Public-private sector pay differentials in a devolved Scotland



296


Journal of Applied Economics

other UK studies. Differences between the market rate and earnings in the public
sector will also raise the question whether it is in the interest of Scotland to remove
any wage premium if granted the necessary autonomy. This is of particular
importance given that Scotland finds it ever more challenging to compete for
skilled employees in a buoyant British labour market and circumvent out-migration
to other parts of the UK.

In general, understanding potential wage differentials between the public and
private sector presumes an understanding of the pay determination. The economic
literature on public-private sector wage differentials offers various theoretical
explications for the existence of wage premiums both in the public and private
sector, reviewed comprehensively in Bender (1998) and Gregory and Borland (1999).

The fundamental and most widely used explanation has been that wage
determination in the public sector is subject to an ultimate political constraint
whereas the private sector is characterised by a profit constraint. For example,
public sector employees do not only produce goods and services but also engage
in vote-producing activities, which may justify higher pay (Gunderson 1979).

Furthermore, trade unions may exhibit more freedom to bargain as public sector
services are essential and labour demand is, therefore, rather inelastic.
Unsurprisingly, union membership density across many developed countries is
much higher in the public sector compared with the private sector (Gregory and
Borland 1999). This is also the case, for instance, in the UK, where unions in the
private sector lost ground in the 1980s but remained relatively strong in the public
sector.

On the other hand, it is not clear a priori why public sector employees should
enjoy higher wages despite the above explanations. As Gregory (1990) argues,
employees in the public sector may enjoy fringe benefits such as longer holidays,
greater job satisfaction or superior pension schemes compared with private sector
employees. Hence, wages for similar employees in comparable jobs should be
lower in the public sector. Since these fringe benefits are rarely observed in empirical
studies they may lead to an observed private sector wage premium which in fact is
just a compensation for the lack of fringe benefits.

The validity of theories, however, depends very much on the economic,
institutional and political environment. Elliott et al. (1999) list several possible
dimensions through which wage setting in both public and private sector may be
affected, such as changes in the product market environment, pressure to contain
production costs, new production technologies, changes in the role of unions and
political pressure to decrease public spending.



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