Thursday, December 7, 2017

If we talked about labor like we talk about capital

We have all seen many articles, such as this one, with the title, "Can't Find Good Workers? Pay Up!"  There is a pervasive notion that morally and practically, wages are always too low and asset prices are always too high.  In the big, bad complicated world, those prices mostly are simply a reflection of fundamental economic reality, so that forcing them in the direction we are predisposed to favoring can create unintended consequences.  Even trying to change those fundamental realities to nudge those prices into a friendly direction might lead to outcomes that are difficult to fully understand.

There are issues where it is the case - that prices are too high and wages are too low - and changing the fundamental economic reality can be beneficial to everyone.  I have gone on and on here about the housing problem, and how allowing new capital into urban housing markets would lower asset prices and increase real wages in a way that would almost certainly be beneficial to everyone (except urban rentiers).  In 2006-2008, we did manage to bring down asset prices, and this was generally cheered or accepted.  But, the fundamental reality we changed in order to do that (credit and monetary deprivation) didn't really have much to do with why asset prices were high to begin with, so we have been drowning in unintended consequences ever since.

But, since this notion that wages are always too low and prices are always too high dominates public thought, in a sort of vulgar way, the Treasury and the Fed have never really been taken to task for the mistakes they made.  Instead, they have been largely criticized for the few things they did right, which were helping to keep asset prices from collapsing for the wrong reasons.

....aaaanyway, when all is said and done, it is a bit disconcerting to me how much of our conception of what has happened is predetermined.  If you get sick, the reaction from someone who believes in evil spirits vs. someone who believes in germ theory will be strikingly different.  It really seems to me that in many cases, our perception hinges on a set of choices that really has that broad of a scale.  This is especially true in complex areas, and that certainly includes finance.  Sometimes books or documentaries regarding the financial crisis even reference demon terminology, as if to make the point.

This caused me to imagine how it would look if we spoke about labor markets the same way we talk about capital markets.........


As the recovery heads toward a decade, it is getting harder and harder for workers to keep counting on the "greater fool" to keep this going.  Employers who are addicted to the gravy train need more workers to feed the beast, but all the good workers are taken.  So, those marginal resumes start looking more and more enticing.  And, wages keep getting pushed up as employers "reach for capacity".

Is there any way these substandard workers will ever pay off for those greedy employers?  Unlikely.  But, "You gotta keep dancing until the music stops." as they say.

As the frenzy builds, the gap between work histories and education on resumes and the actual qualifications of the remaining job seekers widens.  But, who cares?  Those workers get placed through the booming temp sector.  It's not their problem if the worker isn't qualified.  It would be one thing if you were hiring someone to work in your own office, but now we just combine all these substandard workers into one big pool that gets divvied up among employers.  In this frothy market, they naively take those resumes at face value, and the employment agencies pocket their fees.  And the machine just keeps cranking along.

Obviously, we need some regulation to stop this from getting out of hand.  If we had put a stop to the frothy labor markets of the 1990s, maybe we would have had more stable compensation since then instead of the declining labor force participation and stagnant wages that we ended up with.  Federal agencies need to put safeguards in place to prevent labor contracts with inflated wages and to prosecute false applications and resumes.    We all know this stuff is going on, yet have there been any high profile prosecutions?

And, of course, loose money is the grease in the gears that keeps goosing this thing on so that the inevitable collapse will be just that much deeper. (Oh, I guess this part of the rhetoric does stay the same.)


  1. I think what you're missing is there are deep societal choices that affect some of this. How we conduct monetary/fiscal policy, taxation, bailouts, trade policy, level of globalization, etc.

    We are currently experiencing surging wealth inequality and it seems to me that some non-trivial percent of the population thinks that's the sign of a poorly structured system. They lack the sophistication to talk about the actual drivers of this but instead talk simply in terms of labor, capital,etc. They are not wrong in the sense that the system is poorly designed if moderate-inequality is a goal.

    In another time, where labor has tremendous power, and returns on capital are low, I think we'd see the dialogue flipped. Views on labor vs capital are not timeless but reflect deeper thoughts about how the system as a whole is working.

    1. Thanks for the thoughtful reply, but I'm going to push back a bit.

      First, the poor structure hasn't led to an imbalance between labor and capital (at least, in the sense of worker and employer). The imbalance has been between firms, so that some workers and the firms that employ them have much higher incomes than other workers and firms. But, this vulgar tendency to see capital and labor in different ways leads to strong public sentiment against capital that has nothing to do with this empirical reality. So, it is this double standard that leads public sentiment astray.

      Second, prices and returns are mathematically inverse to one another. To a certain extent, high prices do mean returns to capital are low. Yet, this only worsens the dialog. The main financial result of the destruction of mortgage markets after 2006 has been to greatly increase yields on investments in home equity for those select borrowers who are acceptable to the CFPB.

    2. I basically agree but you cannot strip economics of politics. If society demands less inequality, the powers that be must find a way. I'm not surprised that the pushback from society is "crude" and doesn't get the dynamic exactly right. But that will always be the case...politics is a blunt tool. We have let a problem go unaddressed for far too long, and made choices that exacerbate it. The longer that persists the more crude the responses will become. It's a dangerous game.

    3. True. This is really about dealing with reality instead of substituting scapegoats. Scapegoats usually are minorities or immigrants, or some version of finance/capital/the rich. In both cases, it is the result of complex problems, where our perception of the cause inevitably boils down to who we are willing to accuse without carefully vetting the evidence and which groups we are willing to view ungenerously and to generalize negatively about from selected anecdotes. In complex situations, it seems that this has much more power over our perceptions than evidence does.

      Scapegoating minorities and immigrants looks distasteful because they tend to be marginalized already, so it is a broad problem, but in developed countries, it tends to also meet some opposition. Since scapegoating capital isn't "punching down", it seems to attract more bi-partisan support, so it is more likely, in our current political context, to lead to disastrous policies that enjoy wide support.

      In general here, I don't expect to overturn politics, but I try to interject a careful analysis of evidence in these areas where this hasn't generally been required by those with strong opinions, and to note where these double standards exist. I always find it interesting to transport language from one context to another, because we really are capable of enforcing extreme double standards without noticing, but I don't really know how these sorts of rhetorical devices come off to various types of readers.

  2. Well good post, and I probably agree with the thrust of it, and even more I have this silly sappy idea that labor and capital are complements and friends and not adversaries. I admire investors and I like people who work for a living in jobs validated by the market. Kum-by-ya!

    But let me premise my next comment with this: BLS just reported on Dec. 6 that national unit labor costs are down 0.7% in Q3 YOY.

    Okay, we have falling unit labor costs in the US.

    But if you review any Beige Book from the Fed in the last two years, or other Fed literature, or a large amount of the financial press, you would believe there are economy-damaging "labor shortages" which are widespread and getting worse.

    The same people whom genuflect to supply and demand---meaning there is no such thing as a "shortage," only where the lines cross on the x-y axis---suddenly devolve into irrational hysterical squeamishness when the topic is labor and devise fragile but extended arguments about how there can be "labor shortages."

    Even worse, it is abundantly obvious that what is causing much measured inflation is not labor but housing costs! That is, property zoning. Which is never, ever a topic in the macro-econo-sphere.

    Sometimes Kevin Erdmann asks aloud, "Why am I the only guy who ever talks about this topic A or B?"

    That is how I feel when I discovered that what the Fed defines as "full employment" is when there are about 1.4 people actively looking for work for every job opening.

    As for as I know, I am the only person in the econo-sphere to ever mention this. Gee, maybe a definition of "full employment" is when there is one job opening for every person seeking work.

    Yes, there is plenty of silly, anti-capital sentiments in left-wing press. (Although I think the rent problem in limited access metropolitan regions is a prime cause of this).

    But the left-wing bias is answered word for word by a strange way of looking at labor at the Fed and in the financial press.

    Anyway, the record shows wages dead for 40 years and declining shares of income going to labor. If one insists on seeing the world as labor v. capital, labor is in a long, long losing streak in the US.

    Think Cleveland Browns.

    1. That is a great find on the unit labor cost statistic. I think you've mentioned it before.

      And, did I see that the Fed now expects to hike rates 3 times next year?

  3. Yeah, Tim Duy pointed out the Fed has very, very limited experience at making policy at full employment…quite a statement.

    Like the departed Coach Fisher of the LA Rams had no experience at winning football….

  4. I've been leaning toward the "wages are too low and prices are too high" view, and this is what motivates me.

    It seems to me the primary goal of the major players in responding to the 2008 financial crisis was maintaining the book value of housing, but for the sake of the banks and other highly leveraged entities, not the average person. So we got bailouts of Wall Street, super low interest rates, the Fed buying mortgage bonds, no haircuts for AIG swaps, and not a single criminal investigation into a lot of shady business, unlike the 1980s S&L crisis. Now, I am not an economist, and I am told that this was all necessary to save the economy, and perhaps so, but it seems suspicious that the asset holders have made out very well, but the wage workers not so much. And just like after fifteen years of pointless wars in the Middle East and surrounding regions, one begins to question whether those running the show know what they are doing or have the best interests of the rest of us in mind. So why not try something different? Ten years of near-ZIRP and QE and even bigger too-big-to-fail banks haven't increased wages or labor participation, so isn't it reasonable to conclude that the Fed strategy is not working?

    On a more local level, the small no-frills house I am currently renting was built sixty years ago and originally purchased by a mailman. Now it is priced at ten times median household income for the metro region and is only within reach of the professional class. And it does no good to loosen credit and extend payoff time so people can buy houses at ten times median income. What we need is cheaper housing. But that would be a disaster for the asset-holding class! Imagine we could wave a magic wand and instantly build all the housing needed to return the city to open-access. That would be great for the wage earners but terrible for the highly-leveraged asset holders since both rents and asset values would come down, likely rendering them insolvent. And the major players will never let that happen, so the wage earner continues to get screwed.

    That's why I lean toward the "wages are too low and prices are too high" view.

    1. I basically approve of your second paragraph.

      I know that a lot of people would agree with your first paragraph, but if you can look at the 2006-2009 period and come away thinking that the highest priority was maintaining the book value of housing, then I honestly don't know what to say to you.

    2. Thanks for your response! I am no ideologue, so if you have a good explanation for what's going on, I would be glad to hear it.

      Awhile back I saw a plot of California housing prices going back to 1970s, I think plotted as the ratio of median house price to median income. Several peaks and troughs are evident, all reaching the same maximum value and same minimum value in the record prior to 2000. After 2000, the maximum value goes far above any prior peak, which I think is reasonably attributed to the much lowered lending standards and the bubble mentality of the time. But incomes were not sufficient to pay off the loans, so the crash inevitably came.

      What was different about the post-2000 crash is that the minimum value, as measured by median price to median income, was still higher than all pre-2000 peaks! Why so high? I suppose one reason is super-low mortgage rates allowed buyers to purchase a more expensive house for the same monthly payment. I don't count this as helping affordability but instead view it as a transfer of money to the asset holder by keeping asset prices high. So maybe the intent wasn't to maintain the value of housing, but that certainly seems to be the effect.

      Another reason why housing prices remained high during the "crash" was that little new housing was built compared to prior economic recoveries, and in fact the deficit of new housing far exceeds the surplus of new housing built during the bubble days. But why is so little new housing being built? It's not as if California suddenly ran out of land or suddenly created more building restrictions in 2006. The closed access city argument explains why housing has been more expensive in California since the 1970s, but I don't see how it explains why the most recent housing cycle is so different from the three previous housing cycles. Something seems very wrong about the current macroeconomic environment. Do you have an explanation?

      Locally, it would be more expensive for me to buy the house I am renting, so the only reason to buy would be because house prices and rent will only be higher in the future. But how can that happen if house prices are already ten times income and rent takes 45% of income? I don't see how that can be sustained.

    3. Great questions. The trigger has been that post-industrial economic growth has turned out to lead to a new wave of urbanization, both because the creative class needs to be in close proximity to each other and because non-tradable service sector jobs also are geographically tied to their customers. This double whammy has pushed urban incomes higher, and where housing doesn't allow in-migration to claim and moderate those incomes, incomes and home prices rise. The clue that escaped notice was that during the housing bubble, there was a massive migration event of high income workers moving to the high cost cities and low income workers moving out. The reason your rent will be higher someday is because there will continue to be this segregation by income, and future residents in your city will have higher incomes. And all of that extra income will flow to rent because it is the constrained input.
      A house in Omaha is shelter. Your house is 50/50 divided between shelter and a sort of taxi medallion for access to local income opportunities. That's why it's price is high.

    4. Thanks for the reply. The taxi medallion analogy explains why a 60-year-old working class house becomes a professional class house, but I still don't understand why so little new housing is being built in my coastal metro city. The conventional explanations are that there isn't much land in coastal California and that there are many building restrictions. Both of those are true, but there was a lot of building going on back in 2005, and I can't believe coastal California suddenly ran out of land in 2006 or created a bunch of new building restrictions. House prices and rental rates are very high now in historical terms and comparable to 2005. So why is there not much building now when there was in 2005? It seems like there would be a lot of money to be made when demand is high and supply is low.

    5. Generally, the Closed Access cities reach a political ceiling for new building well below the sustainable level. They generally are at that ceiling now, and they were in 2005. Building in other cities is generally much lower than normal, which I attribute to financial repression that prevents owner-occupiers from borrowing. This has created a down shift in housing supply and a shift to the landlord market.

  5. Thanks. Since the ceiling in closed access cities was also present in 2005, that can't be the reason for why there is so little building now compared to then. But I don't understand what you mean by financial repression. Isn't that the situation where returns to savers are sub-inflationary but borrowers are very favored? If so, how are owner-occupiers prevented from borrowing? Interest rates are very low and the value of collateral is very high.

    1. Here are housing permits, by MSA. LA is about where it was in 2005. NYC is slightly lower. Note that I haven't adjusted for population, so Chicago and Atlanta had much higher building, per capita, in 2005, but they are still well below 2005 levels.

      If you look at BEA estimates of rent income and Fed estimates of home values, the implied yield on housing investments is quite high. (This is a real yield.) Many low tier buyers would significantly reduce housing costs by buying, but they are prevented by the CFPB and GSE underwriters. This is not a market that is being moderated by supply and demand. It is moderated by federal bureaucrats with "yes" or "no" determinations.

    2. I don't know where to get good data, but from googling around it seems that housing permits in the San Diego era are still well below 2004-2005 and that the price-to-rent ratio is high compared to LA. It's the San Diego market that I've been watching.

      Are the current underwriting requirements more stringent than in the pre-2000 era?

    3. Sorry. Forgot the link.

      You're right. San Diego looks like it's a little below 2005 levels. But, all those cities should be at triple the rates they are, at least.

      Underwriting is much more stringent than pre-2000, based on GSE FICO scores. Also, there has been a sharp decline in low tier home prices relative to top tier prices since 2008. Price/Rent levels in low tier markets, in every single city, declined after the crisis compared to top tier markets. This is because mid and low-tier owner-occupiers have been locked out of borrowing.

  6. My previous comment assumed by "owner-occupiers" you meant current owners who already have substantial equity in their house. But if you meant prospective owner-occupiers, then yes, I agree it hard because it is difficult to compete with cash buyers and because house prices are very high relative to income. But what is the source of the financial repression? Is it not the Fed's near-ZIRP policy?

    1. No. There is no ZIRP policy. Rates are low because market rates are low. There have been no stimulative low rates. This is a fallacy. Had the Fed tried to move rates above zero until recently, disinflation would have ensued. Even now, that is a possibility.
      High home prices and low interest rates should make it harder to buy with cash, not harder to buy with a mortgage.

    2. Thanks for bearing with me. Let's see if I can put the logic together. Market rates are low, and return on savings and investments are low, but artificial scarcity in closed-access cities elevates the return on housing, so investors are getting into the rental market and out-competing the traditional owner-occupier. Is that the way the argument goes?

    3. Basically. The main reason for the increase in investors is because there is no legal way for many qualified buyers to become owners in the current political environment, and someone has to own every house.

      In the "bubble", new mortgage conduits were largely finding ways for households who had high incomes but who could not use conventional loans to buy houses in the Closed Access cities. This probably did help push prices up, somewhat, but more importantly, it put pressure on Closed Access housing stock and (1) induced tactically selling by existing homeowners (2) pushed renters out of existing stock. The mass migration out of Closed Access cities is what created the bubble in places like Phoenix. It was overrun with people.

  7. Do you think the low growth economic environment is just a fact of life, or could the Fed and the government pursue different policies beyond open access cities and less stringent credit?

    1. I think most of the mysterious lack of growth since the crisis is certainly from an unnecessary lack of residential investment and from rising rents which are basically a transfer payments to renters.

      Before the crisis, there is definitely some cost to blocking productive workers from productive cities. Moretti and Hsei (I think) suggest about 10% GDP lost. So I think it is well into double digits, all considered.

      There are always trade offs and suboptimal outcomes. But the post crisis mortgage repression is just totally pointless, and the limits to movement into the closed access cities weigh so heavily in favor of rentiers at the expense of working class households, this should be an outcome that produces broad opposition. I think these housing issues are responsible for the stresses that are widely misattributed to corporate power.

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