Saturday, April 5, 2014

Return of the Creature from the DeLong Lagoon

Project Syndicate published a version of Brad DeLong's ill-informed anti-Marx mutterings with an odd twist. Where his New York Times commentary had started out "I have long thought that Marx's fixation on the labor theory of value made his technical economic analyses of little worth," the Project Syndicate version attributes the unfounded criticism of Marx to Columbia University assistant professor Suresh Naidu:
The economist Suresh Naidu once remarked to me that there were three big problems with Karl Marx’s economics. First, Marx thought that increased investment and capital accumulation diminished labor’s value to employers and thus diminished workers’ bargaining power. Second, he could not fully grasp that rising real material living standards for the working class might well go hand in hand with a rising rate of exploitation – that is, a smaller income share for labor. And, third, Marx was fixated on the labor-theory of value.
Delong has indeed "long thought" that Marx "vanishes into the swamp which is the attempt to reconcile the labor theory of value with economic reality, and never comes out." People who know Suresh Naidu and his work find it extremely unlikely that the views attributed to him by DeLong are accurate. So what's this business of attributing his muddled misconceptions to something Naidu had "once remarked" to him?

Thursday, April 3, 2014

The Creature from the DeLong Lagoon

Professor Brad DeLong:
I have long thought that Marx's fixation on the labor theory of value made his technical economic analyses of little worth. Marx was dead certain for ontological reasons that exchange-value was created by human socially-necessary labor time and by that alone, and that after its creation exchange-value could be transferred and redistributed but never enlarged or diminished. Thus he vanished into the swamp, the dark waters closed over his head, and was never seen again.
Brad forgot to add that Karl Hussein Marx was born in KENYA

Brad DeLong or Karl Marx?
Just a few pages from Marx's A Contribution to the Critique of Political Economy are enough to show that DeLong's "long thoughts" about Marx must have emerged from a swamp with waters darker than anything even the creature from the black lagoon would deign to wallow in. In a section titled "Historical Notes on the Analysis of Commodities" Marx surveyed a century and a half of thought in classical political economy "beginning with William Petty in Britain and Boisguillebert in France, and ending with Ricardo in Britain and Sismondi in France" that dealt with the concepts of labor time and exchange value and their relationship. Of particular pertinence to refuting DeLong's ontological fantasy is Marx's discussion of the contributions of James Steuart and David Ricardo. 

In Marx's account, Steuart was the first to make a "clear differentiation between specifically social labour which manifests itself in exchange value and concrete labour which yields use values..."  Furthermore, Steuart was "interested in the difference between bourgeois labour and feudal labour," and consequently shows "that the commodity as the elementary and primary unit of wealth and alienation as the predominant form of appropriation are characteristic only of the bourgeois period of production and that accordingly labour which creates exchange-value is a specifically bourgeois feature [emphasis added]." In other words, the relationship between labour time and exchange value was viewed by Steuart (to Marx's approbation) as historically contingent, not as some ontological certainty, as Delong claims.

Ricardo, according to Marx, "neatly sets forth the determination of the value of commodities by labour time, and demonstrates that this law governs even those bourgeois relations of production which apparently contradict it most decisively." Does this imply that after its creation this exchange value is "never enlarged or diminished," as DeLong asserts? Marx notes the following qualification by Ricardo: "the determination of value by labour-time applies to 'such commodities only as can be increased in quantity by the exertion of human industry, and on the production of which competition operates without restraint.'"

Whatever one thinks of the labour theory of value, DeLong's claims about "Marx's 'fixation'" are so utterly groundless and fantastic as to make one suspect that perhaps Brad mistakenly thought his commentary was scheduled to be published on April 1st. Especially foolish is his account of Marx's alleged beliefs about the impossibility of re-employment of workers displaced by machinery:
Karl Marx in his day could not believe the volume of production could possibly expand enough to re-employ those who lost their jobs as handloom weavers as well-paid machine-minders or carpet-sellers. He was wrong.
Obviously DeLong is not aware that Marx devoted a section in Capital to precisely this question, "The theory of compensation as regards the workpeople displaced by machinery," the conclusions of which are more in accord with Keynes's 1934 radio address, "Is the Economic System Self-Adjusting?" than with DeLong's foolish caricature:
The labourers that are thrown out of work in any branch of industry, can no doubt seek for employment in some other branch. If they find it, and thus renew the bond between them and the means of subsistence, this takes place only by the intermediary of a new and additional capital that is seeking investment; not at all by the intermediary of the capital that formerly employed them and was afterwards converted into machinery.
Marx reserves his most caustic retort to "the theory of compensation," however, for the first paragraph of the succeeding section:
All political economists of any standing admit that the introduction of new machinery has a baneful effect on the workmen in the old handicrafts and manufactures with which this machinery at first competes. Almost all of them bemoan the slavery of the factory operative. And what is the great trump-card that they play? That machinery, after the horrors of the period of introduction and development have subsided, instead of diminishing, in the long run increases the number of the slaves of labour!
Was Marx wrong, yet again? I leave the last word to DeLong who smugly, albeit inadvertently, confirms Marx's prediction to the letter by playing what he imagines is the great trump-card of the worst-case scenario:
The pessimistic view is that some pieces of (3)* will be (a) mind-numbingly boring while (b) stubbornly impervious to artificial intelligence, while (4)** will remain limited and for the most part poorly paid. In that case, our future is one of human beings chained to desks and screens acting as numbed-mind cogs for Amazon Mechanical Turk, forever.
*"use our hands, mouths, brains, eyes, and ears to make sure that ongoing processes and procedures stay on track"

**"via social reciprocity and negotiation try to keep us all pulling in the same direction"

Sunday, March 30, 2014

Inequality and Sabotage: Piketty, Veblen and Kalecki (for anne at Economist's View)

One of Thomas Piketty's central concerns in Capital in the 21st Century is the inequality between the rate of return on capital (r) and the growth rate (g), which he expresses as r>g. In a recent opinion piece in the Financial Times, "Save capitalism from the capitalists by taxing wealth," Piketty wrote:
Even if wage inequality could be brought under control, history tells us of another malign force, which tends to amplify modest inequalities in wealth until they reach extreme levels. This tends to happen when returns accrue to the owners of capital faster than the economy grows, handing capitalists an ever larger share of the spoils, at the expense of the middle and lower classes. It was because the return on capital exceeded economic growth that inequality worsened in the 19th century – and these conditions are likely to be repeated in the 21st. 
Piketty's proposed (admittedly Utopian) remedy for the current tendency for returns to capital to accrue faster than the economy grows is a global wealth tax, which he describes as "difficult but feasible." One only needs to look at global climate negotiations to be skeptical of that feasibility assessment. There is a global consensus among governments on the need to limit greenhouse gas emissions but they still can't agree on a means for doing so. How likely is it that governments would even agree on the need to limit returns on capital?

A more realistic proposal may be developed from consideration of the mechanism that underlies the r>g dynamic. Nearly a century ago, Thorstein Veblen offered insights into this mechanism in his The Engineers and the Price System. To Veblen r>g (although he didn't use that term) was a strategy pursued by business, not simply a statistical finding. As Veblen points out, "this is matter of course, and notorious. But it is not a topic on which one prefers to dwell." Accordingly, economists have preferred not to dwell on it. They have pretended it doesn't exist:
The mechanical industry of the new order is inordinately productive. So the rate and volume of output have to be regulated with a view to what the traffic will bear — that is to say, what will yield the largest net return in terms of price to the business men who manage the country's industrial system. Otherwise there will be “overproduction,” business depression, and consequent hard times all around. Overproduction means production in excess of what the market will carry off at a sufficiently profitable price. So it appears that the continued prosperity of the country from day to day hangs on a “conscientious withdrawal of efficiency” by the business men who control the country's industrial output. They control it all for their own use, of course, and their own use means always a profitable price. In any community that is organized on the price system, with investment and business enterprise, habitual unemployment of the available industrial plant and workmen, in whole or in part, appears to be the indispensable condition without which tolerable conditions of life cannot be maintained. That is to say, in no such community can the industrial system be allowed to work at full capacity for any appreciable interval of time, on pain of business stagnation and consequent privation for all classes and conditions of men. The requirements of profitable business will not tolerate it. So the rate and volume of output must be adjusted to the needs of the market, not to the working capacity of the available resources, equipment and man power, nor to the community's need of consumable goods. Therefore there must always be a certain variable margin of unemployment of plant and man power. Rate and volume of output can, of course, not be adjusted by exceeding the productive capacity of the industrial system. So it has to be regulated by keeping short of maximum production by more or less as the condition of the market may require. It is always a question of more or less unemployment of plant and man power, and a shrewd moderation in the unemployment of these available resources, a “conscientious withdrawal of efficiency,” therefore, is the beginning of wisdom in all sound workday business enterprise that has to do with industry. [emphasis added] 
Veblen didn't attribute this strategy of sabotage to evil motives on the part of individual firms, on the contrary it is a imperative for survival:
Should the business men in charge, by any chance aberration, stray from this straight and narrow path of business integrity, and allow the community's needs unduly to influence their management of the community's industry, they would presently find themselves discredited and would probably face insolvency. Their only salvation is a conscientious withdrawal of efficiency. 
Veblen was referring, as his title indicates, to the effects of the "price system" -- the interaction in the market of supply and demand. The withdrawal of efficiency kept prices at profitable levels by limiting supply. But what about government intervention to ameliorate those effects through a full-employment policy of demand management (a government spending program)? Michal Kalecki's analysis in "The Political Aspects of Full Employment" addressed that prospect:
Clearly, higher output and employment benefit not only workers but entrepreneurs as well, because the latter's profits rise. And the policy of full employment outlined above does not encroach upon profits because it does not involve any additional taxation. The entrepreneurs in the slump are longing for a boom; why do they not gladly accept the synthetic boom which the government is able to offer them? 
Kalecki outlined three categories of business objection to a full employment by government spending: "(i) dislike of government interference in the problem of employment as such; (ii) dislike of the direction of government spending... (iii) dislike of the social and political changes resulting from the maintenance of full employment." It is the first and third of these objections that have the most direct bearing on the issue of r>g:
Under a laissez-faire system the level of employment depends to a great extent on the so-called state of confidence. If this deteriorates, private investment declines, which results in a fall of output and employment (both directly and through the secondary effect of the fall in incomes upon consumption and investment). This gives the capitalists a powerful indirect control over government policy: everything which may shake the state of confidence must be carefully avoided because it would cause an economic crisis. But once the government learns the trick of increasing employment by its own purchases, this powerful controlling device loses its effectiveness. Hence budget deficits necessary to carry out government intervention must be regarded as perilous. The social function of the doctrine of 'sound finance' is to make the level of employment dependent on the state of confidence.
 ...  
It is true that profits would be higher under a regime of full employment than they are on the average under laissez-faire, and even the rise in wage rates resulting from the stronger bargaining power of the workers is less likely to reduce profits than to increase prices, and thus adversely affects only the rentier interests. But 'discipline in the factories' and 'political stability' are more appreciated than profits by business leaders. Their class instinct tells them that lasting full employment is unsound from their point of view, and that unemployment is an integral part of the 'normal' capitalist system.
For "state of confidence" substitute r>g; for "bargaining power of workers" substitute r<g. Veblen borrowed his term from the subtitle of Elizabeth Gurley Flynn's I.W.W. pamphlet, Sabotage: The Conscious Withdrawal of the Workers' Industrial Efficiency. Flynn's pamphlet was published in 1916 but the idea of workers deliberately restricting output is much older.

One of the most persistent objections to trade unions during the 19th century was that their principal mode of operation was to restrict production. Veblen simply turned this perennial complaint into a question about the 'innocence' of those making all the indignant accusations. Adam Smith had long ago observed famously, "People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices."

The missing link here, though, is the recognition that the particular efficiencies that the workers withdraw are not the same ones as those that the business firm withdraws. There are different modes of efficiency and those differences result in different effects on the rate of return to capital. In other words, there are r>g efficiencies and there are r<g efficiencies. An example of an r>g efficiency would be a new machine that uses less fuel and less labour to produce a given amount of output. An example of an r<g efficiency would be a reduction in the length of the standard working day that improves worker productivity by reducing fatigue and increasing overall well being. Both are examples of efficiencies but they differ as to whom the benefit of the efficiency gain primarily accrues.

Ironically, business has historically raised its most shrill objections to r<g efficiencies by making the false claim that they are intended as restrictions on production. The distinction between r>g efficiencies and r<g efficiencies also has profound implications for Say's Law (the vulgar version), the Jevons Paradox and Chapman's analysis of the effects of a reduction in the hours of labor, which I discussed in an earlier post.

Friday, March 28, 2014

"Figure Eight": Another Jevons Paradox

In The Coal Question, William Stanley Jevons argued that "It is wholly a confusion of ideas to suppose that the economical use of fuel is equivalent to a diminished consumption. The very contrary is the truth." As Jevons himself pointed out, the same principle was generally recognized with respect to the effects of labour-saving machinery on employment. Classical political economist John Ramsey McCulloch had stated the latter view emphatically in an 1827 Edinburgh Review essay on the progress of the British cotton industry, "There is, in fact, no idea so groundless and absurd, as that which supposes that an increased facility of production can under any circumstances be injurious to the labourers."

The Jevons Paradox remains a complex, ambiguous and controversial idea. In a nutshell, Jevons argued that an improvement in energy efficiency reduced the cost per unit of output, which in turn led to an increase in quantity demanded and ultimately to a rebound of energy consumption beyond what it would otherwise have been in the absence of the efficiency gain. This essay will return to the rebound debate in a later section. First, though, is the matter of introducing another Jevons paradox – one that has crucial bearing on the scientific status of neoclassical economics. Jevons was not the author of this other paradox, rather it's a paradox about the reception of his work.

In chapter five of his Theory of Political Economy, Jevons presented his theory of work effort that relies on a concept of the disutility of excessive toil.
"A few hours' work per day may be considered agreeable rather than otherwise; but so soon as the overflowing energy of the body is drained off, it becomes irksome to remain at work. As exhaustion approaches, continued effort becomes more and more intolerable."
Following those remarks, Jevons quoted extensively from Richard Jennings, whose statement of "this law of variation" he praised for its clarity. "There can be no question," concluded Jevons, "of the general truth of the above statement," which he then illustrated with a diagram, labeled Figure VIII. "We may imagine the painfulness of labour in proportion to produce to be represented by some such curve as abcd in Fig. VIII.":
In this diagram the height of points above the line ox denotes pleasure, and depth below it pain. At the moment of commencing labour it is usually more irksome than when the mind and body are well bent to the work. Thus, at first, the pain is measured by oa. At b there is neither pain nor pleasure. Between b and c an excess of pleasure is represented as due to the exertion itself. But after c the energy begins to be rapidly exhausted, and the resulting pain is shown by the downward tendency of the line cd.
Jevons went on to describe how the curve Pq in his diagram represented the diminishing utility to the worker of the wages earned as the duration of work increased. He concluded that there will be "some point m such that qm = dm, that is to say, such that the pleasure gained [from wages] is exactly equal to the labour endured."

"Despite its strengths," mused Robert Kerton 100 years after its publication, "recent textbooks ignore Jevons' theory while elevating to supremacy indifference curve analysis." In a footnote he added that "A survey of six recent textbooks on labor economics found no mention of Jevons' approach."

In the intervening years, though, one of Alfred Marshall's star pupils, Sydney J. Chapman, added a few wrinkles – and several curves and letters, to be exact -- to Jevons's diagram. Curve L in Chapman's diagram is clearly analogous to Jevons's curve abcd. While the Jevons diagram described the decision faced by an individual worker, Chapman's sought to capture both the immediate and long period effects of changes in working time on both workers and employers in the economy as a whole. He simplified the model by assuming a single industry and workers who had uniform income preferences and endurance.

Chapman's general conclusion from this analysis was "that progress may be expected to be accompanied by a progressive curtailment of the working day." Along the way, though, he observed that in a competitive market, progressive employers who invested in the future well-being of their workers by voluntarily reducing the hours of work would risk having those workers poached by other employers willing to pay higher wages without having invested in their improved well-being.

As the Sandwichman has pointed out -- repeatedly -- Chapman's analysis of the hours of labour was acknowledged as canonical by such Cambridge and LSE luminaries as Alfred Marshall, E. C. Pigou, J. R. Hicks and Lionel Robbins. Both Pigou and Hicks presented comprehensive summaries of it in The Economics of Welfare and The Theory of Wages, respectively. In fact, Chapman's theory of hours was one of the conceptual pillars of Pigou's analysis of externalities in The Economics of Welfare. So, it seems somewhat strange that Chapman's analysis is virtually forgotten by modern economists.

By "forgotten," I mean economists routinely rely on the assumption that "the given (presumably market-determined) hours of work are optimal" -- usually without even being aware that they making an assumption.

So here is what is so paradoxical: while the formally-labeled Jevons Paradox describes the relentless pursuit of both labour and energy efficiency driving expanded consumption of both through lower unit costs, Jevons's other paradox has to do with the relentless resistance put up against an alternative method of labour efficiency associated with resource conservation. This would not be at all out of place in Thorstein Veblen's analysis in The Engineers and the Price System of the ubiquitous restriction of output imposed by business to obtain higher prices.

Thursday, March 27, 2014

The prosperity covenant: how reducing work time really works to create jobs (1999)

by Tom Walker

A brief presented to the
Operation JOBS Roundtable
Vancouver, B.C.
February 19th , 1999

"The harder we crowd business for time, the more efficient it becomes." -- Henry Ford

It seems reasonable to suppose that if a company had ten employees who each regularly worked four hours a week overtime, the employer could pool those hours and hire an eleventh worker, thus increasing employment at the company by ten per cent. Likewise, if long hours are being worked throughout the economy, one would expect it to be feasible to spread out those hours of work and create new jobs. If this were true, unemployment could be abolished with the stroke of a pen.

"Wrong!" the economists tell us, "that is the lump-of-labour fallacy, which assumes there is only a fixed amount of work to be done. And that is clearly a fallacy!"

What is this strange sounding "lump-of-labour fallacy", which insists it would be uneconomical to redistribute work time? Why is there seemingly no alternative to the same old right-wing, "supply-side" nostrums that have brought two decades of rising inequality, enfeebled social programs and a crescendo of potentially disastrous financial speculation?

What is the lump-of-labour fallacy?

The lump-of-labour fallacy has been described as "one of the best known fallacies in economics." Whether or not that's true, it certainly is one of the least understood and the most misused.

As conceived in 1891 by English economist David Schloss, the fallacy of "the theory of the lump of labour" had nothing to do "with the question of the length of the working day." Schloss was writing about something else entirely -- why workers didn't like piece-rate wages. The phrase, however, seems to have struck a chord with editorial writers and authors of introductory economics textbooks, who have borrowed it for use as a trump card in the debate over work time.

The lump-of-labour fallacy simply says that there is not a "fixed amount of work to be done" and therefore one cannot share out such an assumed, fixed amount of work. End of story. The argument has nothing to say, in general, about whether jobs can be created by reducing the hours of work. It is a rebuttal only to a specific, popular simplification. The lump-of-labour theory is indeed a fallacy, but so is the use of the fallacy to make a case against the job creation possibilities of reduced work time. Technically, that common usage itselfs commits several fallacies: "hasty generalization", "straw man argument" and "non-sequitur of denying the antecedent".

The productivity paradox

A better case against relying on reduced work time to cure unemployment was argued -- also during the 1890s -- by another English economist, John Rae. That argument can be best summarized as the "productivity paradox". Rae argued -- and presented an impressive stack of evidence for the case -- that workers would probably produce as much or more in eight hours as they previously had in nine or ten hours and therefore reducing the hours of work would create no additional demand for labour. On the other hand, Rae cautioned, if the workers didn't produce as much as before in the shorter hours, labour costs would go up and that would reduce the demand for labour.

Although it presents a broader argument than the lump-of-labour fallacy, the productivity paradox also has a fatal flaw. It deals exclusively with an either/or situation. Thus it presents a false dilemma -- another fallacy. In the actual economy, a properly-designed reduction in the standard hours of work would encounter some workplaces where total output per worker could be maintained or even increased while other workplaces would see a decline in per-worker output, although that decline would usually be less than proportionate to the decline in hours.

How reducing work time really works

It is precisely the difference between the effects on output in different workplaces that gives shorter work time its power to create jobs. The key concepts for explaining how this works are:

1. efficiency
and
2. competition

Efficiency and competition are two words that business people like to use. They might even seem somewhat off-putting to people whose priorities are equity and social justice. So their use needs to be carefully defined.

Efficiency, in the sense we're using it here, means the efficient management of human resources. If the required amount of a product or service can be produced or performed safely and comfortably in seven hours' work instead of eight hours, it should be produced in seven hours. There shouldn't be bottlenecks or screw-ups to keep people hanging around, getting paid for doing nothing. Furthermore, the skills, knowledge and experience of the workforce should be used to best effect.

Competition means that well-managed, efficient firms and their employees should receive the maximum benefit of their efficiency. Poorly-managed, inefficient firms and their employees should not be enabled to shift the burden of their excess costs to the public and to the better managed firms.

So, how do shorter hours of work drive efficiency and competition? Setting an economy-wide standard for hours of work that is closer to the most productive arrangement for the most efficient firms increases those firms' ability to benefit from their efficiency. It also makes it harder for inefficient firms to pass on their excess costs to the public in the form of substandard wages, wasted skills and knowledge, and stressful long hours of work.

If required to match the hours of work of the pace-setting firms, less efficient employers will initially have to hire additional workers to maintain a given level of output. That is to say, there will be some temporary "work-spreading". This will help to absorb the unemployed and reduce the social costs of that unemployment. The overall effect would be to reduce the average cost of labour economy-wide even as it increases the cost of labour to the less efficient firms.

But over the longer term, competition will press the less efficient firms to invest in improved techniques and better management. The long-term employment gains come, not from the sharing out of an existing amount of work, but from the lower costs of production and higher effective demand that shorter work times stimulate. The main obstacle to understanding this dynamic comes from the stubborn (and completely unsupportable) assumption that output increases or decreases in direct proportion to the number of hours worked.

That output does not rise or fall in direct proportion to the number of hours worked is a lesson that seemingly has to be relearned each generation. In 1848, the English parliament passed the ten-hours law and total output per-worker, per-day increased. In the 1890s employers experimented widely with the eight hour day and repeatedly found that total output per-worker increased. In the first decades of the 20th century, Frederick W. Taylor, the originator of "scientific management" prescribed reduced work times and attained remarkable increases in per-worker output.

In the 1920s, Henry Ford experimented for several years with work schedules and finally, in 1926, introduced a five day, 40 hour week for six days pay. Why did Ford do it? Because his experiments showed that workers in his factories could produce more in five days than they could in six. At every step along the way -- in the 1840s, the 1890s and the 1920s -- the consensus of business opinion insisted that shorter hours would strangle output and spell economic ruin.

Ironically, the assumption that output varies in direct proportion to the number of hours worked is a restatement of the old lump-of-labour fallacy. Those opponents of shorter work time who complacently -- and mistakenly -- invoke the lump-of-labour fallacy are the one's who are actually guilty of committing it!

How long should the work week be?

The optimal length of the standard work week has changed historically along with changes in the intensity of work -- and it will continue to change. The optimal length at any particular time can only be determined by experimentation. And the research is not simple -- the relationship between the hours of work and the intensity of effort is not mechanical. Past research on optimal work times has invariably found a lag between a change in schedule and an increase in productivity as people work out new ways of doing things and as they gradually recover from accumulated fatigue. There also needs to be ongoing research into the relative benefits of other arrangements, such as longer vacation times or phased retirement, compared with shorter work weeks.

A common sense rule of thumb should be, however, that when unemployment is high, the hours of work are too long. Nothing could be simpler. High levels of unemployment enable poorly-managed companies to obtain labour at a discount and to pass on their excess costs to the public. High unemployment can never be "good for the economy". Unemployment isn't "natural"

A policy to fight unemployment by reducing the hours of work goes against the received economic orthodoxy of the past quarter century. That orthodoxy -- following Milton Friedman's theory of a "natural" or non-accelerating inflation rate of unemployment (NAIRU) -- has held that a certain amount of unemployment is "necessary" to prevent spiraling inflation. The orthodox policy keeps interest rates and unemployment high in order to fight inflation. High interest rates and the social costs of unemployment contribute to government deficits, which in turn are used to justify the slashing of social programs.

James K. Galbraith, in his book Created Unequal: The Crisis in American Pay, has shown the NAIRU theory to be both theoretically incoherent and completely unsupported by the historical evidence. Those of us on the ground in the economy already know well enough from experience the consequences of the conservative nostrums of high interest rates, chronic unemployment, soaring inequality, dismantled social programs and betrayed promises of a larger "pie-in-the-sky" of prosperity.

Right-wing economic policy fails because it insists on rewarding investors without regard to how efficiently that investment employs labour. It waves the flag of "competitiveness" while ensuring, through the maintenance of high unemployment, that poorly-managed firms are exempt from competing in the crucial area of how efficiently they employ labour resources. Right-wing policy proclaims it's opposition, "in principle", to a free lunch while at the same time serving up a bottomless banquet of low-cost labour to "dumb money".

A Prosperity Covenant

Reducing the hours of work is not an economic panacea. The efficiency gains from shorter hours -- and the long term employment gains -- don't come automatically from the reduction in hours. They come from adjusting to the reduction in hours. The process of adjustment requires co-operation between labour and management. That adjustment could be undermined by labour insisting on windfall gains from shorter hours or by managers passively allowing their gloomy expectations to become self-fulfilling prophecies.

The adjustment undoubtedly requires other government policies that complement a reduction in work time -- such as changes in the structure of payroll taxes, responsive fiscal and monetary policies, support for appropriate infrastructure development, etc. It is also unlikely that a single configuration of work time would be appropriate for all occupations and all industries. Perhaps an annual cap on work hours or a flexible band of hours would make more sense than a fixed daily and weekly limit. Like any other technology, the success of a policy for reducing the hours of work depends crucially on the design of the policy.

Although a reduction in work time would not be a panacea, it would be a powerful antidote to the toxic, high-unemployment orthodoxy that has been poisoning the Canadian economy for two decades. The recent federal budget speaks of the need for a "productivity framework". But there can be no sustained increase in productivity without an assurance that all will share fairly in the resulting prosperity -- a prosperity covenant. Reducing the hours of work lays the indispensable foundation for such a prosperity covenant.

The Poverty of Marginal Utility

"Ricardo, the head of the school which determines value by labor time, and Lauderdale, one of the most uncompromising defenders of the determination of value by supply and demand. Both have expounded the same proposition..." -- Karl Marx, The Poverty of Philosophy
The proposition was that machinery which displaces labor does so by diminishing the value (per given quantity) of the commodities produced. The proposition itself may seem unremarkable but what is intriguing is its uniform derivation by two presumably contentious schools of thought. Here is what Lord Lauderdale wrote about the idea of using labour as a measure of value:
The opinions [regarding supply and demand], that are here stated, concerning the nature and the causes of the variation of value, are nowise new. They have been hinted at by many; and by some they have been long ago explained with tolerable accuracy. They do not, however, appear to have been so clearly understood as to destroy the idea of any thing possessing a real and fixed value, so as to qualify it to form a measure of value. After this philosopher's stone, many have been in search; and not a few, distinguished for their knowledge and their talents, have imagined that in Labour they had discovered what constituted a real measure of value.
If labour does not possess a "real and fixed value," how is it that one can conclude that introducing labour-saving machinery will diminish the value of the commodities produced? My explanation for this uncanny convergence is no doubt too "simple" and too "obvious" to be believed. A proper exposition would lead the reader on a suspenseful and convoluted excursion to interrogate all the historical opinions, detours, evasions and possible objections,

But why bother? It is this simple: marginal utility theory of value is an embodied-labour theory of value in disguise. The disguise consists of not stating the obvious assumption and getting away with it because the assumption is so obvious as to be taken for granted.

The assumption is that the two parties to an exchange have a legitimate right to conduct that transaction.

I said it was simple but the legitimacy of the transaction is perhaps a bit more difficult than it may seem at first. For two parties to legitimately exchange goods, it is necessary for those goods to be their property. But as John Locke pointed out, the private ownership of property poses "a very great difficulty" given that God "hath given the world to men in common."

Fortunately for us, Locke resolved that difficulty by concluding that 1. "every man has a property in his own person..." 2. "The labour of his body, and the work of his hands, we may say, are properly his..." and 3. "Whatsoever then he removes out of the state that nature hath provided, and left it in, he hath mixed his labour with, and joined to it something that is his own, and thereby makes it his property."

Voila! The labour theory of property! Of course there are a few further steps to get from Locke's legitimation of the private ownership of property to the constitution of labour as a measure of value -- from the qualitative to the quantitative. But the rationale is also there in Locke's chapter, "Of Property," having to do with limited capabilities and appetites (e.g., "no man's labour could subdue, or appropriate all; nor could his enjoyment consume more than a small part...") and the injunction against spoiling ("He was only to look, that he used them before they spoiled, else he took more than his share, and robbed others. And indeed it was a foolish thing, as well as dishonest, to hoard up more than he could make use of."). For Locke, the legitimacy of private property was explicitly constrained by its measure, which was -- directly or indirectly -- derived from the expenditure of labour.

So "the school which determines value by labor time" and the "defenders of the determination of value by supply and demand" expound "the same proposition" in more ways than one! One group imagines they have discovered the philosopher's stone, the other pretends they can perform the transmutation out of thin air -- as long as no one peeks at the elixir of life concealed behind the curtain.

Roll over Böhm-Bawerk and tell Carl Menger the news!

Thursday, January 30, 2014

Basic Econometrics: Tiptoe through the Type II Tulips

An ancient bit of American folk wit asks, "If you call a tail a leg, how many legs does a cow (dog, horse, pig) have?"

The answer is four. Calling a tail a leg doesn't make it one. No amount of regression analysis virtuosity is going to "predict" or "estimate" that phantom fifth leg at a statistically significant level.

So what I'm going to say about Munnell and Wu's analysis and Type II errors may seem redundant. And if it was just Munnell and Wu's report that was at stake, it would be. But, as I pointed out in my earlier post, I'm looking at a minor genre of do-older-workers-take-jobs-from-the-young lump-of-labor boilerplate. This crap proliferates like the heads of Hydra, cut one off and it grows two more. So think of what follows as "cauterizing the stumps."




Type I versus Type II errors

In hypothesis testing, a Type I error is made when the null hypothesis is rejected although it is true. A Type II error is made when the null hypothesis is accepted but is actually false. This gets rather convoluted in that the null hypothesis posits "no effect", rejecting the null hypothesis implies probably finding an effect and thus the Type I error would find an apparent effect that doesn't actually exist. A Type II error would find no effect even though there is one.

"Statistical significance" refers exclusively to a low probability of committing a Type I error. It has no bearing either on the size of the effect or on the probability of making a Type II error.

Munnell and Wu reported the following finding with regard to the "crowding out" effect:
If crowding out were occurring, an increase in older persons’ employment would increase youth unemployment. However, the coefficient is negative and statistically insignificant, that is the increase in the employment rate for older people has no impact on youth unemployment. The second column presents the results for youth employment. Again, no sign of crowd out is evident. Instead, a 1-percentage-point increase in the employment rate for older people is associated with a 0.07 percentage points increase in youth employment. This finding strongly contradicts the crowd-out hypothesis.
How "strongly" does this finding contradict the crowd-out hypothesis? That depends on the statistical power of the test, which Munnell and Wu didn't report on and perhaps didn't even consider. In The Cult of Statistical Significance, Stephen Ziliak and Deirdre McCloskey reported the findings from their surveys comparing how statistical significance testing was used in papers published in the American Economic Review in the 1980s and the 1990s. Only 4.4% of papers published in the 1980s considered the statistical power of the test. By the 1990s, practice had improved somewhat -- to 8%!

Baroudi and Orlikowski give a succinct summary of the relationship between statistical power, Type II error and the reporting of statistically non-significant results:
Statistical power becomes particularly crucial to the interpretation of results in those cases where the null hypothesis is false; that is, when the phenomenon being investigated does exist. If the test reveals non-significant results in these circumstances, the usual response is to accept the null hypothesis and conclude that the effect being examined does not exist. Such a conclusion, however, would not be appropriate if the phenomenon actually exists but was undetected because the statistical test was not powerful enough. In such a case, a conclusion of "no effect" would be misleading; we would be generating a spuriously negative result - committing a Type II error. 
Was Munnell and Wu's statistical test powerful enough to conclude, as they did, that their statistically insignificant finding "strongly contradicts the crowd-out hypothesis"? They don't say. But a cursory glance at a scatter-plot of the 55-64 year old employment rate and the 20-24 year old unemployment rate strongly suggests it wouldn't matter anyway. There's nothing to see there. As Thomas Pynchon wrote in Gravity's Rainbow, "'If they can get you asking the wrong questions, they don't have to worry about answers."

The crowding-out hypothesis is a red-herring. Plain and simple. This pseudo-econometric farce is about fabricating a rationale for raising the pension-eligibility age.