Arnold Kling  

Cowen and Lemke on Unemployment

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They write,

The fact that the United States has pre-crisis levels of output with fewer workers raises doubts as to whether those additional workers were producing very much in the first place. If a business owner fires 10 people and a year later output is almost back to normal, it's pretty hard to make the argument that they were doing much in the first place.

Read the whole thing. My quibble with the paragraph quoted above is that it fails to incorporate the Garett Jones story. Cowen and Lemke write as if before the recession some workers were just hanging around doing nothing and firms were being nice because times were good. Instead, Jones would say that workers were involved in projects that built organization capital without directly producing output. The recession forced firms to cut back capital projects to try to conserve cash flow, and that meant trimming some of these Garett Jones workers.

Not only did layoffs increase, but hiring slowed down. Again, this represents a low rate of investment. See my previous post on why firms are not fishing in the pool of unemployed workers.

Although I agree with most of Cowen-Lemke, I do not share their pessimistic outlook for the medium run. I think that once momentum picks up, employment growth will be very strong. If they were to make an explicit unemployment rate forecast, I probably would bet the "under," meaning that I would bet on lower unemployment than they expect two years from now.

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COMMENTS (10 to date)
Justin writes:

"The fact that the United States has pre-crisis levels of output with fewer workers raises doubts as to whether those additional workers were producing very much in the first place. If a business owner fires 10 people and a year later output is almost back to normal, it's pretty hard to make the argument that they were doing much in the first place."

The U.S. economy is not a single business. Some industries are well below pre-crisis levels of output, with many of their workers unemployed as a result (e.g. construction). Other industries can expand output without adding new workers if labor productivity growth matches demand growth (e.g. manufacturing). Combine the two, and output can recover fully even if employment doesn't.

This line of reasoning also makes booms difficult to explain, as it implies businesses blindly hire millions of zero productivity workers every few years and then periodically fires them enmasse. Why would they keep doing that? The Garrett Jones story makes far more sense to me, as does the notion that there are important differences between sectors.

Robert Johnson writes:

I think you've nailed it. This is certainly the case within the company I work for.

English Professor writes:

Cowen and Lemke offer the merest caricature of the "conservative" complaints against the Obama administration. They say that the "liberal agenda" hasn't diminished corporate profits, and it hasn't dampened hiring in health care. These statements may be true, but they're off topic. The enhanced minimum wage and the (uncertain but expected) increases in employer costs for things like health care have raised the cost of hiring any low-skilled worker, perhaps as high as $10/hour. (And this does not take into account the new regulatory burden that Richard Epstein attacks in his EconTalk conversation with Russ Roberts.) Before the recession, many firms may simply have been willing to absorb these costs, but once the economy turned down and they cut payrolls, they are now hesitant to take on new commitments. I'm no economist, but this is precisely what I expected to happen. Don't real economists ever think about how people actually behave?

Keith Eubanks writes:

Cowen and Lemke answer their own question. They just don't know it.

"Except for the height of the housing boom -- October 2007 through June 2008 -- real GDP is now higher than it has been in the entirety of U.S. history."

So, not only is real GDP in abosolute terms less than in early 2008, but real GDP per capita is less than before -- more so than in absolute terms since the population continues to grow. For the unemployment rate to be equal to June 2008 (5.5% from BLS), real GDP would have to have grown more than 2% (the pop grew from ~304 million to ~310 million); according to Cowen and Lemke it hasn't grown. Furthermore, it is difficult to make an apples to apples comparison on productivity changes and real gdp: we are making different things today -- fewer houses & more health care. It may take more people to create a unit of real housing GDP than a unit of real health care GDP.

"Indeed, it's the sector in which the government has most directly intervened -- health care -- that has maintained the most robust job growth over the past two years, adding 20,000 new jobs in November alone."

This is our problem. Economic growth requires us to allocate our time and resources toward expanding the means of production: the means to produce the things that people want. Health care is a consumable. A consumable the demand for which is heavily distorted by government policy.

In 2009, private investment declined with every dollar the government borrowed; the bulk of which was spent on consumables. What would one expect when a society trades investment for consumption. This is not rocket science: you get slower growth.

If we start reallocating our income, reducing the portion of income consumed and increasing the portion of income privately invested, the economy and employment will pick up.

One last point, Real GDP numbers are not necessarily real facts. They are heavly processed numbers with lots of assumptions.

Salem writes:

Firms want to reduce risk and conserve cash-flow during a recession, so they make fewer investments, OK. But what is your explanation for firms needing "momentum" in order to rehire? Once firms have fixed cashflow (and profits are very high) then why aren't they willing to invest/rehire? Yes, you may cite regulatory uncertainty and other microeconomic reasons, but those will be equally true if we have momentum. Is "momentum" shorthand for AD, or animal spirits? I'm not sure I follow.

blink writes:

Is there any evidence that retained workers are now working harder? I do not double that there is truth to the "zero marginal product" theory and also the "organizational capital" theory, but working a bit harder to keep your job seems like a pretty simple story.

Lord writes:

Yes, this is what happens. Their previous projects failed or had to be abandoned, and they become cautious about starting new ones or resuming old ones. They wait to see demand stabilize and then grow before they are willing to change gears. The Fed has created optimism and they may be ready to begin.

Chris Koresko writes:

I'm with Arnold and Keith Eubanks on this: I suspect a basic problem with the Cowen & Lemke argument is that changes in the GDP are probably not being measured reliably since they don't properly account for either the value of organizational capital or of the housing stock.

One point Cowen & Lemke fail to make is that it is possible to trade capital against labor, in the sense that when labor becomes more expensive we should expect businesses to try to use capital investment rather than new hiring when they wish to increase output.

One can certainly make the argument that the increased minimum wage, ObamaCare, union card-check, etc. have increased the cost of labor relative to capital. If that is so, then it shouldn't be surprising to see worker productivity rising as businesses choose invest in raising it rather than in hiring new workers.

MernaMoose writes:

The fact that the United States has pre-crisis levels of output with fewer workers raises doubts as to whether those additional workers were producing very much in the first place.

If this is really true (which I doubt), then by what measure do we have a recession?

"We're making and selling just as much stuff as ever, but wow the economy sure is in the tank."

Something's wrong here....

Dave Schuler writes:

There's another explanation for why companies would retain non-productive workers other than that they're producing "organizational capital". Bureaucracies tend to grow, full stop. In a bureaucracy influence, power, and income are all affected by how many people you have beneath you in the hierarchy.

During a period of severe stress (like the fear that was present at the bottom of the Great Recession) companies with large bureaucracies can terminate the employment of a significant number of people without affecting production. Those bureaucracies won't grow again until not only is there present growth in the economy but the expectation of future growth. Right now companies are just hunkering down in survival mode.

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