New View of Effective Demand to challenge Top Economists

3rd quarter Non-farm Business Sector Labor Share data came out today… 97.34 (2009 = 100)

Think of labor share as real unit labor costs, since unit labor costs = labor share * inflation. (link) Labor share is much lower than it was in 2009.

The basic measure that I use for the effective demand limit is the quarterly UT index.

UT index = Effective labor share РTFUR

Effective labor share = Non-farm Business labor share index * 0.765

TFUR = (capacity utilization * (1 – unemployment rate))

The UT index will stay positive because the TFUR does not want to go higher than the effective labor share. Many “top” economists do not believe (or better said, cannot see) that this equation will hold, to name a few, Nick Rowe, Mark Thoma, Dean Baker. However, the UT index has held steady just in positive territory going on one year now. (link to FRED graph)

update UT index

If labor share (real unit labor costs) starts to rise, then there is more room for unemployment to drop. However, if labor share stays steady, unemployment will fall as capacity utilization falls. Spare capacity is becoming a zero sum game. What you gain in employment is taken away from capacity utilization.

Basically, the economy is very near full employment, which is the natural level of output.

If the UT index eventually drops well into negative territory… well then those “top” economists were right. But so far after 4 quarters, the UT index is showing that just possibly there is something that they do not understand.

That something is a way to determine the limits of a business cycle using labor share. No small potatoes that…

Just possibly this new view of effective demand is scratching the surface to a new understanding of spare capacity, potential GDP, the natural rate of unemployment, limitations of monetary policy and more. …

Time will tell… and Time will decide who is right.