The Economics of Foreign Talent / Workers

This post was first written by Aaron Ng, who posed a really difficult question: whether immigration of skilled workers (talent) lowered the wages of native skilled workers. The same question could also be asked for unskilled workers, whether the influx of unskilled workers depressed the wages of the low-skill, low-income groups.

As we know, immigration is a hot-potato issue that has burnt the fingers of politicians every where from US, Europe to Singapore. The use of economic models are not particularly instructive here because different model settings provide dramatically different answers. At the risk of losing some readers, it is actually a good exercise to try to acquaint with some basic (and not so basic) economic concepts that can help us understand the labour market impact of immigration.

Neoclassical Theories

First, let's try to answer this question with neoclassical theories. By this, we are saying that markets are competitive, work without frictions and in addition, absent of any non-tradable goods. In this setting, all workers are paid the marginal value of the product they are producing.

In a small open economy like Singapore, a large part of what we produce are traded internationally. The influx of workers regardless of types will have no impact on wages (this may come as a surprise to non-economists). The logic is elegantly simple in fact. If more skilled workers enter Singapore, the economy shifts towards the production of goods with more skill content. If more unskilled workers enter Singapore, the economy shifts towards low skilled goods. Since the final prices of goods determine wages, and that Singapore has no influence on these prices internationally, wages are completely unaffected by whichever goods Singapore produces. Immigration has no impact on native wages (this was actually a final year exam question at the LSE recently, the famous Rybczynski Theorem).

For a large country, the effects can be dramatically different since which sector that country specialises in will obviously change international prices or terms of trade. The downward pressure on blue-collar wages here could have nothing to do with immigration. Rather, it is probably because a large producer (like China) has entered that market thereby lowering prices and wages (think electronics) everywhere. Conversely, whatever China demands, prices go up. Mining, pretty much a blue-collar type of industry, is doing really well in Australia precisely because of this China effect.

Depart from the neoclassical setting however, the effects of immigration can be completely different or even messy. Suppose not all goods produced are tradable internationally. There are some goods or services that are inherently non-tradable (think Balassa-Samuelson). If cheap foreign labour enters these non internationally traded markets, price will fall, and so will wages there. Similarly, if a segment of the economy has been protected from foreign competition, the natives there will be earning economic rent. The influx of foreign talent or firms into that sector will obviously reduce that rent and incomes of natives there (think lawyers, doctors etc). These groups surely would resist letting foreign talent or firms into their sector.

Bargaining Power

Lucky Tan suggests that the availability of foreign workers have made firms reluctant to hire native Singaporeans, depressing their wages. Again, this is entirely rationalisable economically. For example, the search and matching class of models (pioneered by a LSE professor Pissarides) tells us just that. When workers and firms meet, both sides have to agree on the wage rate before they enter into a productive relationship. Relative bargaining power will then determine how this economic surplus is split. Reducing workers' bargaining power, which presumably the availability of foreign worker does, will lead to lower wages.

Let me be quick to add that the rise of various emerging economies have also reduced Singapore's bargaining power. Transnational capital, footloose by definition, goes where returns is highest. Before China and India, Singapore was one of the few investment friendly places in Asia. The game has changed dramatically since. In the US for example, labour's share of GDP has fallen in recent years while capital's share has risen. Many commentators are quick to attribute the erosion of labour's bargining power to globalisation.

New Economic Geography

Let me finish this post with a positive spin - immigration can actually increase wages of natives. This is in fact a key prediction of new economic geography models. Firms (under suitable assumptions) have incentives to cluster and agglomerate, and immigration can be part of this agglomeration process. And where they do concentrate, they drive up productivity through various mechanisms. Because of the positive externality that they derive from clustering at certain locations, no firm then have an incentive to leave since they become far less productive elsewhere. When that happens, the location becomes sticky, commanding higher rent and wages. My favourite example is London obviously.

Two Handed Economist

President Harry S. Truman once said in exasperation that he wanted an economist who was one-handed because his economic advisors would typically give him economic advice stating, "On the one hand….And on the other...." This is even more true when it comes to the economic effects of immigration as different economic settings give rather different conclusions. But being a two-handed economist is no bad thing here. It is a sign of intellectual humility to recognise the complexities of the world and not make one-dimensional arguments.