High Wages and Technological Innovation: There Is No Alternative

If you want your country to flourish in the modern world, it needs to adopt a high-wage, high-tech model. There is no alternative.

High wages are good for technological innovation and productivity growth. American history is instructive on this point. In the post-war period, American technological innovation and wages rose together in a virtuous cycle. So too in the nineteenth century in which the high-wage, industrially advanced “free labor” North defeated the low-wage (or no-wage), low-tech South. A bit of economic theory can help us understand the relationship between high wages and technological advancement, and why it has been and will continue to be a winning model.

There are two reasons why high wages benefit innovation and productivity. First, high wages can increase productivity by incentivizing employers to invest in labor-saving machinery or software, allowing them to produce the same or more output with fewer or no workers.

Second, high wages expand the home market for manufacturing by increasing the middle class of consumers who can afford products from both domestic and foreign factories. A larger home market benefits both firms in industries characterized by increasing returns and infrastructure enterprises, which benefit from network effects. Growing the home market for high-tech manufacturing and infrastructure firms at the national level by raising wages for most citizens is more effective than trying to merge multiple countries into a single market, a strategy that has failed in the European Union, or by swelling the national population with immigrants who, if they are low-skilled, may depress wages and worker purchasing power while contributing disproportionately to the cost of taxpayer-funded welfare and policing. While some countries like Mexico and China have temporarily used the poverty of their workers to lure foreign investment, and others like China have gained global market share using subsidies, financial manipulation, and other stratagems, the firms that dominate global markets tend to be in populous, relatively high-wage countries like the United States, Germany, and Japan.

If there is to be a post-neoliberal consensus, the target of the high-wage, high-technological innovation economy provides it. And yet, with a few promising exceptions, no mainstream American political party or faction has made the potential virtuous circle of rising wages and technology-driven productivity growth the basis of its economic strategy.

On the Left, the Biden administration combined national industrial policy for a few sectors—such as semiconductors and green energy—with minor pro-union reforms and unprecedented levels of unskilled immigration, which helped reduce post-COVID inflation by suppressing wage growth. On the Right, today’s hybrid Republican Party combines a “Trumpist” policy of reshoring manufacturing through tariffs and tightening up labor markets through border enforcement and deportations with an incompatible “Reaganite” strategy skeptical of unions and other manifestations of worker bargaining power and generally resistant to industrial policy (though notable exceptions continue to mount).

Progressives tend to think of high wages in terms of social justice, disconnected from industrial strategy, while market fundamentalists claim that high wages are obstacles to growth and innovation, which they attribute to the genius of a few superhuman entrepreneurs and financiers. But treating the question of wages in isolation from the question of technological innovation and productivity growth is a fallacy, whether it is done by progressives or conservatives. A rational program for national economic development would be based on the fact that high wages can be both causes and benefits of technological innovation.

When it comes to the relationship between wages and economic growth, the market fundamentalism of right-neoliberals and libertarians rests on three fallacies. The first fallacy is the dogma that wages are automatically and magically determined by an individual worker’s value to the firm. The second fallacy is the assumption that technology’s contribution to the production of goods and services is and will remain static, making it impossible to replace labor with labor-saving technology. The third fallacy is the mistaken idea that economy-wide employment is determined chiefly by prices, including the price of labor, rather than by macroeconomic variables such as aggregate consumer demand, fiscal and monetary policy, the business cycle, and ultimately, by policy.

Combined, these three dogmas lead right-neoliberals and libertarians to argue that a policy to encourage productivity growth through labor-saving technology that raises wages is futile, because sustainable wages are automatically determined by a worker’s productivity; impossible, because technology is fixed and if labor-saving technology could be used the market would have brought that about already; and counterproductive, because any attempt to raise wages in some sectors or all will lead to lasting unemployment.

The fallacy that the productivity of workers automatically sets wages is based on the academic theory of marginal revenue productivity (MRP) of labor. In a defense of welfare payments that compensate for low wages for workers, James Pethokoukis of the American Enterprise Institute invokes the theory: “[E]conomics won’t be ignored. If workers at a big profitable company only generate $10 an hour of revenue, then the company won’t pay them $15 an hour.”

If the marginal contribution of employees to company revenue truly determines wages, there should be no fixed wages at all, only hour-to-hour or minute-to-minute payments. In the era of computers and biological monitors, it should be possible to measure variations in individual productivity continually, so pay would increase after a worker has a cup of coffee or one of Elon Musk’s performance-enhancing drugs and decline along with the worker’s productivity after lunch.

It is true that overall costs cannot exceed overall profits if a company is to remain in business. Unreasonable wages can wreck a company—but so can unreasonable dividends and unreasonable manager and CEO salaries, though libertarians rarely emphasize the latter two dangers to firm profitability.

In the real world, successful firms have sufficient market power to command modest or substantial profits or “rents” in excess of their costs; otherwise, they would go under. In the real world, the division of overall profits among investors, managers, and workers is determined by the relative bargaining power of these three groups, not by abstract “market forces.”

Adam Smith recognized that the division of rents among workers and employers is determined by bargaining power, which is higher on the employer’s side, noting that “the workman may be as necessary to his master as his master is with him; but the necessity is not so immediate.” Another classical liberal economist, J.S. Mill, agreed that wages are set by “what Adam Smith calls the ‘higgling of the market.’” Mill endorsed labor unions as the way to redress the imbalance of bargaining power. One of the founders of neoclassical economics, Alfred Marshall, wrote that an employer:

Acts unfairly if he endeavors to make his profits, not so much by able and energetic management of his business, as by paying for labour at a lower rate than his competitors; if he takes advantage of the necessities of individual workmen and perhaps of their ignorance of what is going on elsewhere; if he screws a little here and a little there; and perhaps in the course of doing this makes it more difficult for other employers in the same trade to go on paying straight-forwardly the full rates. It is this unfairness of bad masters which makes trades unions necessary and gives them their chief force: were there no bad masters, many of the ablest members of trades unions would be glad, not indeed entirely to forgo their organization, but to dispense with those parts of it which are most combative in spirit.

Free market fundamentalists, then, are mistaken to claim that the division of profits among investors, managers, and workers is determined automatically by an individual worker’s productivity, rather than by bargaining among those with claims to some of the profits. Moreover, if shareholders can be represented collectively on a board that defends their interests in negotiations with management, why can’t employees bargain collectively with management as well?

The first claim in the market fundamentalist argument against higher wages for workers—that worker productivity directly determines worker compensation—is false then. So is the second market fundamentalist dogma, the assumption that technology is fixed and static, so that higher wages will only lead to chronic unemployment because they cannot spur firms to respond to higher wages by investing in new or existing labor-saving technologies.

If the unrealistic assumption of static technology is dismissed, then there is nothing in conventional economic theory to contradict the idea that firms may respond to an increase in the price of one factor (labor) by greater reliance on another factor of production (technology). Indeed, the theory of “induced innovation” by firms that seek to control wage costs by replacing some tasks or even entire workers with machinery is as old as modern economics. More than a century ago, Alfred Marshall pointed out that “any change in the distribution of wealth which gives more to the wage receivers and less to the capitalists is likely, other things being equal, to hasten the increase of material production [productivity].”

A 2025 study by economists at the University of Zurich confirms that increases in the minimum wage often lead to “induced innovation.” The study found that a 1% wage increase led to a 2% to 5% increase in the adoption of labor-saving technology, although the effect was higher for low-wage, routine jobs than for highly skilled jobs. Many other studies have reached the same conclusion, including a 2018 study by scholars at the London School of Economics, which found that “increasing the minimum wage decreases significantly the share of automatable employment held by low-skilled workers…”

The history of the United States and other countries confirms that the relationship between technological innovation and wages goes both ways. Technology-enabled productivity growth can lead to higher wages, but in some cases, higher wages can lead to higher technology-enabled productivity growth.

The “Habakkuk thesis,” named for the British historian Sir John Habakkuk, holds that the relative abundance of land and the relative scarcity of labor in the nineteenth-century United States led to high wages by international standards, which in turn encouraged the growth of American manufacturing. Reviewing the historical evidence for the Habakkuk thesis, the MIT economist Daron Acemoglu recently concluded that “labor scarcity encourages technological advances if technology is strongly labor saving and will discourage them if technology is strongly labor complementary.”

One natural experiment in wage-induced technological innovation and productivity growth was the restriction of mass immigration to the United States between World War I and the 1970s. Between the 1880s and the 1920s, under pressure both by Anglo-Protestant nativists and racists, but also by many union activists and black Americans harmed by immigrant competition, Congress radically reduced European immigration, Asian immigration having been cut off earlier. Levels of immigration remained low until the Immigration and Nationality Act of 1965, after which it rapidly expanded, thanks to an unanticipated influx of immigrants under the law’s family reunification provision and to massive illegal immigration. During the mid-twentieth century era of lower levels of immigration, the U.S. economy was practically autarkic, with trade accounting for only a small portion of GDP.

It is no coincidence that during this era of low trade and immigration, high membership in labor unions, peaking in the 1950s at a third of the private sector workforce, along with tight labor markets in anti-union states, led to dramatic wage increases. Unable to draw on a never-ending flood of desperate immigrants willing to work for poverty wages in order to replace American workers, and unable before the end of the Cold War to offshore many jobs to low-wage foreign workforces, American business from the 1920s until the late twentieth century was forced to respond to high labor costs in part by adopting revolutionary technological innovations, which drove down the costs of manufactured goods and food.

The differing historical paths of the free labor, higher-wage North and the unfree, lower-wage South provide the most striking historical confirmation for the thesis that high wages can stimulate technological progress, while low wages can retard it. Edwin Stanton, Secretary of War in the Lincoln administration, attributed the Union’s advantage in the Civil War in part to the high-wage, free labor North’s adoption of a labor-saving technological innovation, the McCormick reaper:

The reaper is to the North what slavery is to the South. By taking the place of regiments of young men in western harvest fields, it released them to do battle for the Union at the front and at the same time kept up the supply of bread for the nation and the nation’s armies. Thus, without McCormick’s invention I feel the North could not win and the Union would have been dismembered.

Following the Civil War, the South was trapped in a low-productivity, low-wage equilibrium because the Southern oligarchy, deprived of slave labor, experimented with a variety of other systems to minimum the ability of nominally free workers of all races to bargain for higher wages, systems like child labor, share-cropping, debt tenancy, and the convict-lease system. At the same time, like the elites of many of today’s third world countries, Southern political and business leaders sought to use the poverty and powerlessness of the region’s workforce to lure Northern factories and investment.

Then, even before the Civil Rights Revolution of the 1950s and 1960s, federal intervention accelerated the long-overdue mechanization of Southern agriculture, as well as the South’s industrialization and urbanization. The federal minimum wage incentivized large landowners to replace tenant farmers and hire labor with farm equipment operated by a small number of workers. Meanwhile, federal agriculture subsidies and investments in rural electric infrastructure and highways, although intended to help small farmers, also accelerated large-scale agricultural mechanization. As a result of these government wage and industrial policies, much of the Old South turned into the dynamic Sun Belt. As the economic historian Gavin Wright points out:

The modern period of economic convergence for the South only began in earnest when the institutional foundations of its regional labor market were undermined, largely by federal farm and labor legislation dating from the 1930s. Ironically, the resurgence of the South came in the wake of policies which threatened to cripple the region’s industrialization, by forcing up labor costs in low-wage sectors.

Recent history provides other examples of wage-induced technological innovation. After California raised its minimum wage, the Chipotle restaurant chain invested in labor-saving robot technology, beginning with two California locations. According to a news report, “The ‘autocado’ can peel, stone and cut an avocado for guacamole in 26 seconds. Meanwhile, a ‘digital makeline’ portions up salads and bowls based on orders on the app.”

While unions, by putting upward pressure on wages, may encourage automation, individual workers in particular unions and particular trades may suffer from the transition. The desire to reduce labor costs in unionized occupations, such as those of dockworkers and typesetters, accelerated the adoption of innovative technology.

But falling employment in mechanized or automated sectors has typically been accompanied by the creation of new jobs, mostly in services that cannot be automated in the near future or perhaps at all, and which cannot be offshored, such as home and personal health care aides and nurses, as well as location-based skilled trades and infrastructure jobs such as electricians, plumbers, HVAC technicians, carpenters, and the like. Rejecting a Luddite strategy of defending employment in technologically obsolescent industries, the real friends of labor would favor unionizing and raising wages in growing sectors within a bounded market, in which employers lack the ability to replace workers with technology or foreign workers or send jobs overseas.

It is not necessarily true that technological innovation will inevitably lead to a reduction in a nation’s share of manufacturing jobs. The effect of technology on jobs depends in part on demand for the goods or services that the technology produces. If demand is fixed and technology allows one worker with the aid of new technology to produce the output formerly produced by three workers, then the labor force in that industry may be downsized by two-thirds. However, if, due to productivity-driven price declines in goods or services, population growth, or expansion in foreign markets, demand increases by a factor of three, then the number of workers can remain the same while output is tripled. In a world where the rising middle class in Asia and Africa is expected to vastly expand consumer demand for manufactured goods, with the help of advanced technology that complements labor, developed nations with the right policies may be able to maintain or even increase manufacturing as a share of national employment.

The third fallacy of market fundamentalists is the notion that higher wages in particular sectors will result in permanently lower employment. This dogma overlooks other factors that influence overall employment levels.

Ever since John Maynard Keynes coined the term “technological unemployment” in his 1930 essay “Economic Possibilities For Our Grandchildren,” there have been periodic fears that robots or computers will replace jobs, leading to a shortage of new employment opportunities. However, since the industrial era began in the 1800s, large-scale financial panics and depressions, including the Great Depression of the 1930s and the Great Recession of the 2010s, have been caused by financial panics that led to the collapse of aggregate demand, not by technological unemployment. New jobs have replaced old jobs destroyed by technological innovation, some of them enabled by new technology, without lasting increases in overall unemployment. As the economist David Autor and his colleagues point out in a recent study, in 2018, 60% of workers were employed in jobs that had not even existed in 1940.

As the report of the Johnson administration’s National Commission on Technology, Automation, and Economic Progress in 1966 concluded: “Technological change…has been a major factor in the displacement and temporary unemployment of particular workers…But the general level of demand for goods and services is by far the most important factor determining how many are affected, how long they stay unemployed, and how hard it is for new entrants to the labor market to find jobs. The basic fact is that technology eliminates jobs, not work.”

TINA was the acronym used to summarize Margaret Thatcher’s view that “there is no alternative” to market fundamentalism if a country is to prosper. Thatcher was wrong about libertarianism. But the acronym does apply to the high-wage, high-tech (HWHT) economy: HWHT—TINA. Far from being a contradiction in terms, a high-wage, high-tech economy in which wage-induced innovation is one of several sources of technological progress is the only strategy for national success in today’s world—and has been for generations. It is the alternatives that do not work. Romantics on the Left who favor “degrowth” and high wages are confused. So are market fundamentalists on the Right who claim to be for technological innovation but against high wages and high worker bargaining power. Apart from China, a totalitarian state that carried out crash industrialization by combining unfree sweatshop labor with state-subsidized manufacturing, no country has ever become or remained a technological leader by driving down the wages and living standards of its citizens. And China is discovering now what other nations, like Korea in the second half of the twentieth century, have already learned: such a strategy is not sustainable and eventually burns itself out.