Attractor States in the Business Cycle… Sluggishness is due to low Labor Share not low Productive Capacity
This post has been updated!
The energy landscape of a network with multiple point attractors.
I just posted about the Silly Confusion over Potential GDP. The main idea of the post is that real GDP made a transition to a new normal level after the crisis. And patterns from past business cycles show that real GDP stays close to this new level. But then two commentators (Axt113 & Mike Meyer) put forth this idea…
“Are you arguing that had we invested in infrastructure to the amount the ASCE had called for, the economy would not be churning along at a much higher level by now?
Seems to me like the lack of such investment was a huge policy mistake that was a detriment to our economic growth.”
In essence, they are saying that we could have escaped that new normal through infrastructure spending. A lot of economists are saying that. Here is my shortened and revised response…
“Real GDP made a smooth transition to a normal level. And once it settled into that level, the business cycle proceeded as normal employing labor and capital along the blue line. That has been the pattern for all business cycles before. The normal pattern is that once the business cycle settles into its level, it tends to stay close to that level.”
I am describing the attractor state of Real GDP. (link about attractor states) The blue line in this graph shows the attractor state…
“I want to call the blue line in the graph above an attractor state for the business cycle. I am not sure that is the best term, but let me go with it here.
You are saying that we could have shifted the real GDP line up above its “attractor state” blue line by infrastructure spending. I am making a case against that view…
According to past patterns, all we would have done is move up the attractor state blue line faster. Real GDP has moved up the blue line faster in the past. We would have employed labor and capital faster along the attractor state line. However, that blue line would not have shifted up. The past patterns show us that the blue line only shifts up at the very end of the business cycle as effective demand puts a profit rate limit on the utilization of labor and capital.
So Yes, real GDP would have risen faster, but we would have hit the effective demand limit faster too. Thus you would have shortened the business cycle.
Now, if increased infrastructure spending would have somehow increased labor’s share, then you would have extended the business cycle as you shortened it. The result would be a less shortened cycle.
However, past patterns show that effective demand also settles into an attractor state. It rarely shifts up during a business cycle.
So in all, I think your idea would have just shortened the business cycle.
Let’s realize that everyone acknowledges that we need to know more about how the business cycle works. And what I present is not found in any books. It is my own personal work. Yet, it shows patterns that repeat.
This next section was updated with corrected numbers…
One thing to add… Currently real GDP is trending toward $21.750 trillion (2009 real $$) at 100% utilization of labor and capital (the limit of the x-axis for the blue line in the graph above). We have been employing labor and capital directly toward that constant level of productive capacity. Other business cycles moved toward lower yet also constant levels. Let me call it an “attractor” productive capacity.
The previous cycle before the crisis had an attractor productive capacity of $18.6 trillion (2009 real $$). The business cycle before the 2001 recession ended up with a productive capacity of $15.8 trillion. So there was a 18% jump in attractor productive capacity between those two business cycles.
The attractor productive capacity before the 1991 recession was $10.6 trillion. After that recession, the economy settled into an attractor productive capacity of $12.5 trillion, an 18% jump. Then the attractor productive capacity rose 26% to a new level during the dot.com bubble.
The current jump from $18.6 to $21.7 trillion is a 17% jump. That is the largest jump since the 1980’s. That is a normal jump for historical data.
So doesn’t it seem to you that the current jump in productive capacity is normal? Well it is…
Productive capacity is not the problem with the economy. Economists continue to think that increasing production with monetary and fiscal stimulus is the answer.
No… the problem is demand… more specifically low effective demand from low labor share. The economy will seem sluggish and under-performing in terms of the utilization of labor and capital. For example, housing is slowing down because the rich are slowing down their purchases, and the middle and lower incomes are not strong enough. The key is to raise labor share.
Yet, labor share is in its own attractor state and will not budge until another recession can allow it to shift. Hopefully it will not shift down. So we will have to make sure it shifts up when that time comes.”
In brief, real GDP is on an acceptable level in terms of productive capacity. Yet, the economy is sluggish in terms of utilizing labor and capital because labor share has fallen so much. Monetary and fiscal policies are limited in their ability to solve this sluggishness. The solution is to institute policies to raise labor share.
Great analysis! What I want to point out is that we are now sitting on a powderkeg of pent-up for the $100 trillion of investment that is required to address the crisis of climate change. The $4 trillion needed to repair USA infrastructure is piddling by comparison.
Here’s just one measure of how massive this new economic boom will be. The total number of operating utility-scale wind turbines in the USA at the end of 2012 was 46,100, according to a American Wind Energy Association fact sheet. But to make all our electricity generation renewable, we need 590,000 wind turbines, or over 12 times as many. (Source: Providing all global energy with wind, water, and solar power, Part I: Technologies, energy resources, quantities and areas of infrastructure, and materials, by Mark Z. Jacobson and Mark A. Delucchi , Table 4, page 1,160.) The number of wind-related jobs in the U.S. at the end of 2013 – including for development, siting, construction, transportation, manufacturing, operations, and services – was 50,500 people. Which means we need another half million people or so trained to operate and maintain multi-megawatt wind turbines. That should give you some idea of the amazingly bright and hopeful future we can promise our children and our grandchildren.
Of course, under the current bankers’ dictatorship of neo-liberalism, this level of spending is politically impossible – at this time. I think that will change radically, and in a radical direction, once we reach the point where human casualties caused by climate change become so great they can no longer be denied.
So, this is the way the neo-liberals have imposed their doctrines: taking advantage of crises and their attendant shocks. We need to have a plan to dramatically shift the share of GDP going to labor, when the time comes for a crash program to build a new world economy based on renewable and clean energies.
http://real-economics.blogspot.com/2014/06/the-best-of-times-worst-of-times.html
Hi Tony,
I see you understand. You see that the economy will grow in its attractor state.
Now we could simply feed the economy with stimulus and tell it to grow anyway and in any sector that it wants. And it will grow on its attractor path.
But we could also direct the economy toward sectors for dealing with climate change. And again, the economy will grow on its attractor path but for a better world in the future.
So it is not a matter of simply feeding the economy, the true understanding is directing the economy for a better world.
Thanks for your input. You raised the ideas to a greater level.
I still question your assertion that the positive effects to aggregate demand, increased employment and upward wage pressures that will result will not increase labor share, instead of having an excess of labor in the market, employers will have to compete for workers and That will shift the labor share up.
AXT113,
In the past, we saw some rises in labor share at the end of business cycles. The situation now is less conducive to labor power.
When real GDP moves up the attractor path, we don’t see the wage pressures you mention. When real GDP starts deviating above the attractor path, we will see wage pressures that the Fed is looking for. But the conditions that start forming a recession will build at the same time.
Up to 1st Q 2014, real GDP is solidly on the attractor path. We see very little upward wage pressures.
Axt113,
Did you see the new graph I added above that shows the shifts in Attractor productive capacity?
Krugman says that output has dropped way below potential. In reality, output is on a normal level path. What has dropped is the utilization of labor and capital. That is a result of labor share falling.
Profit rates have directly benefited at the same time from falling labor share.
Edward,
The last cycle that really had large investments in infrastructure was the post WW2 expansion which lasted.from the 50s to 70s, how did labor share perform during that period compared to now? You can’t compare the last few expansions to what I’m referring to as investment such as in infrastructure during those periods is not really comparable.
Looking at the available data the labor share during that period was much greater than today. I can’t believe that had nothing to do with the greater investment we made in our country.
Axt113,
You bring up an important time period.
Labor share rose a lot during WWII. Then were efforts to control wages after, but there were strikes to maintain labor power.
FRED has data for labor share…
http://research.stlouisfed.org/fred2/graph/?g=ClP
It was high during WWII, then came down and bounced a couple times back upward by 1960, Then labor fell through the 60’s but rose right before the 1970 recession. It has been trending lower since then.
China and other countries are putting pressure on labor share to come down. Some of us are concerned that it will fall again after the next recession.
But for the 20 years after WWII, labor share was high. That allowed for lots of effective demand to reach high levels of utilization of labor and capital. With effective demand so high, investment was encouraged.
The problem is that labor share is currently low. but does labor share impact investment levels in Infrastructure? You would think they are separate. The government could just invest irregardless of where labor share is.
Well, business in general is guided by demand. and even infrastructure is part of the business profit planning. If there was greater potential demand in the economy, we would be seeing more infrastructure investment coordinated with more private investment.
I am not sure your model accounts for the impact of stimulus on labor share. How can it if stimulus is just a vague notion? If you tax people who get more money from their capital than from their labor to pay for the stimulus, you will raise labor share. If you tax labor to pay for stimulus, it won’t be stimulus.
What is the impact if the government “pays” for stimulus by deficit spending (which I think is what people are really thinking)? When it took a lot of labor to create infrastructure that would have increased labor share. Now, I’m not so sure.
Is paying for education spending on infrastructure? I think so. I think it would tend to increase labor share.
HI Arne,
In the past, labor share stayed fairly constant in the aggregate even though it had much more variation in certain sectors. I am interested in the aggregate numbers.
I think it stayed fairly constant in the aggregate because the economy would settle back into its attractor states fairly quickly. Labor share didn’t have enough space to really change a lot. Also, wages have some rigidity.
Now this last crisis was deep. We can see that in the 2nd graph above. Do you see how the utilization of labor and capital fell more than it really needed to in order to get to a 17% increase in the productive capacity? That deep drop scared people. But the economy still ended up back where it needed to be for the next business cycle.
Yet, the business cycle started from a lower point in terms of the x-axis. In other words, as the economy was recovering from the crisis, once real GDP reached the attractor path, it started going up it. That low start gave room for labor share to come down to favor profit rates.
We are still going up the attractor path that we probably would have been on even with a higher labor share or more or less stimulus. It is interesting how you can hardly see the recent real GDP because it is hiding behind the attractor path. That is how tight this pattern is.
These are new thoughts, but they logically follow the pattern above.