13 Jun 2010

Rationed demand to undermine labor

On the first day of class, the teacher will proudly raise the flag of economics in the front of the classroom. You know, that chart with the two crossing supply and demand lines, price on the Y axis quantity on the X axis. Where the two lines cross is the place where markets "clear" or are "equilibrium" that is to say the price and quantity things of value are bought and sold at. While this happens all the time in classroom in the real world this is a very rare occurrence. What happens when a market is not in equilibrium? Then the market is rationed. Rationed markets depend on quantities, and follow a simple rule; whichever is lesser, demand or supply, sets the transaction quantity.

Supply and demand in labor markets are almost never in equilibrium. How do you know? Because persistent involuntary unemployment exists. Lately mass unemployment exists, especially intense for workers without a college education. There is always more labor supply than there is demand for labor because of macroeconomic policy norms. Thus labor markets are rationed by the weak demand for labor. How do you know? Because for most job openings in the country there are multiple applicants. Even for most new college graduates the job prospects are not looking good, they are finding themselves involuntarily unemployed. In the city in which I type this blog, Chicago, there are presently five applicants for every job opening. This would push the minimum wage close to zero as job seekers compete with each other to take the scarce job for the lowest wage.

In the case of full employment, business would need to pay better, much closer to the additional benefit the company gains by hiring that additional worker. Companies would compete with each other for who could hire that scarce worker. That worker will enjoy more of the financial rewards the company receives.

The graph is a simplification and there are still a number of assumptions associated with it, you can see some of them discussed here but the fact is the number one most urgent problem facing America is unemployment. This can and should be fixed rapidly, not years from now. Everyone in society, from most business owners to the unemployed parents who did everything right would do better if we implemented policies of trickle up economics. As Bill Mitchell would say this type of problem is basically there are 100 dogs and only 94 bones. No amount of dog training will fix that. Increased demand for labor would result in well paid job creation and the benefits that come with it such as less child poverty, crime, anxiety, and overall a better mental life. One tried and tested method of quickly solving the jobs problem is to create a government as employer of last resort program. There will be those who will argue we can't afford it. This is the wrong way to think about it. The question to ask is can we afford high unemployment? If so how long and how deep before it's time to try something else?

Image source: Werner, Richard. The New Paradigm in Macroeconomics: Solving the Riddle of Japanese Macroeconomic Performance. 1st. New York: Palgrave MacMillan, 2005. 32. Print.

Update: Upon further investigation it is revealed Keynes quipped about classical economic thinking on this topic for the same reason I did and came up with the same conclusions but back in 1936. He added that a decrease in real wages could increase employment, but only if business expected the lower labor cost to increase profitability but this was an unlikely scenario. A decrease in wages might for example lead to a decrease in prices with the same level of employment. He argued decreasing wages which lead to lower effective demand can cause a deflationary spiral: Labor is cut to adjust to lower demand. Thus neither businesses nor labor are able to control effective demand. Thus we need the 'visible hand' of government to stimulate demand, but not take over what was already being demanded.