is not so clear how IMF sees the future of the current employment system in Japan: They may turn out to be rather optimistic in terms of the sustainability of the lifetime employment system.

Not the final solution

The stagnant wage behavior is one of the most important factors that needs to be changed in order to achieve the inflation target. However, the above discussion leads us to think that an “unorthodox” proposal of incomes policy, supplemented by a labor contract reform, as advocated by the IMF cannot be the final solution.