Inefficiency and Full Employment
While microeconomists often assume our economy operates near the production possibility frontier, they also concede that inefficiencies may exist even during periods of full employment. James Tobin often noted: “It takes a lot of Harberger triangles to fill one Okun’s gap”, which was his way of suggesting that the deadweight losses from recessions are often much larger than the deadweight losses that microeconomists worry about.
In his critique of a bizarre argument from BusinessWeek, Kevin Drum reminds me of the wit and wisdom of the late James Tobin. First, the bizarre claim from BusinessWeek:
For years, everyone from politicians on both sides of the aisle to corporate execs to your Aunt Tilly have justifiably bemoaned American health care – the out-of-control costs, the vast inefficiencies, the lack of access, and the often inexplicable blunders. But the very real problems with the health-care system mask a simple fact: Without it the nation’s labor market would be in a deep coma. Since 2001, 1.7 million new jobs have been added in the health-care sector, which includes related industries such as pharmaceuticals and health insurance. Meanwhile, the number of private-sector jobs outside of health care is no higher than it was five years ago … What they’re waking up to is the true underpinnings of the much vaunted American job machine. The U.S. unemployment rate is 4.7%, compared with 8.2% and 8.9%, respectively, in Germany and France. But the health-care systems of those two countries added very few jobs from 1997 to 2004, according to new data from the Organization for Economic Cooperation & Development, while U.S. hospitals and physician offices never stopped growing. Take away health-care hiring in the U.S., and quicker than you can say cardiac bypass, the U.S. unemployment rate would be 1 to 2 percentage points higher … John Maynard Keynes would nod approvingly if he were alive. Seventy years ago, the elegant British economist proposed that in tough times the government could and should spend large sums of money to create jobs and stimulate growth. His theories are out of fashion, but substitute “health care” for “government,” and that’s exactly what is happening today.
Kevin shakes his head and then comes up with a very reasonable reply:
I’m not sure what to think about this. In one sense it’s just statistical trickery: at any period in American history, if you remove the single fastest growing industry from the picture then the rest of the economy is going to look pretty anemic. In fact, that’s true of nearly any statistical analysis: remove the highest scorers or the highest earners or the highest anything else, and by definition, what’s left over looks a lot gloomier. On the other hand, deliberately running an entire industry less efficiently than the rest of the world is a helluva thin reed on which to base an economy. As Anderson says, since taxpayers are the ones footing the bill for healthcare in other countries, they’re more willing to pay for technologies that cut costs. In America, doctors bear the burden of adopting IT enhancements but don’t make any money from them (they might make less, in fact), so they’re pretty unmotivated to bother with the whole thing. The fact that this inefficiency means we employs a lot more people than we would if we had a rationally run system is hardly a great rallying cry for the status quo. A national healthcare system, besides being tremendously beneficial for the actual consumers of healthcare, would also align the market incentives more reasonably and reduce costs considerably. I’m willing to take the risk that we’ll somehow figure out what to do with all the jobs and money we save along the way.
I have two reactions to this bizarre argument from BusinessWeek. One is to suggest that increasing employment is not necessarily a sign of inefficiency. After all, a rational health care system would provide more and better healthcare services to more individuals – albeit at a lower price per treatment. The other reaction goes to the main theme here by reminding BusinessWeek that John Maynard Keynes would hardly “nod approvingly” at using inefficiency to restore full employment.
Keynes did note the Fable of the Bees
Although apparently often treated as a defense of laissez- faire – “Thus every Part was full of Vice/Yet the whole Mass a Paradice” – the Fable can also be seen as a presentation of early underconsumption theory. Anticipating Keynes’s paradox of thrift, Mandeville argued that the “moral” activity of saving was actually the cause of recessions whereas luxurious consumption (a “vice”) was a stimulus. Indeed, Mandeville argued for government intervention, including the Mercantilist policy of protection to promote internal consumption
Keynes also made a concession to gold bugs with the following argument:
It is curious how common sense, wriggling for an escape from absurd conclusions, has been apt to reach a preference for wholly “wasteful” forms of loan expenditure rather than for partly wasteful forms, which, because they are not wholly wasteful, tend to be judged on strict “business” principles. For example, unemployment relief financed by loans is more readily accepted than the financing of improvements at a charge below the current rate of interest; whilst the form of digging holes in the ground known as gold-mining, which not only adds nothing whatever to the real wealth of the world but involves the disutility of labour, is the most acceptable of all solutions. If the Treasury were to fill old bottles with banknotes, bury them at suitable depths in disused coalmines which are then filled up to the surface with town rubbish, and leave it to private enterprise on well-tried principles of laissez-faire to dig the notes up again (the right to do so being obtained, of course, by tendering for leases of the note-bearing territory), there need be no more unemployment and, with the help of the repercussions, the real income of the community, and its capital wealth also, would probably become a good deal greater than it actually is. It would, indeed, be more sensible to build houses and the like; but if there are political and practical difficulties in the way of this, the above would be better than nothing.
The BusinessWeek argument assumes away the ability of the government to find a more rational means for achieving full employment that the creation of wasteful activities. Such an argument has also been used to justify initiating wars to restore full employment. Six years ago, I would have suggested our Federal government was better than that. Alas, the current Administration may be proving BusinessWeek to be more correct.