The Iatrogenic and Incoherent “Theory” of Flexibility
In its report on “The long-term decline in prime-age male labor force participation,” President Obama’s Council of Economic Advisers writes:
Conventional economic theory posits that more ‘flexible’ labor markets—where it is easier to hire and fire workers—facilitate matches between employers and individuals who want to work. Yet despite having among the most flexible labor markets in the OECD—with low levels of labor market regulation and employment protections, a low minimum cost of labor, and low rates of collective bargaining coverage—the United States has one of the lowest prime-age male labor force participation rates of OECD member countries.
Although it has indeed become conventional, the ‘flexible’ labor markets mantra is not a theory. It is dogma. An article of faith. The theory behind the nostrum of flexible labor markets is Milton Friedman’s natural rate theory of unemployment, which, as Jamie Galbraith pointed out twenty years ago, was constructed by adding expectations to the empirical Philips Curve observation of a relationship between unemployment and inflation:
The Phillips curve had always been a purely empirical relation, patched into IS-LM Keynesianism to relieve that model’s lack of a theory of inflation. Friedman supplied no theory for a short-run Phillips curve, yet he affirmed that such a relation would “always” exist. And Friedman’s argument depends on it. If the Phillips relation fails empirically— that is, if levels of unemployment do not in fact predict the rate of inflation in the short run—then the construct of the natural rate of unemployment also loses meaning.
Galbraith’s evisceration of the natural rate theory and NAIRU is incisive, persuasive and accessible. Read it.
At the other end of the flexibility spectrum, intellectually, is Layard, Nickell and Jackman’s Unemployment: Macroeconomic Performance and the Labour Market. In their influential textbook, Layard et al. grafted the dubious NAIRU concept onto the archaic lump-of-labor fallacy claim to create their own chimera hybrid, the LUMP-OF-OUTPUT FALLACY.
Galbraith’s “Time to Ditch NAIRU” has 293 citations on Google Scholar. Layard et al’s “Unemployment” has 5824.
To appreciate the pretzel logic of Layard et al., one has to first understand that the old fallacy claim is essentially an inversion of the “supply creates its own demand” nutshell known as Say’s Law. Jamie’s dad, John Kenneth Galbraith, had argued back in 1975 that Say’s Law had “sank without trace” after Keynes had shown that interest “was not the price people were paid to save… [but] what was paid to overcome their liquidity preference” and thus a fall in interest rates might encourage cash hoarding rather than investment, resulting in a shortfall of purchasing power.
So, at one end of their graft Layard et al. were resuscitating the old dogma that Keynes had supposedly “brought to an end.” At the other end of the graft was Friedman’s tweaking of an atheoretical empirical observation — the Philips Curve — that was “patched into IS-LM Keynesianism to relieve that model’s lack of a theory of inflation. (James Tobin once elegantly described the Phillips curve as a set of empirical observations in search of theory, like Pirandello characters in search of a plot.)” And let’s not even get started with IS-LMist fundamentalism.
Churchill’s “riddle wrapped in a mystery inside an enigma” quip about the Soviet Union has nothing on Layard et al.’s antithetical and anachronistic graft on a tweak of an atheoretical patch on an unsatisfactory “attempt to reduce the General Theory to a system of equilibrium,” as Joan Robinson described IS-LM “Keynesianism”:
Whenever equilibrium theory is breached, economists rush like bees whose comb has been broken to patch up the damage. J. R. Hicks was one of the first, with his IS-LM, to try to reduce the General Theory to a system of equilibrium. This had a wide success and has distorted teaching for many generations of students. Hicks used to be fond of quoting a letter from Keynes which, because of its friendly tone, seemed to approve of IS-LM, but it contained a clear objection to a system that leaves out expectations of the future from the inducement to invest.
And by “expectations,” Keynes clearly had in mind uncertainty, not honeycomb equilibrium.
So that’s the tangled ‘theory’ behind ‘flexible’ labor market policy prescriptions. A regurgitated dog’s breakfast of contradiction and amnesia.
Layard et al.’s lump-of-output fallacy flexibility chimera thus resembles a sort of a theoretical ouroboros chicken-snake swallowing its own entrails:
To many people, shorter working hours and early retirement appear to be common-sense solutions for unemployment. But they are not, because they are not based on any coherent theory of what determines unemployment. The only theory behind them is the lump-of-output theory: output is a given. In this section we have shown that output is unlikely to remain constant.
This is simply FALSE. Shorter working hours is based on the same theory as full employment fiscal policy: Keynes’s theory. But don’t take my word for it. In an April 1945 letter to T.S. Eliot, Keynes wrote:
The full employment policy by means of investment is only one particular application of an intellectual theorem. You can produce the result just as well by consuming more or working less. Personally I regard the investment policy as first aid. In U.S. it almost certainly will not do the trick. Less work is the ultimate solution.
Re: “The long-term decline in prime-age male labor force participation,”
Flexibility/Shlepxibility!
Its a two-tier workforce in a what I call a subsistence-plus (you could just call it no-collective bargaining) labor market that leads to massive prime-age drop out (market will never clear).
In a labor market that contains for the sake of argument 50% rich country workers (e.g., American raised) and 50% poor country workers (anywhere else raised) — must be something like Chicago which is 40% white, 40% black, 20% Hispanic …
… where pay is set by what I call “subsistence-plus”; meaning set STARTING at the absolute minimum pay workers will tolerate (e.g., $800/wk for American born taxi drivers [me]; $400 for foreign born) and then PLUS some more for each additional level of skill (bottom for McDonald’s, more for better English in Starbucks, more for college English and more competent organizing in Whole foods?) …
instead of pay set by the highest price the consumer is willing to pay — by collective bargaining or a minimum wage …
… a huge dropout of low skilled, rich country workers will occur (the labor market will not clear). E.G., American born taxi drivers (me again) and the Crips and the Bloods. How else explain that 100,000 out of my guesstimate 200,000 Chicago, gang-age males are in street gangs?
Now here’s the wind-up — that should implant permanently the unquestionable need for collective bargaining in all labor transactions:
A subsistence-plus labor market with 100% rich country workers will have lower pay levels than a collective bargaining labor market with 50% rich/50% poor country workers.
That’s the whole law and the profits about the need to make union busting a felony (starting in progressive states) as far as I’m concerned.
PS. This is not an endorsement of Donald Trump’s anti-immigration bender — that would kick down the pillars that our whole civilization is built on (sorry Native Americans) — that could mean 250 million Americans by 2050 instead of the anticipated 500 million. This IS an endorsement or rebuilding high labor union density — the missing balance-of-power pillars of our civilization. (Don’t forget centralized bargaining — the “compleat” balance-of-power pillar of a unionized labor market).
That sounds like supply and demand to me. There isn’t enough demand for labor, so the supply has been dropping. I can’t imagine why any economist is even slightly surprised by this.
Kaleberg – But the supply of labor is the working age population, give or take a few (military personnel, the incarcerated, those deciding to attend college, etc.) and which still includes those supposed boomers who are said to be “retiring” from the workforce but who in fact are still working at a far greater proportion ( of 65 and over crowd) than they ever have.
And the subject is the prime working age male population which is only part of the labor supply…. arguably the largest proportion of the labor supply.
When demand for labor drops, the supply doesn’t take a hike to Timbuktu so it’s still there… just not employed in the measured (above ground) market.
There are, imo, only two good reasons to work:
1. You and/or your family are near starvation & homeless so there’s that incentive…. either that or go into criminal activities to make a living.
2. You’re not near starvation and homeless but somebody offers you a decent wage for your time and effort…. which provides incentive IF that wage is “decent enough” — better than doing criminal or under the counter work at low wages… or better even than becoming an independent contractor and driving for Uber.
So if prime age males are in large supply but low demand for their services at a decent wage, then obviously there are only two possible reasons:
a) Nobody has work tor them
b) Wages offered aren’t at or above the “decent wage”.
Judging by employment offers however a) is not the case. Then that leaves b) as the only other possible reason.
I know there’s a reason for this condition….. and I think it’s that employers can find lower wage labor supplies for goods production elsewhere (outside the US) — so to pay a higher wage for that labor in the US is irresponsible as a means of maximizing profits… so employers don’t offer a “decent enough” wage because they can supply the demand for goods by having them made where labor is lower than the “decent enough” wage in the U.S.
Of course we can also figure part of the reason for lower demand for labor is an increase in automated production methods, greater efficiencies of scale with semi-monopolies (read consolidations); increasing labor efficiencies by use of computers and software (which are relatively cheap) all of which have occurred to reduce labor demand for both goods AND services to boot..
And of course we could increase the incentive to work by reducing unemployment insurance benefits, welfare payments, housing subsidies, food stamps, disability insurance benefits, Medicaid, church shelters and charitable food supplies which would increase the incentives to work even at subsistence wage levels, forcing wages to that level as well.. even further below the “decent enough” wage levels. Maybe if we just had a better “dog-eat-dog” based laissez-faire capitalist economic system with less gub’mit interference, we would be able to create sufficient incentives for 100% of the available prime age males to work… doncha think?
longtooth:
Is direct labor cost really such a large part of the cost of a product?
How much less work was Keynes envisioning, and from where was he starting? Was he saying less work versus his current position was the solution, or was he merely saying that we couldn’t roll back to the dangerously long hours of the factories in the late 1800s?
i think Longtooth’s
last paragraph describes the situation i see from where i sit.
some jobs, at least, are just too soul destroying to keep working at unless you need the money to survive. or think you do (especially when looking ahead to retirement or future medical costs).
on the other hand there seems to be a common enough practice among corporations to lay off older workers (still “prime”?) because, presumably younger workers will give the corporation their heart and soul, at a lower wage, in the expectation of “climbing the ladder.”
as for theory, it seems to me that all economic theories do not anticipate that as times change, behavior changes. a theory that was based on “what people do” becomes obsolete as what people do in the face of changing conditions changes.
“How much less work was Keynes envisioning?”
15 hours a week by 100 years after 1930. 35 hours in U.S. post-war.
I know you ran a calculation surmising output on a 32 hour week as opposed to a 40 hour week assuming an increase in productivity with a shorter work week. Can you put that up again here?
“Can you put that up again here?”
Yes I can. I would want to do it with a bit of context, so it may take a few days. Regarding the proportion of direct labor costs in the cost of a product, it is important to take into account that various rents (IP, ROI) are leveraged institutionally in such a way as to preserve their compounding nature and thus the capitalization of the enterprise.
If you leverage direct labor costs accordingly, the proportion of labor costs goes up more swiftly than the cost of labor because the capital rents go down as the wages go up. The fierce opposition to shorter working time is not without foundation. A good deal of fictitious capital is at stake.
Sandwichman:
You are your own person here, I can not say yes or no to your context. I just read them and sometimes comment. I understand burdening Labor. There are some things I can not impact. I look at throughput.
only thing i would ask is that you make clear what you mean by direct labor costs. for various reasons pensions, social security health insurance… seem not to be counted by some people.
i would count even the safety equipment that employers grudgingly install because the government or the unions make them.
these are legitimate costs of labor.