When jobs are being lost think macro first

I am taking the easy way out today. I have a number of meetings today and also several deadlines coming up for work that I am doing. As a result, I decided to re-cycle some work I did on Friday (early), which was written for the Fairfax press daily newspaper – The Age – as a commissioned Op Ed contribution. Friday was ridiculous when I think back – I had to squeeze more than Archimedes would recommend if I was dealing with liquid into the time available. So today, what comes around goes around – to my favour. The Op Ed was 800 odd words on a complex topic so today, by way of reference, I thought I would add a few sentences to the 800 words to provide more explanation of the points. The background was that a few high profile firms announced fairly large job cuts last week in Australia which lead to a stream of media headlines and calls for government assistance, both short-run in the form of cash bailouts and longer-term, more protection (tariffs etc). The macroeconomics of the situation, however, has not been seized upon by the media, which goes to the heart of the problem. The debate tends to focus on aspects of an issue, which are less important, and, ironically, in this case, are changes which are largely beneficial (structural change), but, ignoring the issues which cause the most damage (those relating to output gaps).

You can read the original Op Ed – Hat-in-hand pleas for help are no big-picture solution – which was the title the editors gave the contribution – not my choice.

Here is the front cover of the on-line edition of The Age.

Here is my extended text

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In the last week, steel manufacturer, BlueScope and construction materials firm, Boral announced job cuts – 170 and 800, respectively. The cuts attracted considerable national media attention and governments (both state and federal) are being pressured to provide immediate bailouts and there are even calls from unions to rethink our approach to tariff protection.

This always happen when a high-profile firm announces job losses of this magnitude. The media amplifies the official press announcements from the firms and all manner of interpretations emerge to explain what lies behind the job losses. The debate quickly descends in nationalist debates, which seem oblivious to the reality of global, multinational firms. But the overriding view that the public gets is that things are bad.

However some perspective is needed.

Last week, the Australian Bureau of Statistics published the latest Labour Force data, which showed that in seasonally adjusted terms, total employment fell by 5,500 in December 2012. This is a net figure – the final result.

The unadjusted ABS gross flows data, also published last week, shows that 80 thousand workers, who were unemployed in November, found jobs in December and 105 thousand workers, who were employed in November, were jobless by December. Huge monthly flows also occur in and out of the labour force (retirement, new entrants, etc).

The two sources of data are slightly different but the point remains. Please read my blog – What can the gross flows tell us? – for more discussion on how gross flows data varies from the standard labour force results published every month.

So while the 800 jobs lost at Boral and the 170 jobs to be shed by BlueScope represent a tragedy for the retrenched workers and their families, they are but are a tiny speck in the ocean of jobs that are destroyed and created every week in Australia. The labour market is continually creating and destroying jobs in the thousands.

While 800 jobs is small beer when considering how dynamic the labour market is, one of the reasons there is such a media profile is that the manufacturing industry is spatially concentrated and tends to be a major employer in localised areas. Smaller regional firms also tend to be dependent on a larger firm by way of the latter’s demand for ancillary services (for example, components supply etc).

The spatial concentration of manufacturing means that job losses for a particular firm, while small from a national perspective, are still very damaging for a local region.

So should we worry about the small cuts at Boral and Bluescope?

There is a structural and a cyclical dimension to my answer. The first dimension is inevitable and largely beneficial yet we worry about it the most. The second dimension involves masses losses of national income yet we allow our governments to largely ignore it.

This seems to be one of the characteristics of the neo-liberal period – to concentrate our minds on small things so that we ignore the large things that would lead us to question more readily the validity of the policy paradigm.

A manifestation of this diversion has been the way that the policy focus has shifted to so-called microeconomic inefficiencies – for example, whether trains runs exactly on time; or whether a public enterprise is efficient relative to what it would be perform like in private ownership.

I have made this point before but like all things that are easily forgotten it is worth keeping it in our minds.

There is a lovely quote from 1977 (Page 468) by the late James Tobin, which economists who read the blog will relate to:

Any economics student can expatiate on the inequities, distortions, and allocation of inefficiencies of controls or guideposts or tax rewards and penalties. But just consider the alternative. The microeconomic distortions of incomes policies would be trivial compared to the macroeconomic costs of prolonged underemployment of labor and capital. It takes a heap of Harberger triangles to fill an Okun Gap.

[Reference: Tobin, J. (1977) ‘How Dead is Keynes?’, Economic Inquiry, 15(4), 459-68].

Arnold Harberger was a University of Chicago economist/econometrician who coined the term “Hargberger Triangle” to denote the graphical area in a demand and supply graph that measures the deadweight loss arising from taxation. The triangle became an oft-used graphical device to portray microeconomic or so-called welfare losses in a variety of “markets”.

An Okun’s Gap (named after the US economist Arthur Okun) measures the loss in real output (income) arising from unemployment when an economy is operating below full employment because of demand constraints.

For afficionados, you might like to read this Letter to a Younger Generation which was written in 1998 by Arnold Harberger who is now 87 years old. He reflects on this quote.

Harberger said that:

Tobin was implicitly attributing as a social cost the entire gap between actual and potential GDP, and by innuendo criticising the approach of measuring costs solely in terms of the types of distortions usually considered in applied welfare economics. In effect, he was saying that the distortions approach misses the point, that it fails to capture the lion’s share of the real costs of a shortfall of output.

The simplest calculation reveals that the daily income losses alone of having that many people idle dwarf any reasonable estimate of microeconomic losses arising from the so-called “structural inefficiencies” or microeconomic rigidities (a favourite of the IMF) that have dominated public debate over the neo-liberal era.

It is just plain madness to ignore huge costs and then go about pursuing small costs (if they exist). One of the problems is that in pursuing these micro costs the government almost always will increase the macroeconomic costs.

We know that the losses encountered during a prolonged recession reverberate into tortured recoveries and that the damage that unemployment causes spans the generations.

Even before the crisis hit, these costs in most countries were huge as policy makers began using unemployment as a policy tool rather than a policy target as the obsession with inflation-targetting took hold.

Most people do not consider the irretrievable nature of these losses. Every day that unemployment remains above the full employment level (allowing for a small unemployment rate arising from frictions – people moving in-between jobs) the economy is foregoing billions in lost output and national income that is never recovered.

The magnitude of these losses and the fact that most commentators and policy makers prefer unemployment to direct job creation, shows the powerful hold that neo-liberal thinking has had on policy makers. How is it rational to tolerate these massive losses which span generations?

Further, these losses are a mystery to society in general. While the unemployed and their families are certainly aware of them, the remainder of the society are less aware. For example, we might notice rising crime rates in our neighbourhoods but do not associate it with unemployment.

What about structural change?

Economies undergo constant structural change as spending patterns vary, new technologies emerge, and nations become more or less competitive. Economic development typically involves lower wage nations competing away labour intensive positions from advanced nations. The displaced labour in the advanced nation is freed to work in more productive areas, including high-valued added parts of manufacturing and/or the service sector, which are relevant to higher income nations.

I am not suggesting that these transitions are painless. There has to be a Just Transition to ensure that the costs of economic restructuring do not fall on workers in targeted industries and their communities.

I dealt with the issue of a Just Transition in this blog – Australia’s response to climate change gets worse ….

These sort of adjustments, require government support and intervention to ensure that displaced workers are able to transit into the new industries and jobs quickly.

The Federal Government should introduce an integrated employment guarantee/skills development framework to maintain income security and capacity building.

On the question of incentives, I generally do not favour handing out public incentives to private firms. I see this as a denial of “capitalism”. If private firms want the returns then they should take the risk.

However, I do support public enterprise and partnerships with local not-for-profit co-operatives. There is so much need in the area of personal care and environmental care services now as populations age and the environmental damage of our past thoughtless industry and farming practices mount, that there is more than enough public sector work to be done to absorb displaced workers should that be required.

From a Modern Monetary Theory (MMT) perspective, there is no requirement that the national government raise revenue to fund major restructuring.

But the general point is that structural change is on-going and largely provides benefits to us all in the form of better and cheaper products, safer and less onerous workplaces, and more scope to develop higher-end uses of labour.

In Australia, it is clear manufacturing is in decline. In 1984, manufacturing was our largest employer (16.7 per cent of total employment). Retail was next (10.7 per cent). By 2012, health care was the largest (11.7 per cent of total), followed by retail (10.7 per cent), construction (8.8 per cent), then manufacturing (8.4 per cent). While still employing 972 thousand workers, manufacturing employment has contracted by 11 per cent since 1984. National employment has increased by 75 per cent since 1984.

Historically, tariff and other forms of protection insulated manufacturing firms from the realities of international trade. Our “infant industries” were protected to give them time to become competitive. In the early C20th, the “infant industry” argument was the primary way in which large-scale tariff protection was justified.

However, after 50 or more years of increasing protection, it was clear that the “baby” didn’t mature. The protection allowed the firms to generate significant profits which they then divvied up in sweetheart deals with the unions in the form of higher wages in order to buy off any industrial trouble.

The problem was that this cosy situation was not challenged by any policy initiatives that promoted productivity growth. Firms enjoyed the “protected” profits and had little incentive to invest in technology that would guarantee them the higher productivity that would ensure they could survive without protection.

Meanwhile, all consumers were forced to pay higher prices for locally-produced goods including cars and footwear. These products were not only expensive than would be the case if we were able to access imported goods without the tariff disadvantage, but they were often of a lower quality. The earlier cars, for example were badly designed, poorly built and had few accessories.

It wasn’t until the imported Japanese cars came with radios as standard fittings that we realised how bad our locally-produced products were.

The question that was suppressed was why should all of us incur these costs to ensure a smaller number had protected work?

Further, the essential aim of the exercise – to protect local jobs – was revealed to be futile. By the 1970s, manufacturing employment was falling despite rising protection levels. I recall a government report (I have lost the reference and quote) from the 1970s into the motor vehicles industry. The conclusion, from memory, was that the government could close the entire industry down and continue to pay the wages of the workers and save money. That was a damning indictment of the system of protection.

We thus supported government reductions in protection and incentives to firms to increase competitiveness. The federal government introduced programs to encourage, cajole, and force firms to seek productivity gains as the government reduced protection levels. Firms were encouraged to rationalise product lines (cut the number of models), and share technologies and products (for example, car manufacturers started sharing engines).

As a result, some manufacturing exports rose while other sectors (such as textiles, clothing and footwear) largely disappeared. Consumers were also able to enjoy cheaper imported goods, which in many cases were of superior quality.

The point is that going back to protection is not a viable option. Progressives and unionist often promote increased protection as a way to save local jobs, but in my view, they are misguided in this regard.

My attitude to structural change is nuanced however. Proponents of unfettered structural change tend to also promote free trade. Not only do I advocate structural adjustment frameworks being put in place (rather than ad hoc reactions whenever a crisis emerges), but I also eschew free trade.

However, governments should promote “fair” rather than “free” trade. Industry shifts to lower wage nations reduces world poverty and should be celebrated. But trade with nations that treat workers in ways that would be unlawful and/or morally unacceptable here should be banned. A large proportion of Chinese trade (both exports from here and imports from there) would fall foul of this rule.

It is disappointing that our governments have failed to draw the appropriate line. They have claimed that we should trade with despotic regimes to make them more democratic. They then turn a blind eye when major civil rights abuses are revealed. They are also selective in applying this rule.

When a nation is too small to worry about (say, North Korea) governments are quick to invoke the moral dimension – “we should boycott this country until they have got rid of their dictator” – or even invade the nation. But when China comes into the picture and the capitalist lobby starts making phone calls to Canberra – then it is different.

It is hypocrisy of the highest order and demonstrates who capitalist greed compromises human values and the sophistication of our societies.

While structural change causes pain, it also allows nations to develop new employment opportunities. Displaced labour is available to for new ventures. Dirty old steel jobs can become more more interesting and/or safer jobs.

Unfortunately, our governments, driven by erroneous neo-liberal beliefs in the market “god”, have abandoned regionally-focused industry policy. For example, with some strategic government assistance, manufacturing could prosper by producing renewable energy products.

This neglect has seen our regions endure persistently high unemployment and massive out-migration of the younger and more skilled workers. Some of our smaller regional towns have lost all services as a result of the shrinking employment base and are best described as decaying geriatric centres.

The evidence very clearly shows that the wage differentials (falling wages in declining areas and rising wages in growing areas) to not encourage new firms to move into declining areas. In general, market forces do not ensure that decaying regions become prosperous again. Planning and public investment and the provision of public sector job opportunities in these regions is required.

But governments now erroneously believe that markets self-regulate and maximise income and wealth. They clearly do not. This is a major public policy failure.

I also do not generally support short-term bailouts of struggling firms. There is a long record of government relief being repatriated to foreign head offices and local operations closing down soon after.

As part of this bailout mentality, large, foreign-owned firms have persuaded their workers to sacrifice pay and deliver productivity gains (largely through longer shifts etc) with the promise that their jobs would be saved. A few years later, after the head office management has been able to adjust their investment and set up alternative operations elsewhere (all kept secret from the workers), the firm closes and the workers lose their jobs after handing higher profits to the firm through their sacrifices.

That is a common plot and governments should avoid being part of deals like this. They virtually never yield benefits to the workforce or to the general public.

Bailouts are only sensible when industry is suffering temporary losses beyond their control – such as when a change in government policy or a natural disaster impacts.

Structural change is only one reason firms in the manufacturing sector are contracting.

The job losses at firms such as Boral and BlueScope are being exacerbated by the so-called “Dutch Disease”. Mining is enjoying record demand largely due to the growth of the Chinese economy.

It amuses me that those loath to accept the effectiveness of fiscal deficits fail to recognise that our mining boom is being driven by large and on-going Chinese government deficits.

The Dutch disease, which takes its name from the impact that the discovery and exploitation of North Sea oil had on Dutch agriculture, refers to the way in which exchange rate movements impact in a disparate fashion on the export side of the economy.

In Australia’s case, the mining boom has pushed the Australian dollar up and this has undermined our export competitiveness, which has damaged our other exporting sectors (such as manufacturing) which have not enjoyed the same commensurate increase in world demand as mining has enjoyed.

Government should not try to cure the disease with ad hoc responses. The better macroeconomic strategy is to promote strong national employment growth. The policy failure here is acute.

Structural change is smoother and less costly to individuals when the economy is growing strongly and workers can more easily transit between jobs.

The related fact is that while tens of thousands of jobs are created and destroyed each month, currently more jobs are being destroyed than are being created. The job losses at Boral and BlueScope are, in part, a reflection of an economy-wide failure to produce enough jobs or hours of work.

The Treasurer claims Australia is close to full employment but ABS data shows more than 12.5 per cent of the workforce are either unemployed or underemployed. The reality is that there is massive underutilised stocks of labour in the economy and the claim by the Treasurer is purely political, and, in my view, poor politics at that. Their day of reckoning is coming later this year when the federal election has to be held. Not that the alternative is anything to wish for.

The deteriorating labour market is exacerbating the on-going structural shifts by making it harder for workers to find alternative employment. A retrenched worker will currently remain unemployed on below poverty line unemployment benefits for an average of 44 weeks.

The two facts are directly related to deliberate government policy choices.

The federal government’s obsessive pursuit of a budget surplus has caused this malaise. Private spending is insufficient to generate enough jobs for all. In those circumstances, the federal government should run larger deficits.

And as they refuse to ensure aggregate demand is sufficient to generate enough jobs, they have deliberately held the unemployment benefit to be (increasingly) below the poverty line.

The result of this policy failure is now clear. Employment growth is faltering, unemployment is rising and workers are being retrenched.

Some of the workers retrenched last week by Boral and BlueScope are the product of our government’s work.

Conclusion

800 words become 3375 odd words.

Back to normal transmission tomorrow.

That is enough for today!

(c) Copyright 2013 Bill Mitchell. All Rights Reserved.