Incomes Policy - Theory

Theory

Incomes policies vary from "voluntary" wage and price guidelines to mandatory controls like price/wage freezes. One variant is "tax-based incomes policies" (TIPs), where a government fee is imposed on those firms that raise prices and/or wages more than the controls allow.

Some economists agree that a credible incomes policy would help prevent inflation. However, this would have other effects. By arbitrarily interfering with price signals, they provide an additional bar to achieving economic efficiency, potentially leading to shortages and declines in the quality of goods on the market, while requiring large government bureaucracies for their enforcement. This is what happened in the United States during the early 1970s. When the price of a good is lowered artificially, it creates less supply and more demand for the product, thereby creating shortages.

Some economists argue that incomes policies are less expensive (more efficient) than recessions as a way of fighting inflation, at least for mild inflation. Yet others argue that controls and mild recessions can be complementary solutions for relatively mild inflation.

The policy has the best chance of being credible and effective for those sectors of the economy dominated by monopolies or oligopolies, particularly nationalised industry, with a significant sector of workers organized in labor unions. These institutions enable collective negotiation and monitoring of the wage and price agreements.

Other economists argue that inflation is essentially a monetary phenomenon, and the only way to deal with it is by controlling the money supply, either directly or by means of interest rates. They argue that price inflation is only a symptom of previous monetary inflation caused by central bank money creation. This view holds that without a totally planned economy the incomes policy can never work, because the excess money in the economy will greatly distort areas which the incomes policy does not cover.