By faith, Mr. Krugman seeing the light… More evidence labor share critical to trade deficits…

Edward Lambert | December 3, 2013 11:26 am

US/Global Economics

I watch the transformation of Paul Krugman to understand the key importance of labor share. But first, let’s start with Till Van Treeck, who writes an article titled… U.S. Current Account Deficits and German Surpluses: The Role of Income Distribution in Global Imbalances. He presents evidence that labor share and inequality are creating a large part of the US Current account deficit and the surplus of the German and Chinese Current accounts.

Mr. Van Treeck writes…

“On the other hand, the weak domestic demand and increasing current account balances of Germany and China since the mid-1990s are strongly related to shifts in the functional income distribution at the expense of the household sector.”

One must wonder why Paul Krugman never writes about labor share when he is supposed to be an expert on international economics. Anyway, the article continues…

“We find that, firstly, rising (top-end) personal inequality leads to a decrease of household net lending and the current account, controlling for a standard set of further explanatory variables.”

“In sum, the decline of wages and household income relative to profits has weakened domestic demand implying an export-oriented growth model.”

This news is not new. Michael Pettis has been writing about labor share’s effect on trade imbalances. But it is interesting to watch Paul Krugman on this issue. Just a week or so ago, he wrote that monetary policy should “watch” a rise in wages to know when to tighten.

“So it makes no sense at all to tighten until we see wage inflation rise, not just from its current level, but several points higher.”

Then he seemed to realize that wages are stuck and won’t rise like they have in past. His advice would ultimately be dangerous by making monetary policy wait for a sign that would never come. Monetary policy would stay aggressive way beyond a wise level waiting for wages to rise.

He must realize that low bargaining power, high unemployment and international competition will continue to lower wages. Wages are still falling in Japan, in spite of Abenomics. Wages are simply not going to rise in this economic climate without political effort. So then Mr. Krugman wrote an article called… Better Pay Now. In it he says…

“Still, even if international competition isn’t an issue, can we really help workers simply by legislating a higher wage? Doesn’t that violate the law of supply and demand? Won’t the market gods smite us with their invisible hand? The answer is that we havea lot of evidence on what happens when you raise the minimum wage. And the evidence is overwhelmingly positive: hiking the minimum wage has little or no adverse effect on employment, while significantly increasing workers’ earnings.”

Paul Krugman has come a long way since 1998 when he undermined the living wage efforts by writing…

“In short, what the living wage is really about is not living standards, or even economics, but morality. Its advocates are basically opposed to the idea that wages are a market price–determined by supply and demand, the same as the price of apples or coal. And it is for that reason, rather than the practical details, that the broader political movement of which the demand for a living wage is the leading edge is ultimately doomed to failure: For the amorality of the market economy is part of its essence, and cannot be legislated away.”

The evidence is reaching Mr. Krugman after all these years. He is seeing little by little beyond the secular stagnation created from market forces setting wages according to “supply and demand”. He is seeing that raising wages closer to a living wage is good economics. He is seeing that legislation really is needed, as he wrote…

“An increase in the minimum wage, on the other hand, just might happen, thanks to overwhelming public support. This support doesn’t come just from Democrats or even independents; strong majorities of Republicans (57 percent) and self-identified conservatives (59 percent) favor an increase.

“In short, raising the minimum wage would help many Americans, and might actually be politically possible. Let’s give it a try.”

In 1998, Mr. Krugman wrote that the amorality of the market cannot be legislated away, and now he is pleading for legislation to do just that. Maybe too little too late from one of our greatest economists.

I am simply waiting for Mr. Krugman to start using the term “labor share” directly. Low labor share is essential to the problems in the US and Japan. It is a piece to his puzzle he has never formally recognized. Yet, the evidence is building around him.