Categories
Forex Fundamental Analysis

The Importance of ‘Wages’ In Determining The Economic Condition of a Nation

Introduction

It is completely fair to say that it would be difficult to sustain a country’s economy in the absence of households’ consumption. The amount of money that employees are typically paid determines their purchasing power and their level of demand. Wages can, therefore, be said to be the best leading indicators of consumer inflation. More so, we can establish a direct correlation between the wages paid and the growth of the economy. For this reason, forex traders need to understand how wages drive the economy and the currency.

Understanding Wages

Wages are compensation that an employer pays their employees over a predefined period. It is the price of labour for the contribution to the production of goods and services. Thus, wages can be regarded as anything of value an employer gives an employee in exchange for their services. Wages include salaries, hourly wages, commissions, benefits and bonuses.

There are two categories of wages: nominal and real wages.

Nominal wages: are the amount of money that an employee is paid for the work done. Nominal wages are expressed in terms of pure monetary value.

Real wages: are the wages received by the employees adjusted for the rate of inflation. Real wages show the purchasing power of money. They are meant to guide on how the overall living standards have changed over time.

Therefore, Real wages = nominal wages – inflation

How Wages can be used for analysis

Their levels of disposable income determine the purchasing power of the households. The disposable income is directly proportional to the wages received. Therefore, the amount of wages paid for labour affects not only the quality of life of the households but also economic growth.

Growth in the wages received can be considered as a source of demand. Wages contribute a significant proportion of income for the middle- and low-class households who do not have other sources of income from investments. Assuming no corresponding increase in taxation, an increase in the wages corresponds to an increase in the amount of disposable income. Higher wages also give households the capacity to borrow more from financial institutions at competitive rates. The cheaper loans significantly contribute to increased aggregate demand. In this case, more goods and services will be demanded. The increase in aggregate demand compels producers to increase their scale of production to match the supply and demand. Consequently, the employment levels increase while the economy expands.

Source: St. Louis FRED

Conversely, decreasing wage growth implies that a decrease in disposable income. A reduction in the aggregate demand and supply will follow. Producers will be forced to scale back their operations, increasing the unemployment rate and consequently a slow-down in the economic growth.

Investments and savings rate rise with the growth in wages. These investments create employment opportunities and spur innovation within the economy. Contrary to this, the decrease in wages forces households to prioritise consumption over investments and saving. The resultant effect is fewer new job opportunities and stifled innovation. As can be seen, changes in the level of wages have a multiplier effect on the economy.

A rise in the rate of inflation is primarily driven by a disproportionate increase in demand driven by a rise in wages. Rising wages lead to a wage push inflation. This particular type of inflation is a result of an increase in prices of goods and services by producers to maintain corporate profits after an increase in the wages. Furthermore, since the responsiveness of supply to an increase in demand is not instant, increasing wages results in inflation since more money will be chasing the same amount of goods.

Impact of Wages on Currency

Forex traders monitor the fundamental indicators to gauge economic growth and speculate on the central banks’ policies. Central banks set their average inflation targets which guide their monetary policies. In the US, the inflation rate target is 2%.

When the wages increase, it forestalls a growth in the economy due to increased investments, aggregate demand and supply. An increase in employment levels also accompanies it. Since the value of a country’s currency is directly proportionate to its economic performance and outlook, wages growth leads to the appreciation of the currency. More so, consistent growth in wages is accompanied by wage push inflation. To keep this inflation under control, the central banks may implement contractionary policies to increase the cost of borrowing money and encourage savings and investments. These policies appreciate the currency.

A decrease in wages implies that the economy could be contracting due to declining aggregate demand and supply within the economy. If the central banks fear that this might result in a recession, they will implement expansionary monetary policies such as lowering interest rates. These policies tend to depreciate the currency.

Sources of Data

This analysis will focus on Australian wages. The comprehensive indicator of wages is Australian Wage Price Index which measures Wages, salaries, and other earnings, corrected for inflation overtime to produce a measure of actual changes in purchasing power. Thus, it measures the change in the price businesses, and the government pay for labour, excluding bonuses.

The real earnings data is released quarterly by the Australian Bureau of Statistics. The statistics can be accessed here.

Statistics on the global wages by country can be accessed at Trading Economics.

How Real Earnings Data Release Affects The Forex Price Charts

The most recent real earnings data in Australia was released on August 12, 2020, at 1.30 AM GMT. A summary review of the data release can be accessed at the Australian Bureau of Statistics website. The screengrab below is of the monthly real earnings from Investing.com.

As can be seen, the release of the real earnings data is expected to have a moderate volatility impact on the AUD

The screengrab below shows the most recent change in the Australian wage price index. In the second quarter of 2020, the wage price index grew by 0.2%. This growth is slower than the 0.5% increase in the first quarter of 2020. More so, the change in the second quarter was lower than analysts’ expectations of a 0.3% increase.

In theory, this improvement should lead to depreciation of the AUD relative to other currencies.

Now, let’s see how this release made an impact on the Forex price charts of a few selected pairs

AUD/USD: Before the Wage Price Index QoQ Data Release on 
August 12, 2020, Just Before 1.30 AM GMT

From the above 15-minute chart of AUD/USD, the pair can be seen trading in a subdued downtrend before the data release. This trend is evidenced by candles forming just below an almost flattening 20-period Moving Average.

AUD/USD: After the Wage Price Index QoQ Data Release 

After the data release, the pair formed a long 15-minute bearish candle indicating the weakening of the AUD as expected. The weak wages price index data resulted in the selloff of the AUD, which led to the pair adopting a steady trend. This downtrend is shown by the steeply falling the 20-period MA with subsequent candles forming further below it.

Now let’s see how this news release impacted other major currency pairs.

GBP/AUD: Before the Wage Price Index QoQ Data Release on 
August 12, 2020, Just Before 1.30 AM GMT

The GBP/AUD pair traded in a neutral trend before the wages data release. As shown above, the 15-minute candles are forming just around an already flat 20-period MA. This trend indicates that traders were inactive waiting for the data release.

GBP/AUD: After the Wage Price Index QoQ Data Release 

As expected, the GBP/AUD pair formed a long 15-minute bullish candle indicating the selloff of the AUD due to the weaker than expected data. Subsequently, the pair adopted a bullish trend as the 20-period MA steadily rising with candles forming further above it.

EUR/AUD: Before the Wage Price Index QoQ Data Release on 
August 12, 2020, Just Before 1.30 AM GMT

EUR/AUD: After the Wage Price Index QoQ Data Release

The EUR/AUD pair traded in a similar neutral pattern as the GBP/AUD pair before the wages data release. 15-minute candles can be seen forming just around a flattened 20-period MA. Similar to the GBP/AUD pair, the EUR/AUD formed a long 15-minute bullish candle immediately after the wages data release. Subsequently, the pair adopted a strong bullish trend as the 20-period MA rose steeply with candles forming further above it.

Bottom Line

From the above analyses, it is evident that the wages data has a significant effect on price action. Although the wage price index is categorised as a medium-impact indicator, its impact was amplified by the ongoing effects of the coronavirus pandemic. The worse than expected wages data indicated that the Australian labour industry is yet to recover from the economic shocks of Covid-19.

Therefore, traders should avoid having significant positions open with pairs involving the AUD before the release of the quarterly wage price index.

Categories
Forex Fundamental Analysis

Minimum Wages – Understanding This Macro Economic Indicator

Introduction

Minimum Wages are essential for protecting citizens and ensuring that everyone gets a fair share of the fruits of the progress made. Minimum Wages act as the foundation for everyone at the entry-level to compete equally to the top. Minimum Wages are used by a majority of the countries across the world. Understanding Minimum Wages and its importance can help us better understand improvement in people’s living standards over time alongside the country’s economic growth.

What are Minimum Wages?

The International Labor Organization (ILO) defines Minimum Wages as “the minimum amount of remuneration that an employer is required to pay wage earners for the work performed during a given period, which cannot be reduced by collective agreement or an individual contract.” It is the least money paid out for work as a wage over a given period. It cannot be lowered by mutual understanding nor through a legal agreement. Hence, it is the lowest remuneration that an employer can give their employees.

The Minimum Wage can be set by a statute, wage board or council, competent authority decision, industrial or labor courts, tribunals, or law enforced collective arguments. Most countries had introduced the Minimum Wages by the end of the twentieth century.

Minimum Wages initially started off to stop exploiting workers in sweatshops (places with unacceptable working conditions, potentially illegal and dangerous). Owners at such places generally had dominion over that workplace and people working. But later on, it became a means to help uplift the lower-income families. Minimum Wages were first incorporated by New Zealand in 1894, followed by many other countries gradually.

How can the Minimum Wage numbers be used for analysis?

Minimum Wages acted as the price floor beneath which a worker may not sell their labor. The purpose of Minimum Wages is to set a barrier to exploiting the labor force through unduly low wages for their work. It will ensure a just and equitable way of distributing the returns on the progress made collectively. It will also ensure people receive the money required to sustain a living and act as legal protection for people who need it.

Minimum Wages are also used as part of a policy to eradicate poverty. It also helps curb inequality amongst employees based on age, sex, or race for the work of equal value done. Minimum Wages also acts as a floor for wage negotiations and collective agreements. Any negotiation always has a legal and reasonable base, only above which all negotiations can take place and shall not fall below it.

The effect of increasing the Minimum Wage had a negligible impact on the employment rate in general. Still, cost-cutting in other sectors and the profitability of the company become vulnerable. Minimum Wage level adjustments are deemed to be made from time to time, meaning whenever the board feels it is needed based on the cost-of-living indices. Most countries adjust their Minimum Wages yearly, some do on a six-month basis, and some do it on a two-year basis.

Inflation and Cost-of-Living fluctuations erode the purchasing and protection power of the Minimum Wage. At such times, unscheduled interventions become essential to keep protecting the labor force.

Fixing Minimum Wage too low defeats the very purpose for which they were set and too high creates a significant impact on employment, worsening the situation. Careful and objective decisions have to be made to set and adjust Minimum Wages periodically as per economic conditions.

Setting too low could constrain consumer spending, which is terrible for the economy as it fuels the GDP. Setting too high could trigger inflation on subsequent levels, hurting exports, decreasing profit margins, and reducing employment.

The ILO deems the following three economic factors to take into account to set Minimum Wages: economic development requirements, productivity levels, and desirability of achieving and maintaining high levels of employment. All the factors are correlated and have to be set to optimize all three economic factors.

The ratio of Minimum to Average Wage is also used to understand wage inequality among laborers within an organization. In developed economies, Minimum Wages generally range 35 to 60 percent of the Median Wage. In developing economies, the percentage is even higher, indicating higher-level workers are relatively underpaid. Minimum Wage at aggregated levels classified based on regions can also help central authorities to identify lagging states or regions, where the standard of living can be improved and economic backwardness eradicated.

Images Credit: International Labour Organization

Impact on Currency

Minimum Wages changes are often annual and do not have an impact on currency markets as it pertains to a particular section of working-class people. Minimum Wage is a low impact lagging indicator and does not deem any importance in the currency markets.

It is useful for central authorities and vulnerable workgroups to raise their living standards and maintain economic equality. When everyone is treated justly in terms of wages, economic growth is not crippled by exploitation and discrimination.

Economic Reports

In the United States, the Department of Labor enforces the Fair Labor Standards Act (FLSA) and sets the Minimum Wage and overtime pay standards. It is enforced by the Department’s Wage and Hour Division. Annual revisions to the same are made and announced, if any.

Sources of Minimum Wages

  • Minimum Wage details set by the Department of Labor is available here.
  • The OECD also maintains the same as Real Minimum Wages.
  • Consolidated reports of Minimum Wages of most countries can be found on Trading Economics.
  • We can find guidelines on setting the Minimum Wage and various nuances associated with it on ILO.

Minimum Wages Announcement – Impact due to news release

The Minimum Wage is an employees’ base rate of pay for ordinary hours worked. It is dependent on the industrial policies that apply to their employment. Employees cannot be paid less than their Minimum Wage, even if they agree to receive it.

Every year, the work commission reviews the minimum wages received by employees in the national workplace system and then submits it to the government’s labor ministry. Looking at the suggestions mentioned, the government increases the minimum wages for workers of the nation. Minimum wages have little impact on the value of a currency as it does not considerably affect the industrial output and the economy.

The below image shows that the weekly wages were increased for Australian employees in 2020. Although the difference is not huge, it still is a positive step taken for the daily wage workers. Looking at the data, we should not expect significant volatility in the currency pairs during the announcement.

AUD/EUR | Before the announcement

In the above image of the AUD/EUR 1-hour timeframe chart, we try to establish potential trading opportunities. The pair has been ranging for the past three days before June 19th, 2020.

AUD/EUR | After the announcement

The above image highlights the news announcement day. It may seem there was a small uptrend that was built was erased in the second half of the day. An increase in the minimum wages in favor of AUD did not break the trend established a few days earlier. The pair continues its range post the announcement day also.

AUD/USD | Before the announcement

The above image highlights the AUD/USD pair a few days before the news announcement day. No trend has been established as of now.

AUD/USD | After the announcement

The above image highlights the news announcement day, and we see a similar pattern to the AUD/EUR. We see it is in the typical volatility range of the AUD/USD. The news announcement did not help AUD break the previous and post ranging trend here also.

AUD/CHF | Before the announcement

The above image is AUD/CHF pair, and here also, no potential trading opportunities are building up until June 19th, 2020.

AUD/CHF | After the announcement

The above image highlights the news announcement, and we see that the news did not move the currency in favor of AUD. The AUD/CHF continued to stay in the same range as before the news release day.

Overall, in all the three scenarios, we see the minimum wage economic indicator despite coming in favor of AUD; the market impact was negligible. The market is aware that it is a low impact indicator and affects only a specific section of the labor force.

Hence, changes in minimum wages of a country do not translate to its currency volatility, as already confirmed through our fundamental analysis. Moreover, it is a yearly statistic, and the corresponding effects of increased minimum wages will be captured through monthly indicators better.