Primary economic obstacle is adjustment to progress

Most economic policy discourse, at least in the U.S., seems to be predicated on the assumption that the status quo represents a negative deviation from normal―from the broad sweep of inevitable progress―and that policymakers can or should be trying to return things to “normal.” Most of what Paul Krugman writes on the pages of the New York Times is to this effect. President Obama has recently declared that the economic “recovery” should be based on manufacturing. It might be difficult to make such a recovery happen, since U.S. manufacturing output has never been much higher than it is today.

Photocourtesy of the United States Department of the Treasury via Wikimedia Commons. Lawrence Summers, former Secretary of the Treasury and professor of economics at Harvard University.

On the other side of the popular economic policy debate, Newt Gingrich’s website sets forth his plan for “[c]reating jobs and getting the economy back to 4% unemployment,” which consists of everything that the Republican Party’s diverse constituencies want to hear. Some of Gingrich’s proposed solutions would likely decrease the unemployment rate; others would likely increase it.

Mitt Romney’s campaign website features a document entitled “Believe in America,” which, much like the works of Karl Marx, is unusually cogent in its empirical observations, even hinting at realistic explanations, but draws conclusions and develops prescriptions that seem to be normatively driven. Romney, like Gingrich, seems to believe that traditional Republican Party ideology will return the unemployment rate to something around 5%.

I was delighted when I saw the January 9th post on the Reuters blog of Lawrence Summers, former Secretary of the Treasury and an economics professor at Harvard. Summers does what very few other public figures are willing to do in acknowledging that the major change in the economy―the reason why so many people are unemployed―is not that some greedy bankers let overzealous consumers borrow too much for a while, using collateralized debt securities to pass risk off onto the market underpriced. The change is a significant structural adjustment in the economy caused by technological progress that has made production and even the provision of many services much more efficient than they used to be.

Summers compares the present situation to the mechanization of agriculture, which released most of the labor from that field of endeavor to participate in manufacturing instead. Many industries now require far fewer people to produce the same quantities of goods and services. One of the results of that is that the fruits of increased productivity accrue disproportionately to those few people who are either in the right place at the right time or  embrace new technologies as innovators. Whereas, most of the time since World War II, there has been enough incidental need for people to build things and sell things that most people in developed countries, especially in the U.S., could expect to be offered jobs that paid them enough to live well, now, it is less clear why managers of all sorts of enterprises would hire people without unusual contributions to make.

Instead of causing this fundamental change, the recent financial crisis merely accelerated it. When demand did decrease significantly because of a lack of access to finance capital while banks and investors figured out what risks existed and how to avoid them, businesses laid people off as they always do in recessions. As the recession ended, managers, on a case-by-case basis, saw the structural change in their industries―the efficiency of investing in new machines, software, and processes instead of new workers ―and they responded by ramping up production in the ways that made sense for them, hiring many fewer new people than was necessary to consume the victims of the layoffs and the new entrants to the global workforce.

Real output of goods and services is meaningfully higher in the U.S. and the world than it has ever been before. Nonetheless, the long-term unemployed and most of the young people entering the labor market are finding few opportunities―especially to achieve the standard of living that their parents enjoyed. Summers points out that wages have skyrocketed relative to prices of most consumer goods; however, the somewhat diminished standard of living for the less lucky or innovative arises from disproportionately higher prices for healthcare, housing, energy, and education.

Summers uses his observation of structural change to rebut the essential argument of the Occupy movement that capitalism is the problem and that of the Tea Party that government is the problem. He differentiates between those sectors in which prices have increased and those in which prices have decreased and advocates for a continued course of capitalism for most of the economy and observes that the sectors with increasing prices are among those least controlled by market forces.

As for a solution to the adjustment costs embodied by relatively high unemployment and people going bankrupt when they get sick, Summers does not offer one. He seems to think that adjusting (i.e., the movement of labor into sectors where there is more use for it), will take time, and he acknowledges both the need to control government spending and the need for social welfare programs to address unemployment and the costs of healthcare, housing, energy, and education.

I think that even Larry Summers, who has a reputation for being blunt despite the political consequences, is a bit constrained by political correctness in his conclusions. There is a bit more to say.

First, the growth of and increase in prices in the market for healthcare services has been a remarkable trend in recent years. Much of this change has been attributable to increasing quality and availability of healthcare.  Much more can be done to improve people’s health than could 20 years ago, and innovation in medical technologies is expensive. The price for additional and more effective services is worth paying, and spending more of their incomes, directly or indirectly, on healthcare is something to which people must become accustomed.

Since an illness can now cost significantly more than a house burning down, our society clearly needs adequate and efficient mechanisms for insuring against health risk. Unfortunately, the Patient Protection and Affordable Care Act did not provide the answer. While the individual mandate, liberty-reducing or not, is a good idea, the employer health insurance mandate is economically devastating, as compared to a world without a law requiring that employers provide their full-time employees with comprehensive health insurance.

Either a single-payer, socialist system or a market system in which most individuals, subject a minimum standard of an individual mandate, negotiated their own insurance contracts, would be more efficient. Employer mandates, which have long been in effect in many states (1) discourage full-time employment, the type of employment that enables people to support families comfortably, (2) increase the effective minimum wage that employers have to pay, preventing all sorts of jobs that would be better than nothing for the unskilled from being created, (3) systematically compel people to over-insure relative to their own risk tolerances and to fund totally wasteful insurance market activity, and (4) prevent viable markets for the insurance products that would be efficient for many people to choose from developing at all.

Another problem with healthcare markets is regulatory capture and market power. Health insurance companies and, in many ways, healthcare providers are legally or effectively immunized from the antitrust laws. This country pays much super-normal profit to government-enforced physician cartels, and even some nonprofit hospitals generate such cash flow that they literally do not know what to do with all of the money. The minimum viable scale of hospitals is such that many communities can only support one, and nonprofit monopolists are generally inefficient.

The cost of education is also an interesting problem. Technological progress would be expected to spur increases in the quantity and quality of educational services consumed as it does healthcare services.

Photocourtesy of Ildar Sagdejev via Wikimedia Commons. Strayer University is a network of buildings into which people throw money hoping to improve their prospects of employment.There is also, unfortunately, an education bubble. The truth is that in a world without many production or service jobs that merely require warm bodies, there will be ever less demand for unskilled labor, and there will always be people who do not acquire skills readily. The recent huge increase in consumption of higher education, largely by people who will never earn degrees, represents, in part, a search for something to do by people who are not academically inclined but want jobs that pay as well as their parents’. The necessary shift in the content of education – away from general education and toward technical skills – in the lower tiers of academia may be near. The popular press has identified a higher education bubble, and hopefully, people will get the message and stop studying “economics” at Strayer University.

A related problem is that, in forming education policy directed toward ensuring that everyone graduates from high school, our society has lost sight of the fact that some percentage of the population is not capable of meaningful education beyond the secondary level. The answer to this problem is not enrolling people in community college courses that they will never pass. Governments need to do away with minimum wages (employer health insurance mandates most of all) that have any teeth and need to facilitate otherwise the employment of the permanently unskilled in jobs in which they can make contributions, however low their money values to the rest of society, supplementing such policies with appropriate social welfare programs.

Two more factors are driving the rate of “education inflation.” One is the increasing cost of employee health insurance in the labor-intensive industry. The other is the same as another of the problems in healthcare – for-profit tendencies in nonprofit institutions with substantial market power, in the case of education, due to the signaling benefits that institutional reputations confer on graduates.

For example, would the quality of education at the Law Center be much lower if all classes were taught by adjunct professors and not by full-time professors whose compensation packages remove some of them from the 99%? This is no criticism of the abilities of full-time article-publishing professors, but my experiences with adjunct law professors indicate a negative answer to the question and suggest that the structure of the contemporary university faculty results from a for-profit-like institutional imperative.

Energy and housing cost increases are attributable to population growth. Housing costs are attributable to urbanization, energy costs, costs of other limited resources, and of course, healthcare costs. People will adjust. The combined analytical power of Larry Summers and me, however formidable, is insufficient to solve all of the world’s problems.

Matthew Tilghman, 2L, can be contacted by email at matthew.tilghman@gulawweekly.org.