Bryan Caplan  

More on Cowen on Nominal Rigidities

Strange Question from Ed Glaes... Unfair Measure of the Laffer C...
In case you didn't notice, the reason why I outsourced my advice for the unemployed is that Tyler preceded it with, "Yet I have seen not one such post to the unemployed," and followed it with, "If such posts would seem patently absurd, we should ask what that implies for our underlying theory of current unemployment."  Two followup points:

1. The main reason why such posts "seem patently absurd" is that they're insensitive and make the author sound like a jerk - not that they're false.

2. Tyler continues to attack a straw man version of the nominal rigidities story.  As I chided him a few months ago:
[T]he main problem isn't that unemployed workers are "stubborn" about their nominal wages.  The crucial "behavioral postulates" are rather that:

1.  Hiring new workers for lower wages provokes resentment and resistance from existing employees - the classic insider-outsider mechanism.

2. At this point, the unemployed will probably say "yes" to jobs even if they they perceive their nominal wages as "unfair."  But after a brief honeymoon period, these new workers would probably have low morale.  This wouldn't just hurt their productivity; it would also bring down the productivity of their better-paid co-workers.
Encouraging individual workers to be more flexible in their wage expectations is still helpful advice.  But it would be even more helpful for the average worker if the average worker became more flexible.

Comments and Sharing

COMMENTS (9 to date)
Doc Merlin writes:

Asking workers to be more nominally flexible is very stupid. They are very nominally flexible. The problem now is that the legal system forces nominal rigidity. Workers simply don't have a choice.

guthrie writes:

There's also the problem faced by my unemployed brother-in-law who's a structural engineer. Potential employers know that if he takes a job at a lower wage, he might leave once a better offer comes along, which he admits would be likely.

Thus, aside from the rigid payroll rules, employers also must face a number of unknowns, such as how long the recession will last, and how 'committed' their potential new-hires-at-a-lower-wage might be (the guess, of course, is 'probably not very').

Tyler Cowen writes:

Just hire them at different job titles, then #1 is no problem, if it ever was in the first place. #2 is just another way of stating zero marginal product labor.

Hyena writes:

My experience is that neither #1 nor #2 are really operative.

The most common way to get around #1 is to hire the person as a temp, such workers have low status and aren't considered a threat.

It also solves #2 nicely. Workers are perfectly willing to accept temporary employment at lower wages. Temps also face fewer hurdles to employment from the regulatory or benefits side.

This, though, demonstrates that Tyler is correct on #2: a lot of people have ZMP labor, otherwise we'd see more temporary workers hired.

Lord writes:

My experience is you are correct. Only worse or more desperate workers accept temporary work and they are seen as negative to future permanent hires even if current workers are oblivious to their threat, and it only takes a further layoff to persuade workers they are a threat, though many have been in their positions so long they are oblivious to any threat until it occurs. The threat becomes evident when the temporary outperforms the permanent. Nor is it they have lower morale, but seeing themselves as outsiders, they continue to look for better opportunities and it is their departure for them that lowers morale and productivity.

Lord writes:

I, for one, would never want a permanent job at any place that hired me as a temp. It is a sign not only of a more desperate worker, but an inferior firm that either cannot afford a permanent or attract one. When I interviewed I normally asked about their temp policy as a probe into the kind of firm it was.

Nathan Smith writes:

Divide economic activity into:
1. More of the same.
2. New activities.

Proposition 1: the overhead for hiring workers to do (1) is a lot lower than the overhead for hiring workers to do (2). With (1) you basically know who you want and how to write a contract for it and teach them to do it. With (2) the traits you need are much vaguer, and a lot more learning needs to occur before you're up to speed.

The problem is that:

(a) Excessively low interest rates in the mid-2000s boosted demand for (1) to unsustainable levels. Since then, low consumer confidence and liquidity has reduced it *below* sustainable levels, leaving resources unemployed.

(b) Changes in relative prices-- a lot of people (smart specialists) could be hired now for a lot less than what they could have been hired for five years ago-- have probably made a lot of (2) economically viable that wasn't before. But political risk is blocking it. The massive deficits have destroyed the government's credibility in committing, if someone find a way to create huge value, not to steal it.

ZMP isn't really the right diagnosis of current employment. The problem is not that the cost of employing workers exceeds their product *at the margin*, but that the *total* cost of hiring, including overhead and training, exceeds the risk-adjusted expected return to a private employer of hiring another worker. And the risk-adjusted return is depressed because the odds of the upside being stolen by the government look way higher now than they were a few years ago.

A GOP blowout in November and/or enacting the Ryan roadmap would recommit the government to not stealing the upside of investment, and get the economy moving again.

Brian Clendinen writes:

Guthrie is correct that this is a major driver.

Everything I have read so far by Bryan and Tyler misses the major reasons why wages are so sticky. True Bryans explanation above are some of the minor reasons but misses the major ones. It has to do how hiring and firing decisions are quantified, planned for, and processed, and how individual hiring managers actually make their decisions. It is a highly complex decision making process that is often highly political and at times about who has the better more trusted agrument than data (this is raional and sound based on the descions and existing data). Unless you understand the process in detail across multiple size businesses and industries, I do not think an overall economic theory can be stated for anything other than what will eventually happen over a generation under a stagnate or shrinking economy. It cannot explain business cycle wage/headcount trade-offs.

The biggest problem I do not think Bryan and Tyler understand is the inability to quantify out-put of many jobs in a homogeneous manner to mid and upper level management and even hiring manager. Quite a few Macro level theories logic is based on the assumption of measurability from a usability standpoint for business. And some how this can be quantified fairly well at any level. For example NPV of capital projects is only done on extremely large ones. In many cases there is no way to reliably measure the benefits and cost of capital 100% in dollars.

The problem is in real life the cost is to high to measure at the level of detail and accuracy needed so decisions can be based a cost benefit analysis which is 50% in dollars let alone 100%. The labor out-put is extremely hard to measure in most white collar jobs, thus run a cost benefit analysis.

So manager determine headcount to accomplish work. And then individual managers work with the headcount. An average salary is used for each head because there is to much complexity in the variance of skills and required salary for each head. I could go into another dozen reasons why wages do not fall due to internal business process but I am not writing a thesis. Overall not dropping new hires wages is a perfectly rational decision in a recession when you understand the dozens of variables and how different businesses and managers weight them.

Doc Merlin writes:

My friends tell me that the pay of a typical computer programmer follows this. It goes up and up and up, then they get too expensive and get laid off. They go to work for a new firm at a low salary, and the same thing happens.

Comments for this entry have been closed
Return to top