MySay: Critical need for realignment of demand and supply of labour

This article first appeared in Forum, The Edge Malaysia Weekly, on April 26, 2021 - May 02, 2021.
MySay: Critical need for realignment of demand and supply of labour
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There is growing concern in the recent Malaysian labour market debate on the structural issues relating to low wage levels, the incidence of educational mismatch among graduates and over-reliance on foreign workers. These are among the issues that received considerable attention because they imply inefficiencies in allocating resources and are interlinked to other economic outcomes such as income inequality, productivity and poverty.

In economics, labour is the supply-side variable determined by the level and composition of demand-side variables such as exports and investment. For example, it is common for any country to experience an increase in demand for low-skilled workers when it concentrates production on the exports of low-value-added products.

In the labour market, households supply labour and employers (economic sectors) determine the demand for labour. The size and composition of labour supply are determined by learning institutions, including schools, technical and vocational education training (TVET) and higher learning institutions. Labour is combined with other production input (capital, raw materials and services) to produce output.

The level and composition of output produced by economic sectors are influenced by the size and growth of production output, which is essentially final goods and services. Final goods and services are consumed by final demand sectors, consisting of household, government, investment and exports (foreign demand).

Thus, it is essential for policymakers to blend both the demand and supply sides of the economy in labour market planning. On the one hand, policy intervention to promote economic growth via exports and investment, directly and indirectly, affects the labour demand.

For example, the promotion of investment incentives by relaxing some conditions (for example, composition of local and skilled workers) may lead to a decrease in demand for skilled workers by multinational firms. On the other hand, the size and composition of labour supply produced by the learning institutions must be guided by the economic sectors’ current and future demand.

The reality is different. Demand and supply of labour are likely to move in different directions. To put it in context, let us present the case of misalignment of graduate employment.

Chart 1 tabulates graduate mismatch incidence for the period 2000 to 2020 (data for 2020 is estimated). The graduate mismatch applied in this article is based on the qualification mismatch that focuses on the mismatch in the form of overeducation, that is, it measures the number of graduates working in semi- and low-skilled occupations. An ideal situation is one in which graduates occupy skilled positions, which are usually in the professionals, managers, executives and technicians (PMET) sector.

According to Chart 1, the size of graduate mismatch rose 12% a year from 2000 to 2020, exceeding the average growth of total employment of 7% a year — or, on average, one in three graduates working in non-graduate jobs (non-PMET). Chart 1 describes the perspective of the supply side.

Now, let us observe the perspective of the demand side. Chart 2 summarises three remarkable observations regarding the structure of labour demand. First, the maximum capacity of the Malaysian economy to generate employment is 258,000 to 326,000 a year. This capacity takes into account the average of the past 30 years.

Second, in the past 10 years, the capacity of employment generation rose because of the increase in labour utilisation in the production of output. This can be verified by referring to the magnitude of employment elasticity-to-GDP, which rose from 0.52 for the period of 1991 to 2005 to 0.67 for the period of 2006 to 2020. The higher (or lower) the magnitude of the elasticity, the larger (or smaller) the number of employment required in the production.

Third, the economy generated more jobs for semi- and low-skilled workers, with an average of 61% versus 39% for skilled workers.

Altogether, the insufficient demand for skilled jobs leads to the incidence of mismatch (when the supply of graduates exceeds the demand). It is common that when the economy moves towards labour-intensive production (higher reliance on labour input), the demand or number of jobs generated for skilled workers is limited.

Next, let us take a deep dive into the sources of graduate mismatch by measuring the skill content in final demand, provided at the bottom-left hand side of Chart 2. It decomposes the skilled and semi- and low-skilled workers required to produce output for the consumption of final demands.

About one-fourth of total jobs generated by private consumption, gross capital formation (investment) and exports are for skilled jobs. Public consumption is the only final demand component that shows the highest skilled generation, at 47%, but the size of public consumption is relatively smaller, at 10% of total final demand.

These observations verify that our investment and exports are concentrated on relatively lower-value-added activities, which in turn benefit more semi- and low-skilled workers.

About two-thirds of household income are generated from paid employment; as such, reducing the demand-supply gap would promote equality in income and welfare. Reducing this gap among workers in the labour market, however, is a structural issue that requires long-term realignment measures.

For example, demand-side interventions to change the export structure towards high-value-added content calls for more trade orientations with developed countries. Changing the trade patterns takes years to be effective.

More importantly, realignment measures should not take place at the expense of reducing the competitiveness, efficiency and productivity of the country. For example, policy interventions to reduce foreign worker dependency through automation should be implemented gradually, sectorally and occupationally to ensure the relevant sectors and entire supply chains of the economy are not distorted by the measures.

In the current Malaysian production structure, foreign workers are complemented by local workers in some sectors (mostly in manufacturing and construction) while these two worker categories are found to substituted in some sectors (mostly in services).

While the number of school leavers and graduates needs to be realigned with demand, the policy alignments should not limit educational institutions in producing “supply-induced talents” that could help the nation transform from traditional and low-productive to modern and high-productive occupations.

Associate Professor Dr Mohd Yusof Saari is chief economist at the EIS-UPMCS Centre for Future Labour Market Studies (EU-ERA) at Socso

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