Earnings, Unemployment, and Housing:
Evidence from a panel of British regions

Summary:

In this paper we analyse data for 1972-1995 on relative regional earnings for full-time men and women and part-time women and for the relative unemployment rates for the ten standard regions of Great Britain. The earnings data come from the New Earnings Survey and, for full-time workers, refer to gross weekly earnings of workers not affected by absence.

The use of relative regional earnings and unemployment has important advantages in removing difficult to model national features of the data, such as national expectations of prices and changes in national legislation. For example, it is likely that regional differentials are less contaminated by the effect of equal pay legislation, incomes policies, and the many industrial and labour market reforms of the Thatcher era.

The paper also explores the interactions of labour and housing markets in the determination of earnings and unemployment outcomes. The mechanisms at work are diverse and include the influence of housing tenure on labour mobility and migration; the effect of house prices on migration, commuting and firm location, and hence on regional mismatch; and the effect of house prices on the cost of living, on the demand side via wealth effects and perhaps on expectations.

In contrast to Blanchard and Katz (1992, 1997) for the United States, we find less persistence in British regional earnings differentials but greater persistence in regional unemployment rates. Regarding the relationship between earnings and unemployment (the 'wage curve'), a negative long-run effect for (log) unemployment on (log) earnings as in Sargan (1964) and Blanchflower and Oswald (1994) was confirmed for full-time men. A further split between manual and non-manual men showed there to be no effect for the latter and a coefficient for manual men of around two-thirds of that estimated by Blanchflower and Oswald. For full-time women, there is also no evidence of a negative long-run effect though rises in relative regional unemployment rates are associated with declines in relative regional full-time earnings of women.

For part-time women, there is a strong positive association between relative regional earnings and relative regional unemployment rates. We argue that this reflects a mix of the unemployment trap, hours effects which have a large influence on weekly part-time earnings, and composition effects.

Thus, if the 'wage curve' is formulated in terms of the unemployment rate for all workers, it is not a universal phenomenon in the British labour market. Moreover, our evidence is that any failure to take into account the feedback from earnings to unemployment, results in an over-estimate of the negative effect of unemployment on earnings.

We also investigate the effect of the housing market on earnings. Our findings suggest that a one per cent rise in relative house prices will raise the relative earnings of full-time men by around around 0.075 per cent and those of full-time women by 0.10 per cent. Though the effects are highly significant, they contrast with a coefficient of 0.15 estimated by Blackaby and Manning (1992) on data for full-time men for 1972-1988. These results suggest the possibility that Blackaby and Manning may have over-estimated the house price effects by omitting more fundamental variables which help determine both house prices and earnings.

Further disaggregation of men into non-manuals and manuals reveals a striking difference in the house price effects: 0.12 for non-manuals and no significant effect for manual men. These appear to reflect the well-known differences in migration rates and in rates of owner-occupation between the two groups of workers. These house price effects on wages exclude effects operating via national bargaining which tend to be eliminated in taking regional deviations. At the macroeconomic level, the effects are therefore likely to be larger.

Regarding the determination of regional differences in unemployment rates, we find a strong positive effect of lagged earnings on unemployment. Thus, regions with higher labour costs, tend, other things being equal, to suffer higher unemployment. Job migration may well be a significant aspect of this tendency.

Job migration also helps to explain the positive long-run relative house price effect on relative unemployment rates. Net job migration rates are likely to respond negatively to high relative regional land costs, suggesting a positive relative house price effect on relative unemployment rates. We expect the effect of people migration to be in the opposite direction, since people migration is sensitive to relative house prices (Cameron and Muellbauer, 1998). However, there are good reasons to think that the effect of people migration on unemployment is small, since most of regional migration is by non-manual workers and these are more likely to be sensitive to house prices. They also have low unemployment rates and so have less impact on average unemployment rates for all workers. These interpretations are consistent with the striking differences in the effect of relative house prices on relative earnings discussed above.

Our unemployment equation, like our earnings equations for manual men and for women shows a strong effect from the lagged real exchange rate interacted with the proportion of employment in the production sector. This makes an important contribution to understanding the 'North-South divide' as reflected in low unemployment and higher earnings in the South East and its contiguous regions, particularly in the late 1980s. Our equation predicts that the current over-valuation of sterling is leading to a significant widening of the divide.

There is indirect evidence that from about 1989, job migration rates have tended to increase, which we believe is the results of new and cheaper information technology reducing the need for service sector firms to be located close to their customers. We find significant evidence that this has resulted in a narrowing of long-run regional unemployment differentials and has increased responses of relative unemployment rates to regional differences in labour and housing costs.

Our work has potential implications for the interpretation of the results of Blanchard and Katz (1992 and 1997). It seems likely that their finding of a high degree of wage persistence over time is the result of the omission of important explanatory variables, including the interaction of macroeconomic shocks with regional characteristics, as well as housing market variables. The UK evidence is that housing market fluctuations fluctuations are far from being simple functions of earnings and employment shocks. For the US, even though housing supplies are more elastic than in the UK, it would be surprising if these fluctuations did not also contribute to regional evolutions.

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