The non‐monotonic effect of real wages on labour productivity

Abstract

PurposeThe aim of this study is to empirically investigate the effect of real wages on labour productivity in Malaysia's manufacturing sector using annual data from 1980 to 2009.Design/methodology/approachThis study uses the Johansen cointegration test to examine the presence of long‐run equilibrium relationship between labour productivity and real wages in Malaysia. In addition, the Granger causality test within the vector error‐correction model (VECM) is used to ascertain the direction of causality between the variables of interest.FindingsThe Johansen test suggests that real wages and labour productivity are cointegrated. Moreover, labour productivity and real wages have a quadratic relationship (i.e. inverted U‐shaped curve) instead of linear relationship. Hence, the effect of real wages on labour productivity is non‐monotonic. Furthermore, the Granger causality test indicates that real wages and labour productivity are bilateral causality in nature.Research limitations/implicationsThis study is limited to the labour productivity in the manufacturing sector only.Originality/valueThis study demonstrates that the effect of real wages on labour productivity is non‐monotonic; hence increase in real wages alone does not always enhance labour productivity. Thus, other incentives should be offered to stimulate long‐term labour productivity growth in Malaysia.