12 step elaboration

Yesterday I referred to 12 American solutions for jobs and prosperity. A reader has asked me to elaborate. Let's start with this; there has been recent attention given to the conflicting commentary provided by economists and President Obama joked (or was it scoffed) that everyone in Washington is an economist now. Well actually the level of disagreement among economists, has been a bit exaggerated. News coverage tends to try to provide a narrative and a story highlighting differences sells better than one that focuses on broad agreement. There do remain some significant disagreements, some unsettled questions, with respect to the efficacy of stimulatory fiscal policy - can deficit spending shock the economy back to full employment? It is not unsettled that fiscal policy also has the potential to de-stabilize the macro economy, to exascerbate the business cycle. Everyone recognizes that there are lags associated with fiscal policy - time, in this case a year, before we realize we're in a recession, time before fiscal stimulus is passed, time before it is implemented, and time before it has any impact. The economy might be recovering just as the impact of fiscal policy is felt which helps explain why the question, of the efficacy of fiscal policy, remains unsettled. It is comparable to going to the doctor after being ill for three or four days. If you start to feel better it remains unclear whether what the doctor prescribed had any impact at all or whether you were starting to recover even as you sat in the doctor's office. Paul Krugman, Nobel economist and perhaps the strongest fiscal stimulus enthusiast, highlighted his agreement with a Financial Times columnist...

Unfortunately, what is coming out of the US is desperately discouraging. Instead of an overwhelming fiscal stimulus, what is emerging is too small, too wasteful and too ill-focused.

That's another way of saying that fiscal stimulus might work in theory but a bunch of vote maximizing elected representatives are not theoretical. The foundational assumption of economics is that people are self-interested, and it is helpful to remember that elected officials are people.

It would also be helpful to remember what another Nobel economist said. Friedrich von Hayek in his 1974 Nobel address...

It seems to me that this failure of the economists to guide policy more successfully is closely connected with their propensity to imitate as closely as possible the procedures of the brilliantly successful physical sciences - an attempt which in our field may lead to outright error...
...If man is not to do more harm than good in his efforts to improve the social order, he will have to learn that in this, as in all other fields where essential complexity of an organized kind prevails, he cannot acquire the full knowledge which would make mastery of the events possible. He will therefore have to use what knowledge he can achieve, not to shape the results as the craftsman shapes his handiwork, but rather to cultivate a growth by providing the appropriate environment, in the manner in which the gardener does this for his plants.

Translation: A person or group of persons is not competent, does not have the capacity, to "manage" the economy. The effort should be on establishing and maintaining the conditions that we know are conducive to the production and flow of goods and services.

So what of some of Newt Gingrichs' proposed solutions?

1. Reduce the payroll tax by 50%: That is no attempt to directly manage the economy but rather a move to improve the conditions that will tend to increase employment. And, it highlights an area where all economists agree - that payroll taxes distort the labor market, that it reduces the level of employment. There may be disagreement with respect to magnitude - how much will it change employment - but no disagreement that the result will be lower unemployment and higher levels of consumption.


I am converted to your proposal… for varying rates of contributions in good and bad times.
(June 16, 1942). Keynes, Collected Writings, vol. 27, p. 208.…[Y]ou are able to show fluctuations in income of an order of magnitude which is significant in the context… So far as employees are concerned, reductions in contributions are more likely to lead to increased expenditure as compared with saving than a reduction in income tax would, and are free from the objection to a reduction in income tax that the wealthier classes would benefit disproportionately. At the same time, the reduction to employers, operating as a mitigation of the costs of production, will come in particularly helpfully in bad times.

Not sure but I think John Maynard Keynes could be considered a Keynesian. So, the first solution is not controversial. There is a consensus among economists that lowering the payroll tax will stimulate the labor market.

2. More American Energy Now: We have imposed a constraint on ourselves by reducing our access to energy. With fewer resources our productive capacity is diminished. Any of my students in introductory economics understand that after the first week of class. But, there is a tradeoff you might argue; lower energy prices will contribute to climate change and getting the resources has a negative impact on the beauty of the land. If you take the positon that climate change is real then you should also understand that air and water quality improves with growth in per capita GDP. Poor countries tend to have dirtier air and water; when you are concerned with what you will eat next week or how you will pay the rent then whether or not a bit of sludge, or tons of sludge, leaks into the creek falls way down on your list of concerns. Americans, polls show, are not nearly as concerned with climate change as they were 18 months ago. As for diminishing the beauty of the land - soup lines don't look very good either. But, all energy is not the same. We should move to expand alternatives. That is part of the solution, but when we are becoming poorer our capacity to bring new forms of energy to market is diminished. The economics here is not controversial.

3. Protect Americans' rights to a secret ballot: Don't listen to me, listen to Larry Summers. He is a highly respected economist who works for President Obama...

Another cause of long-term unemployment is unionization.

Again, strong support among economists that unemployment is positively correlated with the level of unionization. This solution is not to suggest that efforts be made to thwart the right to form a union. Not at all, but we understand from behavioral ecoconomics that people are not nearly as likely to voice their true and sincere preference if they must do so publicly. Don't we want a situation where voting reflects the true preferences of the people voting?

4. Invest in energy and transportation infrastructure:

Public spending is not anathema to economists who favor limited government. This is about providing the public physical capital that is conducive to economic growth in a situation where conditions exist so that the market, on its own, will tend to yield an inadequate supply. This is not contraversial. It is not about "shocking" the economy back to full-employment directly.

Later today I'll address the other solutions that Newt Gingrich is promoting.