Wage-led versus profit-led demand regimes: the long and the short of it

Abstract

Empirical studies have found mixed results regarding whether various countries have wage-led or profit-led demand regimes based on a variety of econometric methodologies. However, most of the previous literature has paid too little attention to the time dimension of this distinction. This paper argues that demand is more likely to be profit led (or, at least, more weakly wage led) in the short run and more likely to be wage led (or more strongly wage led) in the long run, because the positive effects of higher profits (lower labor costs) on investment and net exports are likely to be strongest in the short run, while the positive effects of a higher wage share on consumption are if anything likely to be stronger in the long run. In fact, most of the studies that have found profit-led results (especially for the US) have used methodologies that (either intentionally or unintentionally) emphasize short-run cyclical relationships. An examination of correlations in the raw data for the US economy over different time horizons illustrates the plausibility of output and growth being profit led in the short run and wage led in the long run.