On the (neoclassical) economics of nurses' strike

My friend, V. Santhakumar, has chosen to discuss the economics of the ongoing nurses' agitation in Kerala in his article in Mathrubhumi dated 27-02-2012.

Here is my reply to him. Santhakumar being a neo-classical economist, though often seen as claiming himself to be a new institutional economist, my reply to him requires some excursion into the literature within neo-classical economics itself.

I am sure Santhakumar is aware of the great neo-classical economist Robert Solow's booklet titled "The Labour Market as a Social Institution"; his three lectures on the Royer Lecture Series at the University of California in 1989. Here, you have a neo-classical economist pointing out for the first time that the labour market is not like any other market for commodities. He says that economists have for long ignored matters of "fairness" and "social status" as factors influencing labour market outcomes. Solow is careful to see that his argument is not subversive to mainstream economic theory; yet, he posed some important questions that neo-classical economists are yet to answer.

Fairness is extremely important in the labour market, says Solow. It is akin to the idea of "just price" in economics. Here, workers feel that they are underpaid and that they deserve a particular level of earnings. This is because a labour market is located in a social context; as he notes: "employment and the income it brings are not simply equivalent to a set of bundles of consumer goods".

I cite this text to bring to Santhakumar's attention the movement of neo-classical economists towards the idea of "just price" and "fairness". This provides, also, answers to why underbidding may not occur even in the midst of unemployment; a good social security policy may only exacerbate the lack of underbidding, and that is indeed a good thing. That is also why you see "discouraged worker effect" in action in Kerala even as it might not operate in other States of India; the presence of a good social security system may be an answer.

Prof. Robert Solow. Image credit: MIT

Having placed the importance of fairness of wage on the table, let us now go on to see the neo-classical literature on the market for nurses. The whole literature on the "market for nurses" in the United States (US) has focused on the importance of monopsony, or oligopsony. That is, the lack of buyers/employers. Further, the fact that nurses are often married and are women constrains mobility and this adds to the problem of monopsony/oligopsony. This substantial monopsony power of hospitals (employers) in the short run, and even over a longer time horizon, signifies significant market power. Daniel Sullivan, summarising the results of studies in a paper, notes that the inverse elasticity of supply over one-year periods is 0.79 and over three-year periods is 0.26 (Daniel Sullivan, "Monopsony Power in the Market for Nurses."Journal of Law and Economics 32, no. 2 part 2 (1989)). In Sullivan's own argument, if a hospital cuts wages by 1 percent, it would lose only about 1.3 percent of its nurses in the short run, showing substantial power over wages for hospitals.

Sullivan then argues, "even if the inverse elasticity over longer periods of time were somewhat lower than that found above for three-year changes, a reasonable conjecture would be that a cost-minimizing hospital would find it in its interest to pay wages considerably below its nurses' marginal product." This mark-down of wages can be expected to stabilise at roughly 10 per cent below their marginal product. This deficit in wages does not go beyond 10 per cent (thankfully!) because the long-run elasticity is lower than the short-run elasticity; if wages fall by 1 per cent, over three years (the long run), 4 per cent of the nurses may leave.

So, we have two points to make from neo-classical theory itself: (a) the monopsony power of hospitals over nurses is very high; and (b) given the supply of nurses, this monopsony power allows hospitals to pay nurses far below their marginal product.

There are two additional issues. First, what complicates this state of affairs is that multi-speciality hospitals everywhere are known to collude, or set wages in consultation with each other. That is why Sullivan remarks that "the antitrust enforcement authorities might want to reconsider their rather tolerant attitude toward attempted collusion by hospital administrators". Secondly, the other factor that may be made variable here is the presence of unions that push wages up to, or above, the marginal product.

These two appear to be feasible solutions globally:

a) public regulation of private hospitals in terms of wages paid. Minimum wages is one way of doing it, and here minimum wages are not like NREGS wages but a socially acceptable wage floor that is "fair" and "just" and what nurses feel they deserve, both on an absolute scale and on a relative scale

b) encouraging collective bargaining on the part of nurses

Santhakumar's reply to my argument would be, I assume, that no where in India, minimum wage legislations have succeeded in raising wages and employment; in this case, a quick increase in the supply of nurses or the readiness of other nurses to work at lower wages (because the supply of nurses is large) will neutralise any incentive to pay minimum wages on the part of hospitals. That is why he says that "in this mater we need to consider how beneficial a labor strike or government mandated minimum wages law would be".

My reply would be two-fold. First, the question of effectiveness of minimum wage legislations arises when nurses would actually underbid. Such underbidding is also dependent on whether the nurses' movement achieves strength at the national level. Look at Maharashtra; there is a massive nurses' movement developing slowly, though Congress politicians are trying their best to collude with hospital authorities and kill the struggles. If these struggles develop at the national level, the possibility of underbidding may diminish. In other words, if wages of nurses converge nationally, as part of a progressive wage policy, across the country. Lets fight for that.

Secondly, unlike Santhakumar, I do not believe that there is anything wrong in basing a development strategy primarily on decent or fair wages. The reason why minimum wages legislations are a failure is not because they are instrinsically bad, but its implementation by the powers-that-be has been terrible.

With that, I unburden myself of that neo-classical hat! Phew!

This note was originally published on the author's blog at http://ramakumarr.blogspot.in/