A Microeconomic Defence of Trade Unions

I recently had a discussion on Facebook about the value of trade unions. Two people in the discussion could not see that they had any value to the economy, one going so far as to suggest that they even made their members poorer. This post is a theoretical defence of the value of trade unions to a country’s whole economy.

In a free market, an employer and an employee freely enter into a contract for services. The employee is paid in cash (and possibly other things) in exchange for their labour. Since both parties freely enter into the contract, we can assume that both parties are happy with the exchange: both are happier with what they receive than with what they have to give up in exchange for it.

Different Contract Terms are Possible

If you understand what the zone of possible agreement is for a transaction, you can skip the next paragraph.

Of course, the employees would like to be paid more without doing any more work, and the employers would like more labour without having to pay anything more for it. This is simply utility maximisation by both parties, and it should not be condemned by itself. Both parties would prefer salaries (and working arrangements) to be different, but both are disciplined by the wider market. However, as long as both parties are willingly in the contract, then they are in their zone of possible agreement. The important point to remember is that there is a range of compensations and working conditions that would be good enough for both parties. The terms of their contract right now are not the only possible terms both parties would agree to.

Trade Unions Concentrate Labour’s Negotiating Power

We all know that monopolies are a bad thing. In a market, both buyers and sellers will trade on terms within the zone of possible agreement. The “point” in that zone that they decide to trade at though, is heavily influenced by market concentration. If there are fewer buyers than sellers, then the buyers will be able to demand a better price than if there were more buyers than sellers. This can happen even without active collusion between them.

By requiring employers to negotiate with unions rather than with individual employees, unions effectively concentrate labour’s negotiating power. When a union can accept or reject a contract on behalf of a large number of workers, those workers should get better conditions than if they had negotiated individually. This does not require the union to force employers to agree to their terms: employers are also free to accept or reject contracts as they please.

The end result of this should be that, for identical industries, employees should receive more compensation if unions are present than if they are not. The economic benefit of the industry is the same, but more of that benefit is captured by employees, rather than by the owners of the employing companies.

Additional Money is Best Given to Poorer People

An economically distinguishing feature of poorer people is that they have a higher marginal propensity to consume. That is, they will  spend more of any additional money they earn than richer people. The richer you are, the more likely you are to simply save any additional money you receive. After all, you have probably already satisfied your most urgent needs. On the other hand, if you are poor, you may want to buy some item or service, but not yet be able to afford it. When new money comes your way, you already know what to spend it on.

So if we assume that an industry generates £10 M a year of economic benefit, who would we rather that money goes to? If it goes to the owners of the firms, who may be richer than the employees, it is more likely to be saved. If it goes instead to the employees of the firm, who are probably poorer, then more of it will be spent again soon, doing more useful economic work.  The whole country’s economy is probably better off if more of an industry’s benefits are channelled to employees. The additional trade this will cause will lift GDP.

This is Theory

I think the arguments above have some merit, but they are not the only arguments to be made. This post is just an attempt to show that the arguments around trade unions are not one-sided. Of course, real data, not theories, should have the final word.

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