Jousting over the One Percent

Robert Solow vs. Greg Mankiw, jousting over inequality. What more could those who enjoy academic blood sports desire? Their exchange is in the \”Correspondence\” section of the Winter 2014 issue of the Journal of Economic Perspectives.  Solow is writing in response to Mankiw\’s article in the Summer 2013 issue of JEP, called \”Defending the One Percent.\” (All articles in JEP are freely available and ungated, courtesy of the American Economic Association.) Here\’s a quick taste of the exchange, to whet your appetite for the rest.

Solow\’s opening paragraph:

\”The cheerful blandness of N. Gregory Mankiw’s “Defending the One Percent” (Summer 2013, pp. 21–34) may divert attention from its occasional unstated premises, dubious assumptions, and omitted facts. I have room to point only to a few such weaknesses; but the One Percent are pretty good at defending themselves, so that any assistance they get from the sidelines deserves scrutiny.\”

Mankiw\’s opening paragraph:

\”Robert Solow’s scattershot letter offers various gripes about my paper “Defending the One Percent.” Let me respond, as blandly and cheerfully as I can, to his points.\”

Solow\’s closing paragraph:

\”Sixth, who could be against allowing people their “just deserts?” But there is that matter of what is “just.” Most serious ethical thinkers distinguish between deservingness and happenstance. Deservingness has to be rigorously earned. You do not “deserve” that part of your income that comes from your parents’ wealth or connections or, for that matter, their DNA. You may be born just plain gorgeous or smart or tall, and those characteristics add to the market value of your marginal product, but not to your just deserts. It may be impractical to separate effort from happenstance numerically, but that is no reason to confound them, especially when you are thinking about taxation and redistribution. That is why we may want to temper the wind to the shorn lamb, and let it blow on the sable coat.\” 

Mankiw\’s closing paragraph:

\”Sixth, and finally, Solow asks, who could be against allowing people their “just deserts”? Actually, much of the economics literature on redistribution takes precisely that stand, albeit without acknowledging doing so. The standard model assumes something like a utilitarian objective function and concludes that the optimal tax code comes from balancing diminishing marginal utility against the adverse incentive effects of redistribution. In this model, what people deserve plays no role in the formulation of optimal policy. I agree with Solow that figuring out what people deserve is hard, and I don’t pretend to have the final word on the topic. But if my paper gets economists to focus a bit more on just deserts when thinking about policy, I will feel I have succeeded.\”

Full disclosure: I\’ve been Managing Editor of the JEP since 1987, so there is a distinct possibility that I am prejudiced toward finding the contents of the journal to be highly interesting.

How the 2009 Tax Haven Agreement Failed

Back in April 2009, a summit of the G20 countries agreed to lean hard on tax haven nations to sign treaties to exchange information with other countries. News stories made much of the agreement (for examples, here and here.)  But what effect did the agreement actually have? Niels Johannesen and Gabriel Zucman tackle this question in \”The End of Bank Secrecy?  An Evaluation of the G20 Tax Haven Crackdown,\” which appears in the most recent issue of American Economic Journal: Economic Policy (6:1, pp. 65–91). The journal isn\’t freely available on-line, but many readers will have access through library subscriptions.

The short answer is that the treaty didn\’t work very well. The tax haven countries were encouraged to sign bilateral treaties with other nations, and they went ahead and signed 300 or so of these treaties. But not every tax haven has a treaty with every country, and so the overall effect has been a relocation of money between tax havens. Here\’s the data they have available:

\”For  the purpose of our study, the Bank for International Settlements (BIS) has given us  access to bilateral bank deposit data for 13 major tax havens, including Switzerland,  Luxembourg, and the Cayman Islands. We thus observe the value of the deposits  held by French residents in Switzerland, by German residents in Luxembourg, by  US residents in the Cayman Islands and so forth, on a quarterly basis from the  end of 2003 to the middle of 2011.\”

The full list of the 13 tax havens is Austria,  Belgium, the Cayman Islands, Chile, Cyprus, Guernsey, the Isle of Man, Jersey, Luxembourg, Macao, Malaysia, Panama, and Switzerland. These 13 jurisdictions account for about 75% of all the deposits of tax haven countries that report to the Bank of International Settlements. The authors also have data grouped together for five other tax havens: Bahamas, Bahrain, Hong Kong, the Netherlands Antilles, and Singapore. They write:

\”We obtain two main results. First, treaties have had a statistically significant but quite modest impact on bank deposits in tax havens: a treaty between say France and Switzerland causes an approximately 11 percent decline in the Swiss deposits held by French residents. Second, and more importantly, the treaties signed by tax havens have not triggered significant repatriations of funds, but rather a relocation of deposits between tax havens. We observe this pattern in the aggregate data: the global value of deposits in havens remains the same two years after the start of the crackdown, but the havens that have signed many treaties have lost deposits at the expense of those that have signed few. We also observe this pattern in the bilateral panel regressions: after say France and Switzerland sign a treaty, French deposits increase in havens that have no treaty with France.\”

As with most studies, there are complications of interpretation. Are front companies being used to hide the movement of funds in a way that doesn\’t show up in these statistics? Perhaps as a response to the treaties some people are reporting to domestic tax authorities more of the income held in tax havens? This data set doesn\’t allow one to address that question.  But the evidence from this study strongly suggests that trying to deal with tax havens through bilateral agreements is likely to be a very long-running game, and is ultimately unlikely to make much difference to how companies and individuals in the rest of the world are able to make use of tax havens.

Finally, James Hines wrote \”Treasure Islands\” for the Fall 2010 Journal of Economic Perspectives, which makes an effort to look at both the concerns over tax havens and some possible benefits they might convey. From the abstract: \”The United States and other higher-tax countries frequently express concerns over how tax havens may affect their economies. Do they erode domestic tax collections; attract economic activity away from higher-tax countries; facilitate criminal activities; or reduce the transparency of financial accounts and so impede the smooth operation and regulation of legal and financial systems around the world? Do they contribute to excessive international tax competition? These concerns are plausible, albeit often founded on anecdotal rather than systematic evidence. Yet tax haven policies may also benefit other economies and even facilitate the effective operation of the tax systems of other countries.\”

Full disclosure: The AEJ:EP is published by the American Economic Association, which also publishes the Journal of Economic Perspectives, where I work as Managing Editor. All JEP articles, like the Hines article mentioned above, are freely available courtesy of the AEA.

A German Employment Miracle Narrative

The German unemployment peaked at 12.1% in March 2005 (based on OECD statistics), and then declined more-or-less steadily since then, with only a small hiccup during the Great Recession. Here\’s a figure to illustrate from the ever-useful FRED website run by the Federal Reserve  Bank of St. Louis. How did Germany–the world\’s fourth-largest national economy–do it? Are there lessons to learn?

Graph of Registered Unemployment Rate for Germany

There are essentially three categories of explanation that have been suggested for Germany\’s remarkable labor market performance during the Great Recession: 1) decentralization of wage bargaining in Germany starting in the 1990s; 2) the \”Hartz reforms\” implemented in the mid-2000s; and 3) how the adoption of the euro influenced Germany\’s economic situation.

A nice statement of the first point of view, decentralization of German wage bargaining, appears in
\”From Sick Man of Europe to Economic Superstar: Germany’s Resurgent Economy,\” by Christian Dustmann, Bernd Fitzenberger, Uta Schönberg, and Alexandra Spitz-Oener, in the Winter 2014 issue of the Journal of Economic Perspectives. (Full disclosure: I\’ve been the Managing Editor of the JEP since 1987.) Dustman et al. start their story in the early 1990s. Germany was facing the enormous costs and disruptions of reunification, in which higher-wage West Germany found itself part of the same country with lower-wage East Germany. In addition, the fall of the Soviet Union also offered German firms access to imports produced by a number of lower-wage eastern European workers, many of who already had educational, economic, or cultural ties to Germany. Germany industry began a \”factory Europe\” approach which built international supply chains across countries of eastern Europe, as well as the rest of the world.

Under these pressures, German unions at the industry- and the firm-level showed considerable flexibility. The number of German workers covered by unions declined: \”From 1995 to 2008, the share of employees covered by industry-wide agreements fell from 75 to 56 percent, while the share covered by firm-level agreements fell from 10.5 to 9 percent.\” Wages rose more slowly than productivity,a nd so starting around 1994, Germany\’s labor costs rose more slowly than those in other European countries, as well as the United State. In addition, Germany\’s wages became markedly more unequal. Here\’s a figure showing wage growth at the 85th percentile of wages, the 50th percentile, and the 15th percentile.

Dustmann, Fitzenberger, Schönberg, and Spitz-Oener argue that Germany\’s labor market institutions, which emphasize consensus bargaining at the firm-level and industry-level, actually turned out to be much more flexible than labor market institutions in other countries like France and Italy, where union wage negotiations happen at a national level. Another sign of Germany\’s labor market flexibility is that the country has no minimum wage.

A second set of explanations for Germany\’s strong labor market performance in recent years emphasizes the \”Hartz reforms\” that were undertaken between 2003 and 2005. Ulf Rinne and Klaus F. Zimmermann offer a nice exposition of this point of view in \”Is Germany the North Star of Labor Market Policy?\” in the December 2013 issue of the IMF Economic Review. (This journal isn\’t freely available online, but readers may have access through library subscriptions.) They summarize the reforms this way:

\”First, the reforms reorganized existing employment services and related policy measures. Importantly, unemployment benefit and social assistance schemes were restructured, and a means-tested flat-rate benefit replaced earnings-related, long-term unemployment assistance. Second, a significant reduction of long-term unemployment benefits—in terms of both amount and duration—and stricter monitoring activities were implemented to stimulate labor supply by providing the unemployed with more incentives to take up a job. Third, massive deregulation of fixed-term contracts, agency work, and marginal part-time work was undertaken to stimulate labor demand. The implementation of the reforms in these three areas was tied to an evaluation mandate that systematically analyzed the effectiveness and efficiency of the various measures of ALMP [active labor market policy].\”

To put all this a little more bluntly, it was strong medicine. Early retirement options were phased out. Unemployment benefits were limited in eligibility, size, and duration. For example, the unemployed had to prove periodically that they were really looking for work. Also, remember that Germany was enacting many of these policies right around 2005 when its economy was going through a deep recession that spiked the unemployment rate.  During the recession, a number of German firms avoided layoffs by using the flexibility of the Hartz reforms to reduce hours worked–and wages paid.

The third set of explanations for Germany\’s lower unemployment rate focuses on the creation of the euro and the pattern of German trade surpluses that has resulted. The figure shows Germany\’s trade surplus. Notice that around 2001, when the euro moves into general use, Germany\’s trade surplus takes off. This has been called the \”Chermany problem\”–that is, both China and Germany after about 2000 had exchange rate that was at a low enough level to generate large and rising trade surpluses.

Graph of Current Account Balance: Total Trade of Goods for Germany

But notice that Germany\’s unemployment rate is falling from about 2000-2005, even though the trade surpluses are rising. Then the trade surpluses declined after about 2008, as the global financial occurred, and haven\’t yet rebounded to their peak. This is at a time when Germany\’s unemployment rate is falling. In short, outsized trade deficits and surpluses can lead to economic problems of various kinds, but trade imbalances often don\’t have a tight link to unemployment rates. (In the US economy, for example, trade deficits were quite high when unemployment was low during the height of the housing bubble back around 2006, but since the Great Recession US trade deficits have been lower while unemployment  rate has been higher.)

While academics and policymakers will continue to dispute the reasons for Germany\’s stellar performance in reducing unemployment in the last few years, I\’ll just note that none of the possible answers look easy. Having productivity growth outstrip wages over time, so that labor costs relative to competitors fall, isn\’t easy. Reorganizing industry around global supply chains that include suppliers from lower-wage economies isn\’t easy. Increasing inequality of wages isn\’t easy. The \”structural labor market reforms\” that include trimming back on  early retirement and unemployment insurance isn\’t easy. U.S. discussions of economic policy sometimes make it sound as if the government can just \”create jobs\” with large enough spending and/or tax cuts, or low enough interest rates. But real and lasting solutions to reducing unemployment and keeping it low aren\’t that easy.

Lesser Known Improvements in the US Labor Market

The headline unemployment rate gets almost all of the attention, but the U.S. Bureau of Labor Statistics also publishes the results of the Job Opening and Labor Turnover Survey (JOLTS), which gives more detail on underlying patterns of hiring and firing. The JOLTS numbers for December 2013 came out on Tuesday, and here are a few of the highlights that caught my eye.

One useful measure of the state of the labor market is the number of unemployed people per job opening. After the 2001 recession this ratio reached nearly 3:1, and during the worst of the Great Recession there were nearly 7 unemployed people for every job opening. But by December 2013, the ratio was back down to 2.6–not quite as healthy as one would like, but still a vast improvement.

Another measure is the ratio of quits to layoffs/discharges. Quits are when a person leaves a job voluntarily. Layoffs and discharges are when people are separated from their job involuntarily. In a healthy economy, more people quit than are forced to leave, so the ratio is above 1. In the recession, voluntary quits dwindled as people held onto the jobs they had, and involuntary layoffs rose, so the ratio fell below 1. We have now returned to an economy where those who leave their jobs are more likely to have done by quitting voluntarily than by being laid off or discharged involuntarily

Finally, the Beveridge curve shows a relationship between job openings and unemployment in an economy. The usual pattern is that when job openings are few, unemployment is higher, and when job openings are many, unemployment is lower. As the illustration shows, the data for the U.S. economy sketched out this kind of Beveridge curve as the 2001 recession arrived, as the labor market recovered, and then as the Great Recession hit. But since the recession ended, the U.S. economy has not moved back up the same Beveridge curve. Instead, the data since the end of the recession is tracing out a new Beveridge curve to the right of the previous one. The shift in the Beveridge curve means that for a given level of job openings (shown on the vertical axis) the corresponding unemployment rate (shown on the horizontal axis) is higher. This outcome is often described as saying that the economy isn\’t doing as good a job of \”matching.\” But as the BLS writes: \”For example, a greater mismatch between available jobs and the unemployed in terms of skills or location would cause the curve to shift outward, up and toward the right.\”

The JOLTS report just reports these statistics, and isn\’t about analyzing the possible underlying causes for such a mismatch. Here is a blog post from August 2012 some additional background on Beveridge curves, historical patterns, and their application to the U.S. economy in recent years.

Can Other Lenders Beat Back Payday Lending?

It\’s easy to have a knee-jerk reaction that payday lending is abusive. A payday loan works like this. The borrower writes a check for, say, $200. The lender gives the borrower $170 in cash, and promises not to deposit the check for, say, two weeks. In effect, the borrower pays $30 to receive a loan of $170, which looks like a very steep rate of \”interest\”–although it\’s technically a \”fee\”–for a two-week loan.

Sometimes knee-jerk reactions are correct, but economists at least try to analyze before lashing out. Here and here, I\’ve looked at some of the issues with payday lending from the standpoint of whether laws to protect borrowers make sense. It\’s a harder issue than it might seen at first. If the options are to take out a payday loan, which is quick and easy, or pay fees for bank or credit card overdrafts, or have your heat turned off because you are behind on the bills, or not get your car fixed for a couple of weeks and miss your job, the payday loan fee doesn\’t look quite as bad. people can abuse payday loans, but if we\’re going to start banning financial products that people abuse, my guess is that credit cards would be the first to go. Sure, it would be better of people had other options for short-term borrowing, but many people don\’t.

James R. Barth, Priscilla Hamilton and Donald Markwardt tackle a different side of the question in
\”Where Banks Are Few, Payday Lenders Thrive,\” which appears in the Milken Institute Review, First Quarter 2014. The essay is based on a fuller report, published last October, available here. They suggest the possibility that banks and internet lending operations may be starting to provide short-term uncollateralized loans that are similar to payday loans, but at a much lower price. In setting the stage, they write: :

\”Some 12 million American people borrow nearly $50 billion annually through “payday” loans – very-short-term unsecured loans that are often available to working individuals with poor (or nonexistent) credit. … In the mid-1990s, the payday loan industry consisted of a few hundred lenders nationwide; today, nearly 20,000 stores do business in 32 states. Moreover, a growing number of payday lenders offer loans over the Internet. In fact, Internet payday loans accounted for 38 percent of the total in 2012, up from 13 percent in 2007. The average payday loan is $375 and is typically repaid within two weeks.\”

Barth, Hamilton, and Markwardt collect evidence showing that across the counties of California, when there are more banks per person, there are fewer payday lenders per person. They also note several experiments and new firms which seem to be showing that slightly larger loans for several months rather than several days or a couple of weeks may well be a viable commercial product. For example, the Federal Deposit Insurance Commission ran a pilot program to see if banks could offer \”small-dollar loans\” or SDLs.

\”The FDIC’s Small-Dollar Loan Pilot Program has yielded important insights into how banks can offer affordable small-dollar loans (SDLs) without losing money in the process. Under the pilot program concluded in 2009, banks made loans of up to $1,000 at APRs of less than one-tenth those charged by payday loan stores. Banks typically did not check borrowers’ credit scores, and those that did still typically accepted borrowers on the lower end of the subprime range. Even so, SDL charge-off rates were comparable to (or less than) losses on other unsecured forms of credit such as credit cards. Note, moreover, that banks featuring basic financial education in the lending process reaped further benefits by cutting SDL loss rates in half. The success of the banks’ SDLs has been largely attributed to lengthening the loan term beyond the two-week paycheck window. Along with reducing transaction costs associated with multiple two-week loans, longer terms gave borrowers the time to bounce back from financial emergencies (like layoffs) and reduced regular payments to more manageable sums. … In the FDIC pilot, a majority of banks reported that SDLs helped to cross-sell other financial services and to establish enduring, profitable customer relationships.\”

What about if the financial lender can\’t use the small-dollar loan as a way of cross-selling other financial products? Some companies seem to be making this approach work, too.

\”Another newcomer, Progreso Financiero, employs a proprietary scoring system for making small loans to underserved Hispanics. Progreso’s loans follow the pattern that emerged in the FDIC pilot program – larger loans than payday offerings with terms of many months rather than days and, of course, more affordable APRs. Moreover, the company has shown that the business model works at substantial scale: it originated more than 100,000 loans in 2012. LendUp, an online firm, makes loans available 24/7, charging very high rates for very small, very short-term loans. But it offers the flexibility of loans for up to six months at rates similar to credit cards, once a customer
has demonstrated creditworthiness by paying back shorter-term loans. It also offers free financial education online to encourage sound decision-making.\”

In short, the high fees charged by payday lenders may be excessive not just in the knee-jerk sense, but also in a narrowly economic sense: they seem to be attracting competitors who will drive down the price.

Lyndon Johnson\’s War on Poverty Speech

Lyndon Johnson declared \”war on poverty\” during his State of the Union address on January 8, 1964. A half-century later, here are a few things that struck me in looking back at that speech.

1) Johnson is frontal and direct in declaring the War on Poverty. As one example of several, he says: \”This administration today, here and now, declares unconditional war on poverty in America. … It will not be a short or easy struggle, no single weapon or strategy will suffice, but we shall not rest until that war is won. The richest Nation on earth can afford to win it. We cannot afford to lose it. … Poverty is a national problem, requiring improved national organization and support. But this attack, to be effective, must also be organized at the State and the local level and must be supported and directed by State and local efforts. For the war against poverty will not be won here in Washington. It must be won in the field, in every private home, in every public office, from the courthouse to the White House.\”

2) Johnson\’s announced strategy in the War on Poverty is focused on offering a fair opportunity to all, not on redistribution of income. He said, \”Our chief weapons in a more pinpointed attack will be better schools, and better health, and better homes, and better training, and better job opportunities to help more Americans, especially young Americans, escape from squalor and misery and unemployment rolls where other citizens help to carry them. Very often a lack of jobs and money is not the cause of poverty, but the symptom. The cause may lie deeper in our failure to give our fellow citizens a fair chance to develop their own capacities, in a lack of education and training, in a lack of medical care and housing, in a lack of decent communities in which to live and bring up their children.\”

3) Johnson combines the War on Poverty with a pledge for lower spending, lower budget deficits, and reduced federal employment. Johnson said: \”For my part, I pledge a progressive administration which is efficient, and honest and frugal. The budget to be submitted to the Congress shortly is in full accord with this pledge. It will cut our deficit in half–from $10 billion to $4,900 million. It will be, in proportion to our national output, the smallest budget since 1951. It will call for a substantial reduction in Federal employment, a feat accomplished only once before in the last 10 years. While maintaining the full strength of our combat defenses, it will call for the lowest number of civilian personnel in the Department of Defense since 1950.\”

These promises were largely kept. The budget deficit was 0.9% of GDP in 1964, and LBJ pledged to make it still smaller. Indeed, the deficits were 0.2% of GDP in 1965 and 0.5% of GDP in 1966. After the enormous levels of debt taken on to fight World War II, the economy grew faster than the government debt through the 1950s and 1960s. In particular, the ratio of  federal debt held by the public had  been 108% in 1964, but it had already declined from 40% in 1964 and fell further to 28% by 1970.

4) Johnson\’s War on Poverty comes when the U.S. economy is about to run white-hot. In January 1964, the unemployment rate was 5.6% as the U.S. economy emerged from a recession that had bottomed out in February 1961. By February 1966, the monthly unemployment rate would fall under 4%, and would stay there through January of 1970. There has been a widespread belief among economists that the \”guns and butter\” policies of that time (that is, a combination of the Vietnam war and new social program) helped pave the way for some of the inflationary pressures of the 1970s. But the powerful economic growth made it an ideal time to seek to reduce poverty.

5) Johnson\’s war on poverty speech much shorter than modern State of the Union addresses. Checks in at about 3200 words. For comparison, Barack Obama\’s 2014 State of the Union address ran more than twice as long at over 6700 words.

6) The \”War on Poverty\” as defined in the 1960s has largely been won. Yes, the official poverty rate remains high, but the poverty rate is prone to some well-known difficulties: it doesn\’t take non-cash assistance programs like food stamps and Medicaid into account. Nor does it take into account that those with low-incomes today have access to technologies that affect their lives in so many ways, including household appliances, health, transportation, diet, and many more. When these kinds of factors are taken into account, we have largely won the war on poverty as the poverty level was defined it in 1964.

But this victory is a slippery one. Poverty is always defined in the context of a place and time. After all, Johnson could have pointed out that the U.S. had already largely won the war on poverty as poverty would have been defined a half-century before his speech, back in 1914. What it means to be poor in 2014 is in some ways quite different than in 1964, after the passage of Medicaid, the expansion of food stamps, the passage of the Civil Rights Act of 1964, and more. However, poverty in 2014–especially in terms of lack of opportunity for many Americans who lack support in their communities, schools, local economy, and sometimes their families–is a real and genuine problem of our own time and place.

Division of Labor: GM, Toyota and Adam Smith

One long-standing critique of capitalism portrays an alienated worker, mindlessly carrying out a repetitive task hour after hour. For example, here is a description of working on the assembly line at General Motors a few decades ago:

\”In the 1960s and 1970s, jobs on the General Motors assembly line were very narrowly defined; a worker would perform the same set of tasks—for example, screwing in several bolts—every 60 seconds for eight to ten hours per day. Workers were not expected or encouraged to do anything beyond this single task. Responsibility for the design and improvement of the assembly system was vested firmly in the hands of supervisors and manufacturing engineers, while vehicle quality was the responsibility of the quality department, which inspected vehicles as they came off the assembly line. GM’s managers were notorious for believing that blue collar workers had little—if anything—to contribute to the improvement of the production process …\”

The quotation is from Susan Helper and Rebecca Henderson in \”Management Practices, Relational 
Contracts, and the Decline of General Motors,\”  which appears in the most recent issue of the Journal of Economic Perspectives. (Like all JEP articles back to the first issue in 1987, it is freely available on-line courtesy of the American Economic Association.)  Of course, back in the 1960s in particular General Motors was an enormously successful and profitable firm, and so the extreme division of labor seemed to be working fine from the company\’s point of view. 
Both the notion that the division of labor can lead to enormous gains in output, and the concern that an extreme division of labor can be bad for workers, are themes in Adam Smith\’s The Wealth of Nations. (Here, I\’ll refer to the ever-useful version available online at the Library of Economics and Liberty.) Smith\’s well-known story of the division of labor in a pin factory comes almost immediately in Book I: indeed, the first chapter of Book I is entitled \”The Division of Labor.\” Smith discusses how the manufacturing of pins can be broken up into 18 separate tasks, and how after such a division of labor, small operations of 10 or more people (some doing multiple tasks) could then produce 48,000 pins per day. Smith hypothesizes that one person working alone, not knowing much about the specifics of pin manufacture, might be able to make only 20 pins per day–maybe only one. 
But in a lesser-known passages back in Book V of Smith\’s The Wealth of Nations discusses the perils of too great a division of labor. Smith writes: 

\”In the progress of the division of labour, the employment of the far greater part of those who live by labour, that is, of the great body of the people, comes to be confined to a few very simple operations, frequently to one or two. But the understandings of the greater part of men are necessarily formed by their ordinary employments. The man whose whole life is spent in performing a few simple operations, of which the effects are perhaps always the same, or very nearly the same, has no occasion to exert his understanding or to exercise his invention in finding out expedients for removing difficulties which never occur. He naturally loses, therefore, the habit of such exertion, and generally becomes as stupid and ignorant as it is possible for a human creature to become. The torpor of his mind renders him not only incapable of relishing or bearing a part in any rational conversation, but of conceiving any generous, noble, or tender sentiment, and consequently of forming any just judgment concerning many even of the ordinary duties of private life. Of the great and extensive interests of his country he is altogether incapable of judging, and unless very particular pains have been taken to render him otherwise, he is equally incapable of defending his country in war. The uniformity of his stationary life naturally corrupts the courage of his mind, and makes him regard with abhorrence the irregular, uncertain, and adventurous life of a soldier. It corrupts even the activity of his body, and renders him incapable of exerting his strength with vigour and perseverance in any other employment than that to which he has been bred. His dexterity at his own particular trade seems, in this manner, to be acquired at the expence of his intellectual, social, and martial virtues. But in every improved and civilized society this is the state into which the labouring poor, that is, the great body of the people, must necessarily fall, unless government takes some pains to prevent it.\”

You\’ll occasionally hear someone say that \”Adam Smith never really considered the downside of the division of labor,\” which is clearly incorrect. Indeed, Smith goes on to make this argument one basis for his argument for government support of public education for everyone.

For GM, the extreme division of labor ended up not working well. Helper and Henderson quote an autoworker named Joel Smith about what it was like working at GM back in those days. Smith said:

In the old days, we fought for job security in various ways: “Slow down, don’t work so fast.” “Don’t show that guy next door how to do your job—management will get one of you to do both of your jobs.” “Every now and then, throw a monkey wrench into the whole thing so the equipment breaks down—the repair people will have to come in and we’ll be able to sit around and drink coffee. They may even have to hire another guy and that’ll put me further up on the seniority list.

Management would respond in kind: “Kick ass and take names. The dumb bastards don’t know what they’re doing.” . . . Management was looking for employees who they could bully into doing the job the way they wanted it done. The message was simply: “If you don’t do it my way I’ll fire you and put somebody in who will. There are ten more guys at the door looking for your job.”

In contrast, Toyota plants were built on division of labor, too, but the treatment of workers was quite different. Helper and Henderson explain:

Jobs on Toyota’s production line were even more precisely specified: for example, standardized work instructions specified which hand should be used to pick up each bolt. However, Toyota’s employees had a much broader range of responsibilities. Each worker was extensively cross-trained and was expected to be able to handle six to eight different jobs on the line. They were also responsible for both the quality of the vehicle and for the continual improvement of the production process itself. Each worker was expected to identify quality problems as they occurred, to pull the “andon” cord that was located at each assembly station to summon help to solve them in real time, and if necessary to pull the andon cord again to stop the entire production line. Workers were also expected to play an active role in teams that had responsibility for “continuous improvement” or for identifying improvements to the process that might increase the speed or efficiency of the line. As part of this process, workers were trained in statistical process control and in experimental design.

A similar difference applied in how GM and Toyota dealt with suppliers. GM told suppliers what to make with a detailed blueprint, and then more-or-less told the suppliers to shut up and make it. Toyota and the Japanese firms fostered long-term relationships with suppliers where they collected more data and used it to encourage innovation, while still bargaining hard on price. Helper and Henderson make a persuasive case that a primary reason why GM saw its US market share fall from 50% in the 1960s and 1970s to less than 20% in recent years, and needed to be rescued from bankruptcy with a government bailout in 2009, is in large part because of GM\’s inability to change its culture and build productive relationships between its workers and suppliers.

Maybe the division of labor isn\’t the enemy: instead, maybe it\’s particular managers who have little or no respect for what the actual workers can know or contribute. Of course, that problem isn\’t particular to capitalism. Managers of factories in government-owned firms or planned economies were quite susceptible to it as well. Indeed, one might argue that modern firms which outsource tasks to foreign producers for nothing more than a cheap pair of hands have often ended up discovering the potential downsides of such a relationship. As the sociologist Emile Durkheim argued in his 1893 book, The Division of Labor, a division of labor in a modern society (especially when backed by support for education and training as supported by Adam Smith) can be a way of both strengthening social ties and offering freedom and opportunity for individuals.

Administrators and Part-Timers: Changes in U.S. Higher Education Workforce

U.S. higher education has been seeing three main changes in staffing patterns in the last decade or so: 1) part-time faculty are way up; 2) administrators are way up; 3) and staff are down. In the middle of all this, the number and pay of full-time tenure track faculty hasn\’t changed much. Donna M. Desrochers and Rita Kirshstein describe the patters in  \”Labor Intensive or  Labor Expensive? Changing Staffing and Compensation Patterns in Higher Education,\” as a Februrary 2014 \”Issue Brief\” for the Delta Cost Project at the American Institutes of Research. The analysis is based on a dataset maintained by the National Center for Education Statistics. Here is some of the evidence that caught my eye.

The total number of employees U.S. higher education rose 25% from 2000 to 2012–but the nubmer fo students in higher education increased, too. Thus, when looking at employees in higher education, it is most useful to adjust for the number of students. This figure shows that among public institutions, the number of employees per 1,000 students has been flat or declining since 2000. For private institutions, which tend to have greater financial resources, it has been rising. Research institutions have more employees, because running the administrative apparatus requires them.

But within these overall employee numbers, a shift is occurring. This figure shows changes in different categories of employees over time just for research universities, again expressed per 1,000 full-time equivalent students.

Overall, full time faculty are about 20-25% of the employees in higher education, with the number being a little lower in research-oriented institutions and higher in teaching-oriented institution. The number of faculty relative to the number of students (the blue line) has barely budged in the public research universities, and has risen in the private ones.  But even among full-time faculty, the share with a time-limited contract instead of a conventional tenure arrangement is declining: \”Among full-time faculty only, the share of non-tenure-track professors increased about 3 percentage points between 2004 and 2012. By 2012, these non-tenure track positions represented more than one third of assistant professors, 18 percent of associate professors, and 12 percent of full professors …\”

Part-time faculty, shown by the purple line in the earlier figure, have risen. Again, looking at faculty per 1,000 students, the number of full-time faculty has risen only at private research universities. In other types of institutions, the number of full-time faculty has either stayed constant with the number of students or dropped–while the share of part-timers per student has risen among all institutions.

The number of professional staff per student has risen substantially, as shown by the orange line above. The study offers this definition: \”Professional (support and service): Positions that provide student services, academic, or professional support and generally require a bachelor’s degree. Examples include business/financial analysts, human resources staff, computer administrators, counselors, lawyers, librarians, athletic staff, and health workers.\”

In both types of research universities, the number of \”nonprofessional\” staff–technical, clerical, service/maintenance–has fallen relative to the number of students. This group is about one-quarter of the employees at higher education institutions. What has actually happened here is the total number of these employees hasn\’t changed much, but they are serving a larger number of students over time–probably due in part to the information technology revolution.

The picture that emerges from all this is fairly clear. When it comes to employment, colleges and universities have tried to hold down faculty costs in dealing with the expanding numbers of students by the use of time-contract faculty and part-timers. The nonprofessional staff are dealing with the increased number of students by using improved information technology and other capital investments, without a need for  a higher total number of staff. But the number of professional staff is rising, both in absolute terms and relative to the number of students. Desrochers and Kirshstein report these patterns in a neutral tone: \”Growing numbers of administrative positions (executive and professional) and
changes in faculty composition represent long-standing trends. The shifting balance among these positions has played out steadily over time in favor of administrators, and it is unclear when a tipping point may be near. Whether this administrative growth constitutes unnecessary “bloat” or is justified as part of the complexities involved in running a modern-day university remains up for debate.\”

I\’ll only add that institutions are defined by their people. As the full-time and tenured faculty become a smaller share of the employees of the institution and the professional administrators become a larger share, the nature and character of the institution inevitably changes. In this case, colleges and universities have become less about faculty, teaching, and research, and more about the provision of professional services to students and faculty. As far as I know, this shift was not planned or chosen, and the costs and benefits of such a shift were not analyzed in advance. It just happened.

Winter 2014 Journal of Economic Perspectives is Live!

The Winter 2014 issue of the Journal of Economic Perspectives is now freely available on-line, courtesy of the publisher, the American Economic Association. Indeed, not only this issue but all previous issues back to 1987 are available. (Full disclosure: I\’ve been the Managing Editor since the journal started, so this issue is #107 for me.) I\’ll probably blog about some of these articles in the next week or two. But for now, I\’ll first list the table of contents, and then below will provide abstracts of articles and weblinks.

Symposium: Manufacturing
\”US Manufacturing: Understanding Its Past and Its Potential Future,\” by Martin Neil Baily and Barry P. Bosworth
\”Competing in Advanced Manufacturing: The Need for Improved Growth Models and Policies,\” by Gregory Tassey
\”Management Practices, Relational Contracts, and the Decline of General Motors,\” by Susan Helper and Rebecca Henderson

Symposium: Agriculture
\”Global Biofuels: Key to the Puzzle of Grain Market Behavior,\” by Brian Wright
\”Agricultural Biotechnology: The Promise and Prospects of Genetically Modified Crops,\” by Geoffrey Barrows, Steven Sexton and David Zilberman
\”Agriculture in the Global Economy,\” by Julian M. Alston and Philip G. Pardey
\”American Farms Keep Growing: Size, Productivity, and Policy,\” by Daniel A. Sumner

\”From Sick Man of Europe to Economic Superstar: Germany\’s Resurgent Economy,\” by Christian Dustmann, Bernd Fitzenberger, Uta Schönberg and Alexandra Spitz-Oener
\”When Ideas Trump Interests: Preferences, Worldviews, and Policy Innovations,\” by Dani Rodrik
\”An Economist\’s Guide to Visualizing Data,\” by Jonathan A. Schwabish

\”Recommendations for Further Reading,\” by Timothy Taylor
\”Correspondence: The One Percent,\”  Robert Solow, N. Gregory Mankiw, Richard V. Burkhauser, and Jeff Larrimore


And here are the abstracts and links:

Symposium: Manufacturing

US Manufacturing: Understanding Its Past and Its Potential Future
Martin Neil Baily and Barry P. Bosworth
The development of the US manufacturing sector over the last half-century displays two striking and somewhat contradictory features: 1) the growth of real output in the US manufacturing sector, measured by real value added, has equaled or exceeded that of total GDP, keeping the manufacturing share of the economy constant in price-adjusted terms; and 2) there is a long-standing decline in the share of total employment attributable to manufacturing. The persistence of these trends seems inconsistent with stories of a recent or sudden crisis in the US manufacturing sector. After all, as recently as 2010, the United States had the world\’s largest manufacturing sector measured by its valued-added, and while it has now been surpassed by China, the United States remains a very large manufacturer. On the other hand, there are some potential causes for concern. First, though manufacturing\’s output share of GDP has remained stable over 50 years, and manufacturing retains a reputation as a sector of rapid productivity improvements, this is largely due to the spectacular performance of one subsector of manufacturing: computers and electronics. Second, recently there has been a large drop in the absolute level of manufacturing employment that many find alarming. Third, the US manufacturing sector runs an enormous trade deficit, equaling $460 billion in 2012, which is also very concentrated in trade with Asia. Finally, we consider the future evolution of the manufacturing sector and its importance for the US economy. Many of the largest US corporations continue to shift their production facilities overseas. It is important to understand why the United States is not perceived to be an attractive base for their production.
Full-Text Access | Supplementary Materials

Competing in Advanced Manufacturing: The Need for Improved Growth Models and Policies
Gregory Tassey
The United States has underinvested for several decades in a set of productivity-enhancing assets necessary for the long-term health of its manufacturing sector. Conventional characterizations of the process of bringing new advanced manufacturing products to market usually leave out two important elements: One is \”proof-of-concept research\” to establish broad \”technology platforms\” that can then be used as a basis for developing actual products. The second is a technical infrastructure of \”infratechnologies\” that include the analytical tools and standards needed for measuring and classifying the components of the new technology; metrics and methods for determining the adequacy of the multiple performance attributes of the technology; and the interfaces among hardware and software components that must work together for a complex product to perform as specified. If the public–private dynamics are not properly aligned to encourage proof-of-concept research and needed infratechnologies, then promising advances in basic science can easily fall into a \”valley of death\” and fail to evolve into modern advanced manufacturing technologies that are ready for the marketplace. Each major technology has a degree of uniqueness that demands government support sufficiently sophisticated to allow efficient adaptation to the needs of its particular industry, whether semiconductors, pharmaceuticals, computers, communications equipment, medical equipment, or some other technology-based industry.
Full-Text Access | Supplementary Materials

Management Practices, Relational Contracts, and the Decline of General Motors
Susan Helper and Rebecca Henderson
General Motors was once regarded as the best-managed and most successful firm in the world. However, between 1980 and 2009, GM\’s US market share fell from 46 to 20 percent, and in 2009 the firm went bankrupt. We argue that the conventional explanation for this decline—namely high legacy labor and healthcare costs—is seriously incomplete, and that GM\’s share collapsed for many of the same reasons that many highly successful American firms of the 1960s were forced from the market, including a failure to understand the nature of the competition they faced and an inability to respond effectively once they did. We focus particularly on the problems GM encountered in developing the relational contracts essential to modern design and manufacturing, and we discuss a number of possible causes for these difficulties. We suggest that GM\’s experience may have important implications for our understanding of the role of management in the modern, knowledge-based firm and for the potential revival of manufacturing in the United States.
Full-Text Access | Supplementary Materials

Symposium: Agriculture

Global Biofuels: Key to the Puzzle of Grain Market Behavior
Brian Wright
In the last half-decade, sharp jumps in the prices of wheat, rice, and corn, which furnish about two-thirds of the calorie requirements of mankind, have attracted worldwide attention. These price jumps in grains have also revealed the chaotic state of economic analysis of agricultural commodity markets. Economists and scientists have engaged in a blame game, apportioning percentages of responsibility for the price spikes to bewildering lists of factors, which include a surge in meat consumption, idiosyncratic regional droughts and fires, speculative bubbles, a new \”financialization\” of grain markets, the slowdown of global agricultural research spending, jumps in costs of energy, and more. Several observers have claimed to identify a \”perfect storm\” in the grain markets in 2007/2008, a confluence of some of the factors listed above. In fact, the price jumps since 2005 are best explained by the new policies causing a sustained surge in demand for biofuels. The rises in food prices since 2004 have generated huge wealth transfers to global landholders, agricultural input suppliers, and biofuels producers. The losers have been net consumers of food, including large numbers of the world\’s poorest peoples. The cause of this large global redistribution was no perfect storm. Far from being a natural catastrophe, it was the result of new policies to allow and require increased use of grain and oilseed for production of biofuels. Leading this trend were the wealthy countries, initially misinformed about the true global environmental and distributional implications.
Full-Text Access | Supplementary Materials

Agricultural Biotechnology: The Promise and Prospects of Genetically Modified Crops
Geoffrey Barrows, Steven Sexton and David Zilberman
For millennia, humans have modified plant genes in order to develop crops best suited for food, fiber, feed, and energy production. Conventional plant breeding remains inherently random and slow, constrained by the availability of desirable traits in closely related plant species. In contrast, agricultural biotechnology employs the modern tools of genetic engineering to reduce uncertainty and breeding time and to transfer traits from more distantly related plants. Critics express concerns that the technology imposes negative environmental effects and jeopardizes the health of those who consume the \”frankenfoods.\” Supporters emphasize potential gains from boosting output and lowering food prices for consumers. They argue that such gains are achieved contemporaneous with the adoption of farming practices that lower agrochemical use and lessen soil. The extensive experience with agricultural biotechnology since 1996 provides ample evidence with which to test the claims of supporters and opponents and to evaluate the prospects of genetic crop engineering. In this paper, we begin with an overview of the adoption of the first generation of agricultural biotechnology crops. We then look at the evidence on the effects of these crops: on output and prices, on the environment, and on consumer health. Finally, we consider intellectual property issues surrounding this new technology.
Full-Text Access | Supplementary Materials

Agriculture in the Global Economy
Julian M. Alston and Philip G. Pardey
The past 50-100 years have witnessed dramatic changes in agricultural production and productivity, driven to a great extent by public and private investments in agricultural research, with profound implications especially for the world\’s poor. In this article, we first discuss how the high-income countries like the United States represent a declining share of global agricultural output while middle-income countries like China, India, Brazil, and Indonesia represent a rising share. We then look at the differing patterns of agricultural inputs across countries and the divergent productivity paths taken by their agricultural sectors. Next we examine productivity more closely and the evidence that the global rate of agricultural productivity growth is declining—with potentially serious prospects for the price and availability of food for the poorest people in the world. Finally we consider patterns of agricultural research and development efforts.
Full-Text Access | Supplementary Materials

American Farms Keep Growing: Size, Productivity, and Policy
Daniel A. Sumner
Commercial agriculture in the United States is comprised of several hundred thousand farms, and these farms continue to become larger and fewer. The size of commercial farms is sometimes best-measured by sales, in other cases by acreage, and in still other cases by quantity produced of specific commodities, but for many commodities, size has doubled and doubled again in a generation. This article summarizes the economics of commercial agriculture in the United States, focusing on growth in farm size and other changes in size distribution in recent decades. I also consider the relationships between farm size distributions and farm productivity growth and farm subsidy policy.
Full-Text Access | Supplementary Materials


From Sick Man of Europe to Economic Superstar: Germany\’s Resurgent Economy
Christian Dustmann, Bernd Fitzenberger, Uta Schönberg and Alexandra Spitz-Oener
In the late 1990s and into the early 2000s, Germany was often called \”the sick man of Europe.\” Indeed, Germany\’s economic growth averaged only about 1.2 percent per year from 1998 to 2005, including a recession in 2003, and unemployment rates rose from 9.2 percent in 1998 to 11.1 percent in 2005. Today, after the Great Recession, Germany is described as an \”economic superstar.\” In contrast to most of its European neighbors and the United States, Germany experienced almost no increase in unemployment during the Great Recession, despite a sharp decline in GDP in 2008 and 2009. Germany\’s exports reached an all-time record of $1.738 trillion in 2011, which is roughly equal to half of Germany\’s GDP, or 7.7 percent of world exports. Even the euro crisis seems not to have been able to stop Germany\’s strengthening economy and employment. How did Germany, with the fourth-largest GDP in the world transform itself from \”the sick man of Europe\” to an \”economic superstar\” in less than a decade? We present evidence that the specific governance structure of the German labor market institutions allowed them to react flexibly in a time of extraordinary economic circumstances, and that this distinctive characteristic of its labor market institutions has been the main reason for Germany\’s economic success over the last decade.
Full-Text Access | Supplementary Materials

When Ideas Trump Interests: Preferences, Worldviews, and Policy Innovations
Dani Rodrik
Ideas are strangely absent from modern models of political economy. In most prevailing theories of policy choice, the dominant role is instead played by \”vested interests\”—elites, lobbies, and rent-seeking groups which get their way at the expense of the general public. Any model of political economy in which organized interests do not figure prominently is likely to remain vacuous and incomplete. But it does not follow from this that interests are the ultimate determinant of political outcomes. Here I will challenge the notion that there is a well-defined mapping from \”interests\” to outcomes. This mapping depends on many unstated assumptions about the ideas that political agents have about: 1) what they are maximizing, 2) how the world works, and 3) the set of tools they have at their disposal to further their interests. Importantly, these ideas are subject to both manipulation and innovation, making them part of the political game. There is, in fact, a direct parallel, as I will show, between inventive activity in technology, which economists now routinely make endogenous in their models, and investment in persuasion and policy innovation in the political arena. I focus specifically on models professing to explain economic inefficiency and argue that outcomes in such models are determined as much by the ideas that elites are presumed to have on feasible strategies as by vested interests themselves. A corollary is that new ideas about policy—or policy entrepreneurship—can exert an independent effect on equilibrium outcomes even in the absence of changes in the configuration of political power. I conclude by discussing the sources of new ideas.
Full-Text Access | Supplementary Materials

An Economist\’s Guide to Visualizing Data
Jonathan A. Schwabish
Once upon a time, a picture was worth a thousand words. But with online news, blogs, and social media, a good picture can now be worth so much more. Economists who want to disseminate their research, both inside and outside the seminar room, should invest some time in thinking about how to construct compelling and effective graphics.
Full-Text Access | Supplementary Materials


Recommendations for Further Reading
Timothy Taylor
Full-Text Access | Supplementary Materials

Correspondence: The One Percent
Robert Solow, N. Gregory Mankiw, Richard V. Burkhauser, and Jeff Larrimore
Full-Text Access | Supplementary Materials

Halfway to Full Economic Recovery

Since the Great Recession officially ended about 4 1/2 years ago back in June 2009, the natural question has been: When does the U.S. economy get that jolt of bounceback growth to make up for what was lost? The Congressional Budget Office gives its answer in its just-published report \”The Budget and Economic Outlook: 2014 to 2024:\” \”CBO projects that real GDP will grow notably faster over
the next few years than it has over the past few years. On a fourth-quarter-to-fourth-quarter basis, real GDP is projected to increase by 3.1 percent this year, by 3.4 percent per year in 2015 and 2016, and by 2.7 percent in 2017 … By the second half of 2017, CBO projects, real GDP will return to its average historical relationship with potential (or maximum sustainable) GDP …\”

In short, although the prediction is that the U.S. economy is roughly halfway from the end of the recession to a full economic recovery, this is a case where the glass is actually half-full, rather than half-empty, because the heartier period of economic growth is coming. Here are a few of the details.

Here\’s a figure showing how the Great Recession reduced economic output below its potential, and the CBO projection for bounceback in the next few years.

Household wealth relative to income, which took an enormous hit during the Great Recession from the double-whammy of falling housing prices and a falling stock market, has now moved back to higher levels.

However, business investment hasn\’t only just started its bounceback, and the CBO projections suggest that it will be leading the way in the next few years.

What about the unemployment rate and the labor market? The CBO has also just published \”The Slow Recovery of the Labor Market\” to tackle that subject. The grim fact here is that after the end of the average U.S. recession, the number of jobs takes a couple of quarters to start growing again. But after the  end of the Great Recession, the number of jobs kept falling, and has been slower to recover (as shown by the flatter slope of the lower line in the figure).

Yes, the unemployment rate has fallen from 10% in October 2009 to 6.7% in December 2013, which is painfully slow but still better than a sharp stick in the eye. How much of the remaining unemployment is because of a lack of demand in the economy, and how much is because of \”skill mismatches\”? Here\’s the CBO:

Of the roughly 2 percentage-point net increase in the rate of unemployment between the end of 2007 and the end of 2013, about 1 percentage point was the result of cyclical weakness in the demand for goods and services, and about 1 percentage point arose from structural factors; those factors are chiefly the stigma workers face and the erosion of skills that can stem from long-term unemployment (together worth about one-half of a percentage point of increase in the unemployment rate) and a decrease in the efficiency with which employers are filling vacancies (probably at least in part as a result of mismatches in skills and locations, and also worth about one-half of a percentage point of the increase in the unemployment rate).

But even with the lower overall unemployment rate, the long-term rate of unemployment–that is, the unemployment rate where joblessness has lasted more than 26 weeks–remains historically high.

Also, the share of U.S. workers participating in labor force has declined, which raises the possibility that at least some of them would have preferred to keep working, but became discouraged about their job prospects and gave up. Notice, however, that the decline in labor force participation actually started back around 2000. It was fairly well-known among economists that as the period in which women were pouring into the (paid) labor force came to and end, and as the Baby Boom generation aged, and as a greater share of young people started to attend college, labor force participation rates would tend to drop off.

So the difficult question is how much of the decline in labor force participation is a result of these longer-term trends, and how much is a result of discouraged workers leaving the workforce because of the Great Recession? Here\’s how the CBO answers that question:

Of the roughly 3 percentage-point net decline in the labor force participation rate between the end of 2007 and the end of 2013, about 1½ percentage points was the result of long-term trends (primarily the aging of the population), about 1 percentage point was the result of temporary weakness in employment prospects and wages, and about one-half of a percentage point was attributable to unusual aspects of the slow recovery that led workers to become discouraged and permanently drop out of the labor force.