David R. Henderson  

GDP and Well-Being

Spending vs. PSST... Education and Signaling: Reply...

If you, like me, liked Arnold's post today on the pitfalls of GDP, take a look at my piece titled "GDP Fetishism." I explicitly address, among other things, the huge problem with valuing the G (government spending on goods and services) part of GDP at cost.

I'll point out another major problem with the Mark Thoma approach that Arnold criticized. It isn't just that G might not be worth much. It's also that Mark throws out price theory. He looks at the various other components of GDP and says why there's not much hope for them to improve. But with huge amounts of idle resources around, a way for things to improve with zero incremental G or even with a drop in G is for prices of these idle resources to adjust downward. To take just one example, imagine what kinds of extra goods and services might be produced if the minimum wage fell by just 20 percent.

Even though I've addressed the same issue that Arnold addressed, notice that I've put my post in the title "Microeconomics." Microeconomics is what's missing from Thoma.

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CATEGORIES: Microeconomics

COMMENTS (10 to date)
John Fast writes:

I agree with everything you say, because it's simple economics, which is to say simple common sense.

The challenge is that it's difficult to adopt policies such as lowering the minimum wage because they are unpopular. After all, who wants people to have lower wages?? :-D

As I put it, "bad politics trumps good economics." (That's why I do public choice and institutional economics -- because IMO everything else in economics is now irrelevant compared to those.)

Mark Thoma writes:

Actually, the microeconomics of sticky prices is what's missing here, and I'm not the one missing it...

Good luck with your proposal to cut worker income in a recession. There are models where that will work, but there are also models where that will lead to a catastrophic downward spiral. That's not a chance I'm willing to take, especially when there are other effective remedies.

And it's usually best to drop reasoning such as:

If I assume that government spending has no effect ("G might not be worth much", it won't be effective. Especially when the evidence, viewed fairly, contradicts the assumption.

Noah Yetter writes:

Mr. Thoma why refer to models rather than the actual observable world? The map is not the territory. Wage cuts work.

Also "G might not be worth much" is not in any way, shape, or form equivalent to "government spending having no effect". Spending on activity that is value-destructive can still have "multiplier"-type effects. Cash-for-clunkers and the home buyer tax credit certainly spurred a lot of activity, or at least the rearrangement of activity across time, even if their net effects on well being was negative (which they were).

Tom Dougherty writes:

"Good luck with your proposal to cut worker income in a recession. There are models where that will work, but there are also models where that will lead to a catastrophic downward spiral."

Cutting the minimum wage does not have to mean cutting worker income. With a lower minimum wage, employers may give employees longer hours and hire previously unemployed workers whose income was zero. This may in fact mean increased income for employees. Anyway, I can hardly see how a reduction in the minimum wage could possibly lead to a "catastrophic downward spiral". Such a model doesn't pass the smell test and is just fear mongering to think that would happen in the real world.

Yaj writes:

"Mr. Thoma why refer to models rather than the actual observable world? The map is not the territory."

Nailed it.

Very consistent with Taleb's insight that if one is attempting to find one's way in an unfamiliar landscape, having the wrong map is often worse than having no map at all.

Modern macro is a catastrophically flawed representation of reality that entire nations have used to navigate themselves into an economic abyss.

Anyone want to spend the next 20 years following re-creating the plot that we've seen unfolding in "Japan in Thoma-Krugmanland?"

I don't.

Eric Hosemann writes:

I would like to know about what distinction professional economists make between "earnings" and "wages."

My hourly wages are no different than they were before the collapse. My yearly earnings are less however because my employer greatly reduced its willingness to offer overtime work. Professor Thoma mentions wage stickiness but what about earnings flexibility? Offers of overtime were pervasive throughout the boom times. They have dried up now. Should things continue as they are, or get much worse, actual wage adjustments might follow.

Chris Koresko writes:

@Mark Thoma:

Good luck with your proposal to cut worker income in a recession.

I'm not sure I understand this comment. Are you arguing that reducing the minimum wage is tantamount to reducing the wages of individual workers? Or to reducing the total income produced by all workers? Or to reducing the average income of all workers?

Since the minimum wage is essentially a ban on low-paying jobs, shouldn't the first-order effect of reducing it be the creation of new jobs for some of those potential workers who were not able to produce enough marginal output to get hired at the old minimum wage? That being the case, should we not expect the short-term effect to be a drop in unemployment, a reduction of the average income, and an increase in the total income?

Kevin writes:

Excellent post David. Whatever the magnitude, it is really a shame that the state continues to prevent people from deploying excess capacity.

Also, I don't think "Mark Thoma" is Mark Thoma. There was no proposal to "cut worker income" except for the one imagined by "Mark Thoma." Likewise, the "reasoning" beginning with "G might not" and equated with "If I assume..." appears nowhere in the post and exists only in the mind of "Mark Thoma." David's reference to the value of G was prominently set apart from the content following - it was nothing like a pretense for it. I've read Mark Thoma, and I am quite sure Mark Thoma would not show the laughable carelessness of "Mark Thoma."

david (not henderson) writes:

It's no good, Thoma. No matter how loud you scream in their ears, these people solve recessions by assuming away stickiness. And then they trot out phrases like "the map is not the territory" as if we are the ones who are lost.

Seven decades hasn't condemned naive liquidationists to the dustbin of history. This isn't the first time Henderson has made this basic error and it won't be the last.

fundamentalist writes:

Henderson's "GDP Fetishism" is excellent!
For additional criticisms of GDP, see George Reisman's book "Capitalism" available in pdf online.

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