Tag Archives: Paul Krugman

The Problem is Structural…Again

Over at the NY Times Economix page, the editors point to a new study by the Economic Policy Institute which makes the case that the state of unemployment today is cyclical rather than structural. Cyclical unemployment being the idea that unemployment exists because of a lack of demand in the economy. Structural unemployment, on the other hand, sees unemployment as arising because of a change in the structure of the economy (new products, sectors, and technologies requiring workers to move or learn new skills).

The authors of this study want to argue that the problem is simply one of demand. They recommend increased deficit spending to get the economy moving so that workers will be reemployed generally in the areas they used to work in. This is all fine and good, but only if you think the economy was following some natural trend line from 2001-2008 and the recession was just an event not at all connected to the housing boom that came before it. In other words, the problem isn’t structural if you think the economy was structurally sound during the housing boom years.

Is this is a realistic view? I would say no. One can argue about the causes of the housing bubble (low-interest rates, lax lending standards, global savings glut, etc), but one cannot argue that there was, indeed, a housing bubble.  Paul Krugman rightly points out that

The 2007-9 recession was driven by the collapse of a huge housing bubble, and the resulting financial fallout. The Fed couldn’t cut rates sharply, because they weren’t all that high to begin with; there couldn’t be a housing boom, because housing was already overbuilt.

Obviously houses don’t magically appear out of nowhere. To build houses requires material and labor. If houses are being overbuilt than we can only conclude it happened because resources and labor were diverted from other areas of the economy into the construction and manufacturing sectors. Notice that what was going on there was structural. People who would have worked in other sectors of the economy found themselves looking for employment in those areas of the economy connected to housing (obviously this isn’t the full story because hiring was taking place in plenty of other sectors as well).

Just look at wages and salaries of construction workers during the housing bubble:

That’s a pretty clear upward trend right there. Clearly, wages were being bid up which attracted workers from other sectors. More to the point, however, is the fall in construction jobs since the recession began. Employment in the residential building sector alone peaked at a little over 1 million jobs in 2006 but had fallen to a little over 500,000 jobs this last February. That’s almost a 50% drop. What the authors of this study are advocating for is for all of those people to wind back up in the construction sector, which is only going to happen with another housing bubble (at least for the immediate future).

Additional attempts at increasing aggregate demand through fiscal stimulus will only have the effect of maintaining the pre-recession structure of the economy. Goodness knows the Federal government is still trying its darndest to prop up housing prices. This is a recipe for disaster or, at the very least, a non-recovery that goes on for years to come.

HOT LINKS 07-08-2010…(get them while they’re hot)

Okay, so I already failed in my attempt to link to a couple of good articles daily. That is never a good sign. I think I’m going to change up the format a little. I’m going to choose the top 3 articles I have read and go with that.

3. Tax Hikes and the 2011 Economic Collapse

Arthur Laffer- originator of the famous Laffer Curve– makes the case that the surprising amount of growth we’re seeing in 2010 is simply the result of individuals rationally shifting production, consumption, and investment from 2011 into 2010 because of the upcoming expiration of the Bush tax cuts next year. Because people react to incentives, the knowledge that next year the capital gains tax, for example, will go from %15 to 20% is making it likely that people are doing all they can to maximize their return this year before the tax cuts expire. Because of this, 2011 could be an especially bad year (bringing on that whole “double-dip recession” thing) as we see falling growth and growing unemployment thanks to the tax hikes.

2. The Education Debacle of the Decade

Bob Ewing gives us a perfect example of why public education (or, as I prefer, government education) isn’t really about education but, rather, about politics. The OSP (Opportunity Scholarship Program) gave Washington D.C. parents $7,500 each to send their children to any school they chose. The program is a resounding success and parents loved it. So what happens? The Teacher’s Union crushes it because it supposedly takes away money from public schools (which isn’t true, as explained in the article). Under markets- cooperation ensues. Under government- people vie for ways to use the state to push their agendas on everyone else.

1. Are Stimulus Skeptics Logically Incoherent?

Greg Mankiw responds to Paul Krugman on how the stimulus could actually be reducing aggregate demand in the near and long-term. Basically, the more the government borrows to spend, the higher future taxes have to be in the future. If future taxes are expected to be high, investment today looks a lot less inviting. Now, you may say this is contradictory to Laffer’s theory which says higher taxes in the future leads people to shift production into the near term in order to maximize the return now rather than in the future when the higher taxes are in effect. The careful distinction to make here, I think, is that higher taxes in the future lead to a shift in production and investment into the lower orders of the capital structure (to put it in Austrian terms). In other words, higher taxes in the future lead people to consume more now (which leads to an increase in output and higher profits), but businesses won’t be investing as much in long-term projects.