Inequality, Ezra, Paul, and the Unifying Theory (and Evidence)

December 14th, 2013 at 10:36 am

There’s an interesting back and forth going on between Paul K and Ezra K (or K x (P + E) if you want to use the distributive function, as you should given that this is an inequality discussion).

The President recently averred that inequality is the defining challenge of our time.  Ez argues that perhaps growth and unemployment better represent that challenge.  Paul offers four strong reasons why, no, inequality is a fine candidate for that role (of course, no one’s done more to promote demand-side growth policies than Paul, so he’s clearly not discounting that side of the argument).

Well, here’s a unifying theory: demand-side policies that that significantly lower unemployment will also reduce inequality.   It’s right there in figures 2.5-2.7 of my new book with Dean Baker on getting back to full employment.

A major factor driving inequality, particularly earnings’ gaps, is the diminished bargaining power of middle and low-wage workers.  In an economy like ours, with little (not-enough, IMHO) pressure from collective bargaining, low minimum wages, and a large low-wage sector relative to other advanced economies, very tight job markets are about the only friend working families have.

Just look at the first two pictures here.  Over the period when labor markets were tight 2/3′s of the time, incomes grew together.  Over the period when labor markets were tight 1/3 of the time, they grew apart.

Yes, yes–I’ll be the first to admit that there are a ton more moving parts–the absence of full employment is but part of the explanation for the sharp growth in inequality since the latter 1970s–but the more rigorous analysis in Baker/Bernstein finds this connection as well.

So we don’t have to choose whether to fight weak demand or high inequality.  Fight the former and you’ll help reduce the latter.

And yes, it’s a bit of a strange discussion given that the political system is fighting neither, though that’s not entirely true.  Sub-nationally, there’s stuff going on here, including infrastructure investment and minimum wage increases.

Finally, since I’m saying here that stronger demand can reduce inequality, am I not contradicting my recent work cited by both K’s which argues that linkages going the other way–high inequality leads to slower growth–are hard to find?  Nope.  First, clearly growth alone is insufficient to reduce inequality.  The economy’s been growing most of this time that inequality’s been increasing.  You need full employment, which btw, brings you back to Larry Summers’ concerns that were central to Ezra’s argument.

Second, my point here is that full employment enforces a more equitable distribution of growth.  That’s not saying anything about the impact of inequality on growth itself, though the theory I develop in my CAP paper does introduce what I think are potentially important feedback loops between inequality, debt bubbles, and recession, with a generous sprinkling of money-in-politics to close the loop.

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21 comments in reply to "Inequality, Ezra, Paul, and the Unifying Theory (and Evidence)"

  1. Perplexed says:

    Yes, and while haven’t reviewed how this changes the formula at the top, Dean Baker has weighed in on the discussion as well: http://www.cepr.net/index.php/blogs/beat-the-press/ezra-klein-misses-the-mark-inequality-and-unemployment-are-the-same-problem

    I repeat my reaction to his post here as well:

    Economists discover the world is not flat after all!

    It wonderful to see our prominent economic “scientists” finally beginning to question their religious beliefs and realizing that these beliefs just don’t fit the data in any plausible way. Why they were the last data analysts and mathematicians to see this huge discrepancy remains a mystery and something their “science” will need to address if it wishes to have any real credibility going forward. Millions have suffered needlessly as a resulted of their unfounded religious beliefs. We all owe a tremendous debt to Picketty & Saez for forcing the profession to confront the paradox of their faith and the real data. Unfortunately, while economists were in denial mode, our wealth inequality has reached .87 and our plutocrats have bought control of our legislature and elections. It will take a tremendous effort on the part of everyone to turn this around and minimize the damage going forward. If economists had just been honest about the extent of what they actually knew based on science and what they “knew” based on faith, those that wanted to turn a blind eye to the impacts of inequality for their own benefit at the expense of others would have a much more difficult time doing so.

    Hopefully economists will soon confront the faith-based notion that unemployment and “sticky prices” are some sort of “natural” phenomenon that’s a “fundamental” part of a “free market” and confront the fact the exclusion of labor (the product of the 95%) from anti-trust protections provided to all other producers is “unequal treatment” under the law and Constitutionally prohibited under the 14th Amendment, yet unenforced. If economists would “come clean” about how the Phillips curve is actually a measurement of the effects of this lack of access to a real market, maybe we’d all learn more about how unemployment plays a role in empowering employers to coerce workers and ultimately undermine their power. If everyone were bearing the costs of an output gap instead of dumping the full cost on a powerless minority, the pressure to do what’s best for working people and jobs would be tremendous. We the People need some real “scientists.” There are lots of other religions to choose from.

    Could this even lead to the measurement of rents and revival of the study of the real impacts of monopoly, price discrimination, and other forms government provided rents? Probably wishful thinking, but the possibilities of real “science” to improve peoples lives have surprised us in the past.


    • smith says:

      It seems this is an argument against the power of unions, sanctioned by government, and labor law like FLSA, to interfere with an individuals right to negotiate the sale of their own labor. This argument further makes the case that forcing an individual to abide by a union contract, or minimum wages, is akin to price fixing and violates the spirit (if not the letter) of anti-trust law.

      One may also note the government interferes with the labor market by regulating the number of hours that can be worked without receiving overtime (increased wage rates). Businesses get around that requirement by declaring their employees exempt.

      To continue along these lines, unemployment, or the threat of unemployment to those currently working, gives employers too much power over workers. In a less regulated labor market, the theory goes, if a worker lost his job, he could find another one, though that might mean lower wages. At low enough wages, there would be jobs for everyone, thus we find

      “everyone were bearing the costs of an output gap instead of dumping the full cost on a powerless minority”

      The “full cost of the powerless minority” are the unemployed who aren’t free to negotiate wages.

      Under depression conditions, with deflation, this wouldn’t hold, because 1930-1932 were absent New Deal labor statutes. Unemployment was still a big problem.

      I would argue labor law (restrictions or protections depending on your point of view) serve a vital function, are healthy for the U.S. economy, and need to be enhanced, not curtailed.


      • Perplexed says:

        -”It seems this is an argument against the power of unions, sanctioned by government, and labor law like FLSA, to interfere with an individuals right to negotiate the sale of their own labor.”

        No, that would be a “straw man” argument that is quite different from the one I’m making. The argument I’m making is that exempting labor from the list of commodities that are protected by anti-trust laws is “prima facie” evidence of unequal protection under the law and is therefore Unconstitutional. If labor were protected from anti-trust, those excluded from the market by others could sue and collect treble damages as the 1914 Clayton Act allows. This would prevent them from being victims of “tyranny of the majority” as is the intent of many of our Constitutional protections. It was a very well understood risk of “democratic” rule that, unless minorities were protected from certain acts, they would be extremely vulnerable to tyranny of the majority in a democracy. It was ultimately, the single biggest drawback to that form of government. What we see in unemployment (and the move to cut unemployment benefits) is exactly the predicted outcome of just how these types of tyrannies play out in practice; read de Tocqueville (summary here: http://www.democracyweb.org/majority/principles.php).

        Think through the implications of the counter-factual, that of actually enforcing equal protections as was intended (actually, not just intended, enacted and incorporated into the Constitution). If people were prevented access to the market, they would sue those denying them access and be fully compensated (and then some). This would halt the practice altogether and force society to solve the problem in another way (you have to be an economist or a plutocrat to believe that there are no other possible solutions to solving this problem). Removing denial of access to the market and tyranny of the majority from the set of possible solutions would spur the creativity of economists to focus on what the best alternatives would be i.e. job sharing, reduced work hours, days, or weeks, adequate compensation that would focus only on those that were looking to work, etc., etc., etc. It would also derail the opposition to providing benefits as the jobs of those who are now eager to do so, would now be subject to competitive pressure instead of protected from price competition. What would the implications be then for legislatures who adopted policies that shipped jobs overseas or permitted currency manipulation that resulted in huge trade imbalances? Their lobbyists and plutocratic supporters probably would no longer be able to afford to keep them in office, even with the help of the news entertainment businesses they now own.

        The possibilities are endless. In addition, there would be other advantages as well, i.e. it would result in more money flowing through the economy in times of recession as the pressure to deficit spend and tax would be quite enormous, a real automatic stabilizer, lots of angry voters instead of apowerless few. But, best of all, whatever solution is ultimately adopted would be much more humane and fair than what we are now doing.

        We should trust that capitalism is capable of finding creative solutions that are consistent with democratic goals and isn’t reliant on market manipulation and tyranny of the majority to sustain itself. If it isn’t, maybe we should be working on a replacement that is.


  2. Tom in MN says:

    It seems to me that PK has lately said favorable things about moving to a higher inflation target. This would seem to push the normal conditions more toward full employment — are you heading there too?

    And congrats on getting an Excellent on your inequality paper from the Prof.


  3. Ted Theodore says:

    From 1949 to 1979 the GINI measure of inequality was flat or fell slightly. From 1980 it has skyrocketed. If you take the GDP growth rate from those first 30 years and applied it to the next 30 years GDP today would be 50% greater. So while correlation does not necessarily mean causation, the one thing that is clear is that trickle down did not have its “forecasted” effect.


  4. Kevin Rica says:

    As long as we have an infinitely elastic supply of minimum wage (or less) labor available in the form of both legal and illegal immigration wages for the least educated cannot rise and full employment is impossible.

    Ezra K, and other like him, support an immigration policy that effectively affirms the entitlement of the rich to pay poverty level wages rather than allow labor shortages to raise wages.

    Paul K and others who oppose an open immigration policy must do it sotto voce.

    This provides an interesting political economy explanation of why inequality is growing: the left has been intellectually gelded.

    Fixing the immigration mess and restricting the level and type of immigration in a manner consistent with a more economically egalitarian economic policy will not fix it all. Other things need to be done. But if you don’t fix immigration, the other things won’t be effective on their own.


    • smith says:

      Six aspects of immigration, assuming you’re not saying no to all immigration.
      I’m still unclear on your position

      1) The number? What number do you want, how many each year? (nuance is a variable number, in proposed new law, you need 2008 recession unemployment levels for any provisions to kick in, thus effectively no protection)

      2) Low skilled or high skilled? (nuance there is no shortage of either, 25% of immigrants are college grads, which is close to the 30% college grad level of general adult U.S. population )

      3) Family vs. Non-family based, what’s the mix? (nuance proposed law allows trailing spouses to follow high skill non-family immigrants, so a mix of both)

      4) Employment based and employer sponsorship terms? I would argue aside from undocumented workers who have the least freedom of any worker, the idea of immigrants entry conditional on employment removes any bargaining power for compensation. The threat of deportation at employers discretion further distorts the labor market. This is the big difference in immigration now and immigration 100 years ago. Today immigrants can’t strike.

      5) Citizenship – path for undocumented? path for employment based? The five year waiting period doesn’t start until after becoming a permanent resident. This can mean an extra six years for employment based immigration. However states can allow immigrants to vote any time in non-Federal elections.

      6) Diversity – new proposed law ends 55,000 non-employment non-family based immigration. It also ends 7000 per country per year limit. It creates a new category based on “merit” and job offers, thus ending the last immigration route for free labor.


      • Kevin Rica says:

        Smith,

        Good questions. I do support immigration. But I would much rather have zero immigration that a bad, mass-immigration policy.

        Paradoxically, immigration may be most valuable during prosperous economic times when well-paid jobs are readily available. It makes life more interesting, provides an influx of different thinking, and a little extra vigor since the work ethic that creates affluence is destroyed by the same affluence. I also support some asylum, but reluctantly, since this has been horribly abused. Of, course, there are always people who marry and create families in the course of travel or residence abroad and they should be kept together. However, a lot of that beneficial, intellectual cross-fertilization can be accomplished by medium-term work and study rather than permanent immigration (like my years of study abroad).

        However, during periods of poor labor market conditions, immigration is largely unnecessary and a drag on the economy. If we cracked down too hard, the consequence would be slightly smaller aggregate growth and higher wages. I’ll live with that

        Taking your questions (assuming that I had divine or dictatorial powers):

        1) I would prefer a qualitative approach. No unskilled labor, even if the unemployment rate for inner-city teenagers dropped below 4%. We produce enough high school dropouts on our own. The financing of the social safety net is already strained. We might a have a limited number of slots and they would be awarded to those workers who receive the most lucrative offers. Setting tight quotas would limit the downward pressure on incomes.

        2) High-skilled. But I would be more interested in crafting a policy of attracting those immigrants whose children would be most likely to succeed academically. I’m not sure of a good way to do that, but we don’t want to bring in large numbers of immigrants whose children will be immediately considered at risk.

        3) Families should immigrate as a group. No secondary immigration. Immigration should be voluntary, meaning all separations are voluntary.

        4) The original employer should guarantee that your skills are in demand and are capable of earning the minimum salary + employer-paid medical benefits. The immigrant should be allowed to leave to take a better job, but not a worse one. If you come to be a $100K medical researcher, you can’t take $9/hr to clean test tubes at another lab. You should be deported and the employer penalized.

        5) The American economy does not need any of the fraudulently documented. If they all left tomorrow – wages would go up and unemployment would go down. Their loss would result in a larger gain for America’s poor. Not only would many poor Americans find work, but many more workers would earn more. However, I might offer exceptions and allow indefinite residence for spouses of citizens and some of the “Dreamers” on humanitarian grounds.

        6) Diversity is a silly immigration category. Kill it. It serves no purpose.

        Above all! The restrictions have to be enforced! Mazzoli-Simpson failed because Ted Kennedy broke his word. He (and others) promised enforcement in exchange for amnesty and then gutted enforcement as soon as the amnesty was done.

        There should be no implicit right to immigrate because one has evaded the Border Patrol. If a court determines you entered and don’t have documents showing the U.S. Government gave you prior permission to immigrate, you must leave. The fair and speedy trail is over.


  5. Dave says:

    Excellent recent paper. No time to read entire book right now, but I like what I’ve heard.

    I hope to find some of the elusive causal mechanisms in the near future. I think it is just a matter of parsing the data in a somewhat counter-intuitive way. Results will be posted on my site.


  6. Kauai John says:

    If fighting “weak demand” means nothing more than producing more “stuff”, then it is a very short-term solution as the world runs out of resources to produce that “stuff”.

    If fighting “weak demand” means improving the country’s infrastructure; providing better outlets for expressing one’s self; and moving to a green, sustainable economy that halts Climate Change, then there might be hope.

    In other words, society needs to be restructured so that “winning” is not defined by huge disparities in income.


  7. Charles E Lewis Jr says:

    When looking at income growth from 1947 to 2011 there are two distinct points of diversion–1980 and 2000– around the time of supply-side tax cuts by Reagan and Bush. Did these tax cuts matter? I am not an economist, yet I never see these cuts included in the discussion.


  8. Bill in PA says:

    Did everybody catch how JB used the commutative property as well as the distributive in paragraph 1? Totally bogus, since with high unemployment a lot of entities don’t commute.


  9. Bill Ellis says:

    Many libertarians are coming around to recognizing that inequity is a real problem. What I find very interesting that many of them think a solution might be a guaranteed basic income, while maintaining that Unions are morally unacceptable.

    To me Unions are far more of a market solution to redistribution than the government taking and redistributing. Right ?

    I can’t understand the reasoning of a libertarian who prefers Tax and Redistribute over redistribution negotiated between employers and employees. Could it just be irrational Milton Friedman worship ?


    • Dave says:

      Interesting. I wasn’t aware that libertarians were for a guaranteed basic income. I guess the first question is, which libertarians are for this? I think there are a lot of populist libertarians that have been fooled by corporate libertarians. The populist libertarians generally hold progressive views but have been fooled into believing it cannot work by the corporate libertarians. The corporate libertarians definitely don’t believe in unions or a GBI. So if populist libertarians are under the impression that they can win out over the corporate libertarians, they need to figure out which party could actually accomplish that. It certainly won’t be any party we have today.


  10. Kevin Rica says:

    Jared,

    I’m very sympathetic to the basic idea of poor domestic income distribution as an underlying factor in weak demand. However, I think both you and Paul K may be going backwards and ignoring your own writings on the role of the external sector. America’s current excess savings problems originate abroad.

    The fundamental and proximate cause of weak aggregate demand is a savings-investment imbalance. This can originate domestically due to too high a concentration of income OR it can originate externally from capital inflows. Since the Asian crisis of 1997, U.S. current account deficit (= inflow of foreign savings) has reached historically high levels before dropping after the 2008 crisis and then rebounding (Bernanke’s Global Savings Glut Hypothesis). If you try to explain weak aggregate demand by only looking for domestic causes during this period, you will likely fail because you are looking for the wrong origin for the excess savings. You need to cast a broader next.

    You would be better off casting the whole issue in terms of a broader Hobsonian theory of oversavings.


    • Jared Bernstein says:

      Agree re the role of S-I imbalances and stress that in my list of things that are sapping demand from the US economy–and that one has been doing so for awhile. The explicit question here–if we’re talking about my CAP piece–is “to what extent is inequality implicated in weak demand.” As a discuss, that’s not a simple question.


      • Kevin Rica says:

        In the last 15 years, causality has run “Global Savings Glut” –> Weak Demand –> income inequality.

        IMRHO:

        If you suddenly eliminated the inflows the U.S. would have a temporary structural savings deficit and might have to walk back a lot of fiscal and monetary stimulus to control aggregate demand.

        At some point after that, the inequality issue would return as a major factor in the determination of aggregate demand.

        That is why, prior to the financial collapse of 2008, job creation was much more vigorous during the four-year terms of Democratic presidents than during Republican administrations.


  11. Kevin Rica says:

    Post article on stock buybacks this morning emphasized the abundance of savings available for investment and the lack of suitable investment opportunities:

    http://www.washingtonpost.com/business/economy/companies-turning-again-to-stock-buybacks-to-reward-shareholders/2013/12/15/58a2e99c-4aef-11e3-9890-a1e0997fb0c0_story.html?tid=pm_business_pop

    While government incentives for small savers are necessary to help families save for mortgage down payments and retirement, the conclusion that we should draw from this article is that all the incentives intended to promote large-scale savings by the rich and corporations are, ineffective, inappropriate, and counterproductive today.


  12. Brooks and Krugman | Marion in Savannah says:

    […] case to be made that high unemployment — by destroying workers’ bargaining power — has become a major source of rising inequality and stagnating incomes even for those lucky enough to have […]


  13. robert c says:

    Yes, high employment did pull up the bottom in periods when the unemployment rate was at around 4 percent or lower — 1960s and late 1990s. Maybe it will also solve the serious problems of family formation: growth of children living in single headed families.


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