January 25, 2009
The Employee Free Choice Act--Posner
In 2007, the House of Representatives passed the Employee Free Choice Act, a law to promote unionism. The bill failed in the Senate because of Republican opposition. Obama in his presidential campaign urged passage of the bill, and with greater Democratic control of the Senate as a result of the recent election there is a good chance that it will be passed, though not a certainty in view of the fierce opposition of the business community and the Republican senators, who could filibuster the bill; but the Democrats might persuade enough of those senators to defect, to have enough votes to shut down the filibuster.
The Act would do three things. The first is strengthen the very weak machinery for enforcing the prohibition in the National Labor Relations Act (the Wagner Act) of unfair labor practices, such as employers' discriminating against employees who support unionization. This part of the Act is uncontroversial. The second thing the Act would do is dispense with the requirement of a secret election to determine whether the employer must recognize a union as the representative of his workers (more precisely, of a "bargaining unit" consisting of workers having similar jobs; a large employer might have a number of such units). Recognition means that the employer must try in good faith to negotiate a binding collective bargaining agreement with the union that will specify terms and conditions of employment. The Act would require the employer to recognize the union if the union obtained signed union-authorization cards from a majority of the workers in the bargaining unit. This is the most controversial provision of the bill. The remaining provision, which is also controversial, would require that if within a specified period (including a period for mediation) union and employer could not agree on the terms of a collective bargaining agreement, their dispute would be submitted to binding arbitration. The arbitrators would thus determine those terms.
The card-signing provision would undoubtedly make it easier for unions to organize companies in which there was considerable union support but not quite enough to assure victory in a secret-ballot election. Supporters of unionization are likely to feel more strongly than opponents, and so will be more likely to exert pressure on waverers to sign cards than opponents will be to exert pressure on them not to sign. Compulsory arbitration would also promote unionization, and perhaps more so than the card-signing provision of the Act. It would eliminate the costs of striking against a stubborn employer, and would appeal to workers because an arbitrator could be expected to be more generous in setting terms and conditions of employment than the employer, though there will be cases in which a union could extract more from an employer by striking or threatening to strike than an arbitrator would be likely to give it.
I doubt that the Act would have a great effect on unionization. Unions have been in steady decline in the private sector for decades and now account for only about 7 percent of nonfarm workers in that sector (farm workers are not covered by the National Labor Relations Act). Elaborate government regulation of workplace safety and health has reduced the value of unions to workers, as has greater job mobility and the increasingly technical and individualized character of many jobs, which makes it difficult for workers to agree on the terms and conditions of employment that they should be seeking. International competition has reduced the power of unions to extract supracompetitive wages, benefits, or work rules, as has the deregulation movement, which has made the formerly regulated industries, such as transportation, more competitive. Unions have little power in a competitive industry, because a supracompetitive wage, by increasing the employer's cost, will shift his output to competitors. We are seeing this happen in the automobile industry, where union intransigence has been a factor in the decline of the Detroit automakers, now on federal life support.
These economic forces will not be changed by passage of the Employee Free Choice Act, and so the Act's effect on unionization and therefore on the economy will probably be marginal. But whatever the magnitude of the economic effect, that effect will be negative. This is not because all unionization is bad. One should distinguish between nonadversarial unionism and adversarial unionism. In nonadversarial unionism the union recognizes that it is in partnership with the employer and focuses on activities that are supportive of rather than antagonistic to the efficient operation of the company. These activities include protecting workers from abusive supervisors and coworkers, forwarding the concerns of workers to management, assisting workers to obtain skills necessary for their advancement, providing social amenities, interpreting management to the workers, and, in short, mediating between the workforce and the management. One might think that these are functions that the employer itself could perform, and often this is true. But an independent union (company unions are forbidden) may have a degree of credibility with the workers that the employer lacks and may reduce agency costs by monitoring the behavior of supervisors over whom the employer has limited control.
The Act will not promote nonadversarial unionism, because an employer will not resist being unionized by a union that will make his company operate more efficiently. It will promote, though one hopes to only a limited degree, adversarial unionism, illustrated by the relation between the United Auto Workers and the Detroit automakers. The union is determined to squeeze the companies for all it can get for the shrinking number of workers employed by the companies--the union being responsible in significant part for the shrinkage. Adversarial unionism is also conspicuous in education. More of that we do not need.
We especially do not need an uptick in adversarial unionism during what increasingly appears to be a depression. The fact that Democrats in Congress should be pressing for a revival of the union movement at this time indicates a lack of understanding of the economics of depressions. A depression involves a severe reduction in output, resulting in a reduction in inputs, including labor inputs: hence increased unemployment. Adversarial unions increase unemployment, by obtaining wage increases that reduce employers' output by increasing labor costs. A similarly incoherent New Deal program of fighting depression combined sensible measures like going off the gold standard, expanding the money supply, and increasing employment by public-works programs with output-restricting programs like the National Industrial Recovery Act, which encouraged the formation of producer cartels, the Agricultural Adjustment Act, which curtailed agricultural output in order to raise farmers' incomes--and the National Labor Relations Act (the Wagner Act), which encouraged the formation of workers' cartels: adversarial unions such as the United Auto Workers. Some economists believe that such measures prolonged the depression. They certainly did not shorten it.
Posted by Richard Posner at 9:49 PM | Comments (299) | TrackBack
Will the Decline in Union Membership be Reversed? Becker
Unions strongly supported President Obama during the presidential race, and naturally they expect some pay back. A first step would be passage of the so-called Employee Free Choice Act that was supported by both President Obama and Vice-President Biden when they were in the Senate. This act would provide, among some other things discussed by Posner, public voting by employees on whether they want to form a union. I do not like public voting since workers might then be intimidated into voting in favor (or against) a union. Secret voting gives a truer picture of worker attitudes toward unions. While public voting and other pro-union legislation would tend to increase the number of union members, the economic and social forces are aligned against any major comeback by unions.
Union membership has been declining ever since 1954 when it peaked at 28% of total employment -unions' share of nonagricultural employment was then 35 %. During the subsequent half century the union share declined more or less continuously, and now is only about 11%. A mere 7% of private sector employees are unionized. The one bright spot in the union picture is the growth in their share of government employees to about 37%. The overall decline in union membership is seen also from its sharp decline with the age of individuals: the union share of workers is highest among those aged 45-64 at almost 15%, which significantly exceeds the 11% for workers aged 25-44, and the only 5% union share for workers under age 25. Older workers are more likely to be in declining more unionized industries,while younger workers are in the newer less unionized sectors.
The development of what is essentially a non-union private sector of the American economy is due to basic economic and social forces, not to the politics of Congress and the President, for union membership declined under Democratic as well as Republican administrations. The decline of jobs in manufacturing and in heavy industries, like steel and autos, clearly contributed to the overall decline in unionization since large manufacturing companies have been more unionized than other companies. The shift of jobs to smaller service-sector firms has also had a big impact since unions have been unimportant in these firms; also significant was the deregulation of the communications, transportation and utilities industries.
The degree of unionization within each private sector has also fallen greatly, as can be seen from the rapid growth of non-union workers in the automobile sector, particularly among foreign carmakers who produce in the South. For example, membership in the United Automobile Workers union (the UAW) has declined by more than one-third since 1970 as a much larger number of cars were imported from Japan and other countries, and as foreign companies set up mainly non-union plants in the Southern part of the US.
The growth of imports and the shift of employment overseas also have adversely affected the power of unions since international competition from cheaper producers has eroded the ability of unions to raise earnings of their members. In the early days of the unionization movement, unions sometimes increased worker security by providing health and retirement benefits and payments to unemployed union members, and often enforced fair and non-discriminatory rules about discharge and promotions. Non-union companies and governments are also now offering health and retirement benefits, and they have codified their personnel relations, which also considerably reduced the advantages of being in a union.
These forces apply to other developed countries as well, and many of them, especially Anglo-Saxon countries like Great Britain and Canada, also have had large declines in union membership. The declines in union numbers is much less in some countries, like Sweden and Norway, where governments enforce large scale bargaining between unions and employer confederations. But even in these countries, globalization has severely constrained the economic power of unions.
From the 1930s to the 1960s, unions enjoyed considerable popularity in public opinion. I remember being surprised when a graduate student to hear the arguments by Milton Friedman and some of my other teachers that unions were often monopolies that benefited their members at the expense mainly of other workers. As various arguments hostile to unions became more common during the past half-century, public opinion shifted against unions. Unions are considered too selfish, sometimes corrupt, as with the well-publicized troubles of the teamsters union, and they are no longer believed considered necessary to protect employee interests.
Given this radical shift in public opinion, and the fundamental economic and social forces that contributed to the decline of unions, it is unlikely that the new Congress and new President would push for radical pro-union legislation, despite the impressive victory in the past election of the Democratic Party, and the strong financial and other support the larger unions gave to this party.
Posted by Gary Becker at 6:17 PM | Comments (68) | TrackBack
January 18, 2009
Infrastructure in a Stimulus Package-Becker
Last week we blogged on how much stimulus to GDP and employment might be expected from a version of the Obama fiscal stimulus plan. I concluded that the amount of stimulus from the spending package would be far less than estimated in a study by the incoming Chairperson of the Council of Economic Advisers ("The Job Impact of the American Recovery and Reinvestment Plan", by Christina Romer and Jared Bernstein, January 9, 2009). The activities stimulated by the package to a large extent would draw labor and capital away from other productive activities. In addition, the government programs were unlikely to be as well planned as the displaced private uses of these resources.
The stimulus package's plans for spending on "infrastructure" clearly illustrate both concerns. I put this word in quotation marks because of the many definitions of what is included in the concept of infrastructure. Promoters of various stimulus packages- such as the just released House Committee on Appropriations $825 billion stimulus plan- include in infrastructure not only the traditional categories of roads, highways, harbors, and airports. They also include spending on broadband, school buildings, computers for school children, modern technologies, research and development, converter boxes for the transition to digital TV, phone service to rural areas, sewage treatment plants, computerized medical records and other health expenditures, and many other activities as well.
Some of this infrastructure spending may be very worthwhile-I return to this issue a bit later- but however merited, it is difficult to believe that they would provide much of a stimulus to the economy. Expansion of the health sector, for example, will add jobs to this sector, but it will do this mainly by drawing people into the health care sector who are presently employed in jobs outside this sector. This is because unemployment rates among health care workers are quite low, and most of the unemployed who had worked in construction, finance, or manufacturing are unlikely to qualify as health care workers without considerable additional training. This same conclusion applies to spending on expanding broadband, to make the energy used greener, to encourage new technologies and more research, and to improve teaching.
An analysis by Forbes publications of where most jobs will be created singles out engineering, accounting, nursing, and information technology, along with construction managers, computer-aided drafting specialists, and project managers. Unemployment rates among most of these specialists are not high. The rebuilding of "crumbling roads, bridges, and schools" highlighted by in various speeches by President Obama is likely to make greater use of unemployed workers in the construction sector. However, such spending will be a small fraction of the total stimulus package, and it is not easy for workers who helped build residential housing to shift to building highways.
A second crucial issue relates not to the amount of new output and employment created by the stimulus, but to the efficiency of the government spending. Efficiency is not likely to be high partly because of the fundamental conflict between the goal of stimulating employment and output in order to reduce the severity of the recession, and the goal of concentrating infrastructure spending on projects that add a lot of value to the economy. Stimulating the economy when employment is falling requires rapid spending of this huge stimulus package, but it is impossible for either the private or public sectors to spend effectively a large amount in a short time period since good spending takes a lot of planning time.
Putting new infrastructure spending in depressed areas like Detroit might have a big stimulating effect since infrastructure building projects in these areas can utilize some of the considerable unemployed resources there. However, many of these areas are also declining because they have been producing goods and services that are not in great demand, and will not be in demand in the future. Therefore, the overall value added by improving their roads and other infrastructure is likely to be a lot less than if the new infrastructure were located in growing areas that might have relatively little unemployment, but do have great demand for more roads, schools, and other types of long-term infrastructure.
Of course, at some point new taxes in some form have to be collected to pay for infrastructure and other stimulus spending. The sizable adverse effects on incentives of these taxes also have to be weighted against any value produced by the infrastructure (and other) stimulus spending.
The likelihood that such a rapid and large public spending program will be of low efficiency is compounded by political realities. Groups that have lots of political clout with Congress will get a disproportionate amount of the spending with only limited regard for the merits of the spending they advocate compared to alternative ways to spend the stimulus. The politically influential will also redefine various projects so that they can fall under the "infrastructure" rubric. A report called Ready to Go by the U.S. Conference of Mayors lists $73 billion worth of projects that they claim could be begun quickly. These projects include senior citizen centers, recreation facilities, and much other expenditure that are really private consumption items, many of dubious value, that the mayors call infrastructure spending.
Recessions would be a good time to increase infrastructure spending only if these projects can mainly utilize unemployed resources. This does not seem to be the case in most of the so-called infrastructure spending proposed under various stimulus plans.
Posted by Gary Becker at 8:23 PM | Comments (72) | TrackBack
Infrastructure in a Stimulus Package-Becker
Last week we blogged on how much stimulus to GDP and employment might be expected from a version of the Obama fiscal stimulus plan. I concluded that the amount of stimulus from the spending package would be far less than estimated in a study by the incoming Chairperson of the Council of Economic Advisers ("The Job Impact of the American Recovery and Reinvestment Plan", by Christina Romer and Jared Bernstein, January 9, 2009). The activities stimulated by the package to a large extent would draw labor and capital away from other productive activities. In addition, the government programs were unlikely to be as well planned as the displaced private uses of these resources.
The stimulus package's plans for spending on "infrastructure" clearly illustrate both concerns. I put this word in quotation marks because of the many definitions of what is included in the concept of infrastructure. Promoters of various stimulus packages- such as the just released House Committee on Appropriations $825 billion stimulus plan- include in infrastructure not only the traditional categories of roads, highways, harbors, and airports. They also include spending on broadband, school buildings, computers for school children, modern technologies, research and development, converter boxes for the transition to digital TV, phone service to rural areas, sewage treatment plants, computerized medical records and other health expenditures, and many other activities as well.
Some of this infrastructure spending may be very worthwhile-I return to this issue a bit later- but however merited, it is difficult to believe that they would provide much of a stimulus to the economy. Expansion of the health sector, for example, will add jobs to this sector, but it will do this mainly by drawing people into the health care sector who are presently employed in jobs outside this sector. This is because unemployment rates among health care workers are quite low, and most of the unemployed who had worked in construction, finance, or manufacturing are unlikely to qualify as health care workers without considerable additional training. This same conclusion applies to spending on expanding broadband, to make the energy used greener, to encourage new technologies and more research, and to improve teaching.
An analysis by Forbes publications of where most jobs will be created singles out engineering, accounting, nursing, and information technology, along with construction managers, computer-aided drafting specialists, and project managers. Unemployment rates among most of these specialists are not high. The rebuilding of "crumbling roads, bridges, and schools" highlighted by in various speeches by President Obama is likely to make greater use of unemployed workers in the construction sector. However, such spending will be a small fraction of the total stimulus package, and it is not easy for workers who helped build residential housing to shift to building highways.
A second crucial issue relates not to the amount of new output and employment created by the stimulus, but to the efficiency of the government spending. Efficiency is not likely to be high partly because of the fundamental conflict between the goal of stimulating employment and output in order to reduce the severity of the recession, and the goal of concentrating infrastructure spending on projects that add a lot of value to the economy. Stimulating the economy when employment is falling requires rapid spending of this huge stimulus package, but it is impossible for either the private or public sectors to spend effectively a large amount in a short time period since good spending takes a lot of planning time.
Putting new infrastructure spending in depressed areas like Detroit might have a big stimulating effect since infrastructure building projects in these areas can utilize some of the considerable unemployed resources there. However, many of these areas are also declining because they have been producing goods and services that are not in great demand, and will not be in demand in the future. Therefore, the overall value added by improving their roads and other infrastructure is likely to be a lot less than if the new infrastructure were located in growing areas that might have relatively little unemployment, but do have great demand for more roads, schools, and other types of long-term infrastructure.
Of course, at some point new taxes in some form have to be collected to pay for infrastructure and other stimulus spending. The sizable adverse effects on incentives of these taxes also have to be weighted against any value produced by the infrastructure (and other) stimulus spending.
The likelihood that such a rapid and large public spending program will be of low efficiency is compounded by political realities. Groups that have lots of political clout with Congress will get a disproportionate amount of the spending with only limited regard for the merits of the spending they advocate compared to alternative ways to spend the stimulus. The politically influential will also redefine various projects so that they can fall under the "infrastructure" rubric. A report called Ready to Go by the U.S. Conference of Mayors lists $73 billion worth of projects that they claim could be begun quickly. These projects include senior citizen centers, recreation facilities, and much other expenditure that are really private consumption items, many of dubious value, that the mayors call infrastructure spending.
Recessions would be a good time to increase infrastructure spending only if these projects can mainly utilize unemployed resources. This does not seem to be the case in most of the so-called infrastructure spending proposed under various stimulus plans.
Posted by Gary Becker at 8:23 PM | Comments (243) | TrackBack
Deficit Spending on Infrastructure in a Depression--Posner
Last week we blogged on whether a deficit-spending program--a stimulus package currently estimated to cost $825 billion--is appropriate to deal with the current economic crisis. I will not repeat the points I made. If there is a risk of deflation, and increasing the supply of money is not considered an adequate response, then there is an argument for the stimulus. It is essentially Keynes's argument: if private demand falls short of the supply that the economy is capable of producing, public demand--public expenditures on projects that will put people to work--can fill the gap.
Our focus this week narrows to the infrastructure portion of the program, which is the most conventionally Keynesian. The stimulus package proposed by Democratic Congressmen--the "American Recovery and Reinvestment Act of 2009"--allots $90 billion to infrastructure: $30 billion for highway construction, $31 billion for energy savings in federal and other public facilities, $19 billion for flood control and environmental improvements, and $10 billion for transit and rail. Other parts of the Act, however, allocate additional funds to other construction projects, and from an anti-depression standpoint it is really construction that is the relevant category. There is a lot of unemployment in construction--110,000 construction workers were laid off in December--as part of the continuing fallout from the housing bubble, which increased the demand for new houses; the demand has now collapsed.
One objection to public-works spending as an anti-depression measure is that by the time work on the public projects actually begins, the depression will be over and all that remains will be the bill for the projects, in the form of an increased national debt, since public-works spending that is financed by taxes rather than borrowing has no effect on increasing demand for goods and services. What is given with one hand is taken away with the other. But construction projects, especially those interrupted or postponed because of the economic collapse, can be started up (or resumed) pretty quickly. Moreover, this depression (as I think it is, and not merely a recession) is likely to last at least two more years, and that should be time enough for much of the $90 billion (plus additional money allocated to construction) to be spent.
Another advantage to infrastructure, and construction generally, as an emergency measure is that it may not add significantly to the deficit in the long run. The reason is that the costs can be recouped out of user fees, such as tolls for highways and taxes on airline and railroad tickets. This presupposes that the projects create some real value, unlike the "bridge to nowhere" that was proposed for Alaska, or else the user fees will really just be taxes. To the extent that the money allocated to infrastructure in the American Recovery and Reinvestment Act (which doubtless however will be changed before it is actually enacted and signed by the President) is for interrupted or deferred projects, or merely accelerates projects planned for a later date (accelerated to increase demand now), there will not be incremental waste--that is, waste beyond what is already built into approved projects. With new projects, the risk that costs will exceed benefits is greater, but we must be careful not to view costs and benefits in too narrow terms. Even a worthless project, if it puts people to work, can reduce the economic impact of a depression, as Keynes argued long ago.
Another advantage of construction-oriented public-works spending is that the risk that it will crowd out private investment is small. If labor and other resources used in construction were being fully employed, then the only effect of the government's launching construction projects would be to increase construction prices, because it would be bidding against private employers for a limited stock of labor. But given the high unemployment rate of construction workers, there are plenty of them to hire without an employer's having to lure them away from other employers by the promise of higher pay.
One thing that must give one pause, however, is the question of substitutability across construction projects. Building a house and building a highway are not interchangeable construction activities. Unemployment in the construction industry may be concentrated in residential construction, and residential construction workers may not have the right skills for highway or bridge construction, let alone for flood control. (What use is a plumber or a carpenter in building a highway?) The more specialized the American workforce has become, the less effect Keynesian public-works projects are likely to have on employment. And if they do not reduce unemployment but instead compete with private employers for workers, the only effect may be to increase the national debt and engender inflation (though inflation is one way of combating deflation). This is a general concern rather than anything peculiar to construction. In fact it is a greater concern with some of the other projects proposed in the American Recovery and Reinvestment Act. Projects designed to promote efficient use of energy (in order to limit global warming and dependence on foreign oil--worthy objectives, however) will create inflationary pressure by bidding for scarce resources (such as scientific and engineering skills and complex, novel technologies) against the private sector. That is a compelling reason for concentrating the stimulus in the industries in which unemployment is greatest.
Posted by Richard Posner at 8:19 PM | Comments (28) | TrackBack
January 11, 2009
The Obama "Stimulus" (Deficit Spending) Plan--Posner
I suspect that we have entered a depression. There is no widely agreed definition of the word, but I would define it as a steep reduction in output that causes or threatens to cause deflation and creates widespread public anxiety and a sense of crisis.
Suppose some shock to the economy, such as the bursting of the housing and credit bubbles, causes people to reduce their demand for goods and services. Before the shock, demand and supply were both X; now demand is X - Y. How do producers respond? If all prices, including the price of labor (i.e., wages), are completely flexible, producers (and suppliers of inputs to them, including suppliers of labor--i.e., workers) will reduce their prices, and this will induce consumers to increase their buying. Consumers will have less income because those who are employed will have lower wages, but since prices are lower they will buy enough to prevent a substantial reduction in output.
Unfortunately, not all prices are flexible; wages especially are not. This is not primarily because of union or other employment contracts. Few private-sector employers in the United States are unionized and as a result few workers (other than federal judges!) have a guaranteed wage. The reasons that employers generally prefer to lay off workers than to reduce wages when demand drops are first that by picking the least productive workers to lay off an employer can increase the productivity of its work force; second that workers may respond to a reduction in their wages by working less hard, and, conversely, may work harder if they think that by doing so they are reducing the likelihood of their being laid off; and third that when all workers in a plant or office have their wages cut, all are unhappy, whereas with lay offs the unhappy workers are off the premises and so do not incite unhappiness among the ones who remain.
When, to bring output down from X to X - Y in my example, producers and other sellers begin laying off workers, demand is likely to sink even further because the workers who have been laid off suffer a loss of income and the ones who are not laid off fear that they may be next and so try to save more of their income rather than spending it. As demand falls, sellers will lay off more workers, putting still more pressure on demand, but in addition they will reduce prices still further in an effort to avoid losing all their customers. As prices spiral downward, consumers may start hoarding their money in the expectation that prices will keep falling. In addition, they will be reluctant to borrow (and borrowing increases economic activity by giving people more money to spend) because with prices falling they will be paying back their loans in more expensive dollars, that is, dollars that have greater purchasing power. When the same number of dollars buys more goods, we have deflation--money is worth more--as distinct from inflation, where money is worth less because more money is chasing the same number of goods and services.
One way to try to prevent a deflationary spiral is for the Federal Reserve Board to increase the supply of money, so that dollars don't buy more goods than they used to. The Fed does this by buying federal securities from banks; the cash the banks receive from the sale is available to them to lend, and what they lend ends up in people's bank accounts and so increases the number of dollars available to be spent. Fearing deflation, the Fed has done this--without success. The banks, because they are close to being insolvent, are fearful of making risky loans, and loans in a recession or depression are risky. So they have put more and more of their money into federal securities, thus bidding down the interest rate virtually to zero. Zero-interest short-term federal securities are the equivalent of cash. If banks want to hold cash or its equivalent rather than lend it, the Fed's buying cash-equivalent securities for cash does nothing to increase the money supply. So the Board is now buying other debt, and from other financial firms as well as banks--debt that has a positive interest rate, so that if the Board buys the debt for cash, the seller is likely to lend out the cash so that it does not lose the interest income that it was receiving on the debt it sold to the Fed. But as yet this program has not had much success either.
This is the background to the stimulus program proposed by soon-to-be President Obama. To return to my example, if monetary policy is not going to equate demand to supply--is not going to close the gap between a demand of X - Y and a supply of X--then maybe government spending can do the trick. The government can buy Y worth of goods and services, thus replacing private with public demand, or it can reduce taxes by Y, so that people have more money to spend, or it can do some of both, as in fact Obama proposes to do. At this writing, roughly 40 percent of his proposed multi-hundred-billion deficit-spending package (that is, spending financed by borrowing rather than by taxing) is earmarked for tax reductions. The rest is split between public-works programs, such as road construction, and transfer payments in such forms as additional unemployment benefits, mort-gage relief, and health insurance for people who don't have any.
There are three basic questions to ask about the program. The first is whether it is necessary, the second whether it has the right structure, and the third whether it is the right size. I will discuss just the first two questions.
Ben Bernanke, the chairman of the Federal Reserve Board and the leading economic student of the Great Depression of the 1930s, is a conservative economist. Conservatives don't like huge deficit-spending programs, or at least the public-works and transfer-payment components of them, which increase government involvement in and control over the economy. Bernanke supports the program, after having failed to avert a depression by means of monetary policy alone. Almost the entire economics profession converted--virtually overnight--from being Milton Friedman monetarists (Friedman believed that only bad monetary policy could turn a recession into a depression) to being John Maynard Keynes deficit spenders. I'll assume they're right, and move on to the question of structure.
I do not think the tax cuts are a good idea. Most of the increase in after-tax income is likely to be saved, rather than spent on buying goods and services. One of the reasons why the recession has turned into a depression is that Americans have meager savings, most of them in overpriced houses and overpriced stocks, and so they are sensibly reallocating income from consumption to saving. And there is much evidence that even in normal times, people spend less out of temporary income spurts than they do when they receive what they think will be a permanent increase in in-come. There is no such thing as a permanent tax cut, because the Congress that enacts a tax cut cannot bind subsequent Congresses (there is a new one every two years) not to rescind it.
I also think the transfer payments are a bad idea. The goal of a Keynesian deficit-spending program is to restore demand to X, not to increase it. If instead of demand rising as a consequence of the program from X - Y to X, it rises from X - Y to X + Z, there will be inflation because demand will exceed supply. Programs to transfer wealth are very difficult to abolish, because interest groups form about them. The problem is somewhat less serious with public-works programs, especially road-building and other infrastructure projects, and especially those infrastructure projects that were planned or begun by states or municipalities and interrupted or deferred because of the fall in tax revenues resulting from the depression. The federal government can finance these projects until the depression is over, and then the states can continue them with its own tax money.
There is a legitimate concern that many of the projects undertaken by the federal government will yield costs in excess of benefits. But the concern is exaggerated, because it ignores the benefits that such projects confer on fighting the depression as distinct from simply improving the nation's transportation system or reducing carbon emissions or buying military equipment to replace what has been lost in the Iraqi and Afghan wars. To the extent that the projects by increasing demand reduce unemployment, and reduce fear of unemployment by those who are not laid off (yet), they not only increase people's spendable income (unemployment benefits are lower than the wages they replace) but by reducing job insecurity reduce the fraction of wages that people save rather than spend. The saving rate has soared in recent months and is one of the major factors in reducing consumption and pushing us to the edge of a deflation.
In addition, public-works spending has a multiplier effect. The government's expenditure on buying goods and services (a road, a bridge, or whatever) increases output directly, but it also does so indirectly because the company that builds the project with government funds pays its employees and suppliers, and they in turn spend part of the money they receive, further stimulating output.
Properly structured, a Keynesian program can help to check a downward economic spiral. With monetary policy apparently inadequate to avert a downward spiral big enough to trigger deflation, there may be no good alternative to such a program.
Posted by Richard Posner at 9:19 PM | Comments (148) | TrackBack
On the Obama Stimulus Plan-Becker
If the government increased its spending on infrastructure when the economy has full employment, its main impact would likely be to draw labor, capital, and raw materials away from various other activities. In effect, increased government spending under these employment conditions would "crowd out" private spending. Measured GDP would not be much affected, if at all. To be sure, the efficiency of the economy would rise if too little had previously been invested in this infrastructure, while efficiency would fall if this government spending were more wasteful than the private spending that was crowded out.
This analysis is a useful starting point to consider the effects of stimulus packages, such as the one proposed by soon-to-be President Obama. Of course, the present situation is not one of full employment but of underemployment and excess unemployment, and employment is still falling. How does one adjust the full employment analysis in the first paragraph to account for the presence of unemployed labor and capital? One extreme assumes no crowding out of other private spending when governments increase their spending with significant underemployment in the economy. Increased government spending through a stimulus package under these conditions might even have a "multiplier" effect that would greatly increase, not crowd out, other private spending. The reason is that the recipients of the government spending in turn would increase their spending, and thereby stimulate other activities. Intermediate assumptions assume partial crowding out of other private activities, so a stimulus package would still increase employment and GDP. However, the value, if any, of the increase would depend on how effectively governments spend the stimulus compared to the private spending that is crowded out.
Various assumptions about multipliers and crowding out, some implicit, are found in a recent "official" evaluation ("The Job Impact of the American Recovery and Reinvestment Plan") of the effects on GDP and jobs of President Elect Obama's stimulus package. The authors- Christina Romer (incoming Chair of the Council of Economic Advisers) and Jared Bernstein (of the incoming Vice-President's staff)- assume in their calculations a stimulus package that spends a little over $775 billion on energy, infrastructure, health care, tax cuts, and direct payments to the unemployed and other low income individuals. This stimulus is about 7% of the real GDP of about $12 trillion that they estimate for the 4th quarter of 2010 without any stimulus. After working through their analysis, they conclude that this stimulus package will raise real GDP by 3.7 percent in the 4th quarter of 2010 compared to the situation without a stimulus package (Table 1, p.4), so that there is some significant crowding out of private spending. They also assume that this 3.7 % increase in GDP would raise jobs at that time by about 31/2 million. According to their calculations, with the stimulus package, unemployment would be at about 7% in the 4th quarter of 2010 instead of about 9 % without the stimulus.
Are these estimates reasonable? Let me first admit that in recent years I have not followed either the academic macroeconomic literature that estimates multipliers of different kinds from various spending and tax programs, or the literature that explicitly estimates crowd out effects of increased government spending. Moreover, Romer and Bernstein claim that they assume basically the same multipliers used in the Federal Reserve's FRB/US model, and by a leading private forecaster.
Nevertheless, I believe that they overestimate the effects of this stimulus package on the economy, and that the same techniques would similarly overestimate the employment effects of other types of government spending and tax reduction policies. One strange assumption in the Romer and Bernstein analysis is their assumption that households treat temporary tax cuts as permanent, although they admit that temporary tax cuts are mainly saved and not spent (p.6). However, even without any stimulus from tax cuts to households and from business tax incentives, they still get an increase in 2.7 million jobs from this stimulus package (Table 2, p.6). This is because in their calculations direct spending programs, such as on infrastructure or education, have the biggest effects on jobs per dollar of stimulus.
Perhaps their estimates of the stimulus provided by direct government spending are in the right ballpark, but I tend to believe that they are excessive. For one thing, the true value of these government programs may be limited because they will be put together hastily, and are likely to contain a lot of political pork and other inefficiencies. For another thing, with unemployment at 7% to 8% of the labor force, it is impossible to target effective spending programs that primarily utilize unemployed workers, or underemployed capital. Spending on infrastructure, and especially on health, energy, and education, will mainly attract employed persons from other activities to the activities stimulated by the government spending. The net job creation from these and related spending is likely to be rather small. In addition, if the private activities crowded out are more valuable than the activities hastily stimulated by this plan, the value of the increase in employment and GDP could be very small, even negative.
As Posner and others have indicated, there appears to have been a huge conversion of economists toward Keynesian deficit spenders, but the evidence that produced such a "conversion" is not apparent (although maybe most economists were closet Keynesians all along). This is a serious recession, but Romer and Bernstein project a peak unemployment rate without the stimulus of about 9%. The 1981-82 recession had a peak unemployment rate of about 10.5%, but there was no apparent major "conversion" of economists at that time. What is so different about the present recession compared to that one, and to other recessions since then, that would greatly raise the estimated stimulating effects of government spending on various types of goods and services?
It is relevant in answering this question that the origins of this recession were in the financial sector, and especially in the excessive mortgage credit to sub prime and other borrowers. The widespread collapse of the financial sector, and the wholesale retreat from risky assets, clearly has called for a highly pro-active Fed. But it is not obvious why this should lead to greater confidence in the power of government spending stimulus packages. Of course, perhaps the prior emphasis on crowding out, and skepticism toward the stimulating effects of government spending, were wrong, or that recessions were too short and mild after the 1981-82 recession to call for Keynesian-type stimulus packages.
Time will tell whether I am right that a spending and tax package of the type analyzed by Romer and Bernstein may stimulate the economy as measured by GDP and employment, but that the stimulus will be smaller then they estimate, and its value to consumers and taxpayers could be even smaller.
Posted by Gary Becker at 5:35 PM | Comments (3552) | TrackBack
January 4, 2009
Is This a Good Time to Raise Taxes on Gasoline? Becker
When we blogged about gasoline taxes on July 21, 2008, the sharp rise in gasoline prices to over $4 a gallon reduced the gasoline consumption that contributes to global warming, local pollution, auto accidents, congestion, and other externalities from driving. I suggested that if it were desirable to use gas taxes to reduce gasoline consumption, a better time would be when gasoline prices were much lower.
In the little over five months since that discussion, average gasoline prices in the United States have declined by more than 60 percent to about $1.50 a gallon. In light of the July discussion, is this a good time for the federal government, perhaps particularly for local and state governments, to raise gasoline taxes? I believe that despite the free fall in gas prices, other events since that earlier posting have greatly weakened the case for higher gas taxes at this time.
I have opposed the bailout of GM, Ford, and Chrysler through federal loans and outright grants, and believe these companies should have been allowed to go into bankruptcy proceedings (see, e.g., my post on Dec. 16th, 2008). However, given that President Bush started a bailout, and that the new Congress is likely to extend the bailout, this would be a bad time to raise gas taxes. For higher gas prices will increase the financial difficulties of the American automakers by reducing driving and shifting demand away from the SUVs, minivans, and trucks that these companies have depended on for much of their revenues.
A further weakening of the financial position of American carmakers would increase the size of the bailout of the American auto industry needed to prevent it from going bankrupt. This implies that higher gas taxes would have a multiplier effect on the tax burden facing American families and businesses- not only would they have to pay more for gas, but they also would at some point have to pay higher taxes to finance a larger bailout.
A related reason to avoid raising gas taxes now that was not so apparent when we blogged in July is that the world is in a serious recession that will get worse before it gets better. Many lower and middle-income families have lost their jobs, and many more will suffer reduced incomes during the coming months. Since increasing numbers of individuals are facing more difficult economic circumstances, this hardly is the time to raise taxes on cars used to commute to work and to shop, especially since higher gas taxes would lead to greater government spending on bailing out American carmakers. Fiscal policy during a recession should, if anything, cut rather than raise taxes, be they taxes on gasoline, personal incomes, or business.
President-elect Obama has reached a similar conclusion. The New York Times of Jan. 3 reported that when he was asked last month whether he would consider a much larger federal tax on gasoline, given the sharp fall in gas prices, Mr. Obama replied that American families were hurting because of rising unemployment and falling home values. They quote him as saying "So putting additional burdens on American families right now, I think, is a mistake".
Some proponents of the bailout to automakers want to make payments to GM, Ford, and Chrysler conditional on their making cars that are more friendly to the environment through getting greater miles per gallon of gasoline used. One frequently suggested way to do that would be to raise the Corporate Average Fuel Economy (CAFÉ) requirements at a more rapid rate than under present law. CAFÉ standards are presently at 27.5 mpg for cars, and 22.2 mpg for pickups, SUVs, and minivans, and they are scheduled to rise to much higher levels starting in 2011. Since foreign carmakers are better at making fuel-efficient cars than are American companies, any sharp increase in CAFÉ requirements would further weaken the competitive position of the American companies. Hence, this too would defeat the alleged purpose of the auto bailout, which is to help American companies reduce their financial problems, so that they can compete more effectively against foreign automakers.
Although neither higher gas taxes nor tougher fuel-efficiency standards are desirable at this time, higher taxes would be preferable to tougher standards. Both hurt GM and the other American car manufacturers, but bigger taxes are a more efficient way to economize on the use of gasoline. Higher gas prices encourage consumers to drive fewer miles with the cars they already own, especially SUVs and other gas-guzzlers. Higher gas prices also give consumers an incentive to shift purchases of new cars to more fuel-efficient cars. Bigger gas taxes stimulate greater investments in R&D to produce better hybrids, battery-driven cars, and other types of cars that rely less on gasoline. In essence, raising the tax on gasoline encourage consumers and businesses to economize on all their margins of adjustment.
Tougher fuel standards encourage economies in the use of gasoline only by mandating the production of cars that get more miles per gallon of gasoline used. However, unlike what happens with higher gas prices, owners of more fuel-efficient cars will increase rather than decrease how much they drive precisely because these cars are more fuel-efficient. That partly offsets the reduction in gas consumption from driving more efficient cars.
Posted by Gary Becker at 7:17 PM | Comments (52) | TrackBack
Raise Gasoline Taxes Now? Posner's Comment
I agree with Becker that it would be a mistake to raise gasoline taxes. We're in the midst of a depression and threatened with deflation, which would be an especially ominous development. Deflation occurs when the price level falls, as can happen--as may be happening now--when demand falls so far that sellers, to avoid complete ruination, slash the prices of their goods by extreme percentages, such as 50 or 75 percent. With prices depressed, a given amount of dollars buys more goods--money thus is more valuable. Credit tends to dry up, since even if the nominal interest rate is zero, the real interest rate may be very high. Imagine, to take an extreme case, that a dollar will buy you a loaf of bread today but two loaves of bread in a year. Then to borrow a dollar today for repayment in a year at a nominal interest rate of zero amounts to borrowing at a real interest rate of 100 percent, because to have the loaf of bread today you will have to give up two loaves in a year.
When there is a danger of deflation, raising taxes increases the danger by reducing the demand for goods and services, in the present instance for gasoline and therefore also for cars, in particular cars made by the Detroit automakers because the gas mileage of their cars is inferior to that of the foreign cars. As demand falls, discounts will increase, so prices will continue to fall. Output will be falling too, but prices can fall faster than output, especially if sellers have swollen inventories because they did not anticipate a depression.
It is true that many "foreign" cars are actually manufactured in the United States. A mere substitution of those cars for Detroit-made cars would not reduce demand. Nor for that matter would a substitution of cars manufactured abroad, though by reducing employment in the United States such a substitution would deepen our depression. But the foreign cars (wherever actually made) would be sold at a discount too, in order to compete with the Detroit-made cars.
If gasoline taxes were raised to a very high level, there might actually be an increase in overall demand for cars if there are new cars that are enormously more fuel-efficient than existing ones. But the effect on the economy would still be negative, because people would have much less money to spend on other products.
Becker points to the possibility of a double whammy: raising gasoline taxes would not only reduce the demand for cars but by doing so it would increase the cost of the auto bailout. I am inclined to disagree if the bailout is understood as I hope it will be as intended simply to postpone the bankruptcy of the three Detroit automakers until the overall economic picture clarifies, rather than to reform and revitalize them. I don't think there would be any social benefit from saving the companies once the economy can absorb their disappearance or radical shrinkage without serious macroeconomic consequences. At that point, it should be sink or swim for them. To preserve them beyond that point by means of continuing federal grants would be merely to subsidize the United Auto Workers and the blue-collar workers whom the union represents, plus automobile dealers, the companies' managerial and white-collar employees, and the companies' stockholders and bondholders.
I hope that after the depression ends, however, serious consideration will be given to four types of tax (broadly defined), none a gasoline tax as such, that would reduce the demand for motor vehicles. One would be a tax on carbon emissions. The second a tax on traffic congestion. The third a tax in the form of highway tolls, to pay for the infrastructure projects that are part of the Obama Administration's "stimulus" (i.e., Keynesian--deficit spending) program. The fourth would be a tax on petroleum, designed to reduce our dependence on foreign oil and (relatedly) the income of the oil-exporting nations.
Posted by Richard Posner at 6:44 PM | Comments (52) | TrackBack
