More on US/EU Unemployment

Apropos of this post by Alex noting that the unemployment rate in the US is now the same as the average of European OECD countries, consider this passage from John Quiggin:

Advocates of the US system make much of the deterrent to hiring associated with employment protection laws, but they ignore the other side of the coin. When the economy is contract, employment protection laws do in fact protect employment (if they did not, they would have no adverse effect on hiring either).

On this basis there is nothing surprising in what we are seeing. EU unemployment rates should be higher in expansions and lower in contractions, which is exactly what is required for lower variance.

Which is better?

Short answer: that is a normative judgment. If my primary concern is improving the lot of the most people most of the time, I might think of it this way: if the "normal" state of a capitalist economy is for there to be more years of growth than recession, and I want to maximize the well-being of the most people for most of the time, then I'd go for the system with the higher variance, since a majority of the time people on the margins will be better off. Additionally, more flexible labor markets allow more labor mobility, which increases competition and boosts productivity. This, in turn, leads to additional economic growth as well as improvements that don't show up in GDP, like the improvements in home computers of similar price over time. Technological advances often generate positive social externalities that don't show up in raw GDP figures.

However, if my primary concern is to avoid sudden catastrophic outcomes for even a small minority of people, and I'm willing to trade off subtle gains for the majority to achieve that, then I might prefer the more stable, but less dynamic, European system.

Now, if unemployment increases in the Eurozone as both Alex and I expect it to do, then this might be a moot point. After all, you can't juxtapose dynamism with stability if one system or other has more of both. And it is worth noting that there is more inter-country variance in unemployment rates in Europe than across states in the US. But if there is a choice to be made, then the appropriate decision can only be made on normative grounds.

Bryan Caplan, who has his own normative views, offers up a bet:

The average European unemployment rate for 2009-2018 (i.e., the next decade) will be at least 1% higher than U.S. unemployment rate. The bet will be resolved when Eurostat releases its final numbers for 2018.

I'm happy to bet each of the three authors $100 at even odds. Will they accept?

So far, I don't believe there are any takers.

Links for the Weekend

-- Sumner wonders why DeLong and Krugman are trying to model asset-price bubbles, and compares them to alchemists. And not in a good way.

-- Martin Wolf agrees with me: the New Economic Order will look a lot like the Old Economic Order.

-- "Slapped by the Invisible Hand": The shadow banking system is a real banking system, and should be treated as such.

-- Easterly vs. Collier in which the former accuses the latter of statistical lies (i.e. "data mining"), plus Blattman's take and a shoutout to Karl Popper. So far, to my knowledge, Collier has not responded.

-- A new IPE book on the politics of global regulation.

-- Cowen and Singer on aid, development, poverty, and ethics:

Interesting Links.

A Special Report on International Banking from the Economist

The Last Temptation of Risk by Barry Eichengreen

Cuban Charter Companies

Mexican Migration to US in Decline

Seppeku

The Japanese economy is, er, not doing well. Last quarter, GDP fell at an annualized rate of 15.6%. Exports in the first quarter were down at an annualized rate of 70.1%. That is not a typo, and the report is here [pdf]. Private investment was down at an annualized rate of 49.7%. As The Economist wrote: "If Japan does not hit bottom soon, it may revert to an agrarian feudal economy". Okay, maybe not. But still.

So what does the Japanese government do? Unemployment has increased by 25%, but the unemployment rate is still below 5%. The Japanese achieve this by subsidizing employment, which results in things like metalworkers planting herb gardens. They may as well be digging ditches and then filling them in again. This busywork keeps the official unemployment numbers low, but the labor is not being used productively, so the economy never really recovers. Rigidities in the labor market make things worse: life-time employment is a matter of national obsession, so opportunities for young workers are scarce.

This has been Japan's story for well over a decade now: subsidize employment through round after round of fiscal stimulus (while keeping interest rates low). And what have they gotten? Employment without growth, jobs without opportunities, low unemployment but also low productivity. Add to the mix the continuing existence of zombie banks and the result has been stagnation and deflation.

Any of this sound familiar?

There are many lessons to learn from the Japanese experience. One of them is that Keynesian stimulus may reduce measured unemployment without actually boosting output. That is, the economy may look like it is at full employment, but if the labor is being used unproductively then the wealth of the nation may not increase, and the well-being of the people may not be improved.

US Unemployment Rate Higher than Europe's?

It is expected that when the April international unemployment numbers are released, the United States will have a higher jobless rate than Europe. The United States' rate is already on par with European averages, a factoid that would have surprised many just a few months ago. 

For many years, unemployment in the United States was lower than in Western Europe, a fact often cited by people who argued that the flexibility inherent in the American system — it is easier to both hire and fire workers than in many European countries — produced more jobs.

In April, the rate in the United States rose to 8.9 percent. When the European figures are compiled, it seems likely that the American rate will be higher for the first time since Eurostat began compiling the numbers in 1993.

For men, the unemployment rate in the United States surpassed that of the 15 original European Union countries in December. By March, it was 9.5 percent in the United States, compared with just 7.5 percent for women. The figures for men and women in the 15 European countries, however, are close together, at 8.4 percent and 8.5 percent.

How did that happen during a worldwide recession? First, it appears that the safety nets in many Western European economies made it easier for people to keep their jobs as the economy declined. In Germany, programs allow companies to get government help in paying workers, for example, keeping them employed. If the recession becomes severe enough and long enough, of course, it could turn out those programs do not so much avoid the pain as defer it.

In the United States, there has been more movement of workers from depressed areas to places where the employment outlook is brighter. But the housing crisis appears to be hampering such movement because some workers own homes that are worth far less than the amount they owe on their mortgages.

Among the 15 European Union countries, the national unemployment rates range from 2.8 percent in the Netherlands to 17.4 percent in Spain. That is a wider spread than the ones among American states, where the rates range from 4.2 percent in North Dakota to 12.6 percent in Michigan.

So I guess I'll add to the speculation. Another reason may be the extent and quality of European re-training programs and their ability to get workers back into the labor force after shorter adjustment periods. A vast chunk of the increase in American unemployment has come from financials, insurance, housing and retail (as well as unemployed graduate students argh!). Europe may simply have been less exposed to the problems in financials and housing. 

The rigidity of European labor markets also play a role; it is harder to lay off workers in Europe, thus causing a higher level of stickiness in labor markets. As the downturn drags on, we can expect larger increases in European unemployment levels. The United States sheds jobs at a quicker pace (because of relatively less sticky labor markets), with most lay-offs concentrated towards the beginning of a recession. Europe may simply be dragging on the labor market adjustment period with their generous social insurance programs and rigid labor markets. 

So the United States' unemployment rate could rise above Europe's in the short-run, but may be surpassed by Europe's as the downturn continues and as the (predicted) expansion begins. We may simply be observing a wider band for American unemployment rates over time, and a smaller band for the average European rate. 

Helping the Poor by Giving Them Money

Nice little natural experiment, recounted by Aid Watch:

Two NGOs working in Zambia, Oxfam GB and Concern Worldwide, tried a different approach: they handed out envelopes stuffed with cash—from $25 to $50 per month per affected family, with no strings attached. An evaluation found that common fears about cash transfers—that the cash infusion will cause inflation in the market, that the money will be squandered, or that men will take control of the money—were unrealized.

What did people buy with the money? The list includes maize, beans, salt, cooking oil, meat, vegetables, clothes and blankets, paraffin, transport, soap and body lotion, and lots of other mundane household items. They also loaned it to friends, used it to pay back debts, purchased health care, education and transport, and rebuilt their homes. Only a very small fraction of the money (less than .5%) was spent on “unproductive” items, like liquor for the men.

This approach is different from traditional aid programs that distribute items like seeds, fertilizer, medical supplies, or other relief goods. Instead of doing this, simply giving cash can be quicker, more cost-effective, and actually allow the recipients to spend the money on things that have the most value to them. This seems like a pretty obvious strategy, yet it is fairly uncommon in foreign aid programs, or even domestic social programs (e.g. we give food stamps rather than cash). I think there are two primary reasons for this.

1. Paternalism, a.k.a. the "I'm afraid you'll buy booze with it" syndrome: When we help people, we want to see results. Unfortunately, what we consider to be good results are not necessarily what the aid recipients would consider to be good results. So we give seed instead of the money to buy it, or we give an apartment in a housing project instead of an equivalent amount of cash. This is fine and good if the aid giver's preferences are perfectly aligned with the recipient's preferences. Of course, that nearly never happens.

2. Politics: The majority of foreign "aid" programs are really direct subsidies to local producers, because we force the recipients to use the aid money to buy from certain firms. This "tied" aid often leads to inefficiencies and poorer outcomes, but that only matters if you care about the aid recipients over the domestic firms. Often, that isn't the case. This also happens domestically, as conditionality on food stamp programs are considered by some to be little more than welfare for American corn farmers.

What's the take away? If you want to help people who don't have much money, then give them money and let them spend it how they please. They'll do a better job getting the goods and supplies that they want and need than we could do, and there is basically no overhead costs of shipping, storing, and distributing goods. Therefore, more of the aid money can go directly to the needy rather than funding a supply chain.

And if they decide to spend it on booze... so what? If you're a Zambian subsistence farmer and your livelihood has just been wiped out in a flood, you might need a stiff drink more than a bag of seeds. Ditto if you're an American autoworker whose factory has just been closed.

P.S. Aid Watch has also hosted a nice little spat between Dani Rodrik and William Easterly over the utility of industrial policy in fostering economic development. It starts here, then here, and finishes here.

Happiness Is Keeping Poor People Away

Matthew Yglesias posts a pretty picture showing a negative correlation between income inequality and income redistribution. This relationship is definitionally true, so at first I wasn't sure why he thought it was worth pointing out. But then he goes on to say that this means something else entirely:

I think the links between taxation, spending, and inequality are the most plausible explanation of the fact that the highest-taxed countries are the happiest. It can’t be that paying taxes makes Danes happy. But plausibly, living in a relatively egalitarian society makes people happy.

That certainly is plausible, especially to those (like Yglesias) who are attracted to arguments for progressive social policy from Rawls' "Veil of Ignorance". Unfortunately, as Wilkinson points out, the plausible causal inference isn't true:

Danes say they’re really happy and have the lowest inequality. But Americans are nearly as happy and have high inequality for an OECD country. Mexicans are a quite upbeat lot, but have really, really high income inequality. So there’s not much of a clear pattern in the data. The effect of inequality on happiness appears to be pretty strongly ideologically mediated. Unsurprisingly, high inequality tends to be disquieting to egalitarians. But it doesn’t so much bother meritocrats. Additionally, the causes of high inequality are various. Economic predation by political elites (lots of Latin America and Africa) is pretty likely to create a sense of victimization and injustice. But high levels of wealth creation in more or less fair institutions but with relatively little fiscal redistribution (the U.S.) doesn’t bother people as long as they think the system is more or less fair. So the national income inequality variable itself tends to have little or no independent effect. The effect it does have depends on other things people believe and care about and the specific causes of inequality in different places.

There are a lot of plausible explanations for why Danes are happy. One of them is that Denmark is a small, culturally homogenous country that preserves their homogeneity with strict immigration laws. These strict immigration laws prevent the migration of poorer people into Denmark, which keeps intra-national income inequality low (and possibly broadens the support for domestic redistribution, since the social spending won't go to immigrants) but increases the inter-national income inequality between Denmark and other, poorer, countries.

Yglesias does not describe which he prefers: within-country inequality or between-country inequality, and I'm sure he would recoil from having to make the choice. But there is often a trade-off. Without realizing it, he does seem to think that one of the two makes citizens happier, but I don't think he intends to espouse a "keep them out, keep them poor" attitude towards the developing world. Unfortunately, that appears to be the way it works: keeping immigrants out makes citizens of wealthy countries wealthier (on average), boosts support for income redistribution through social services, and makes people lucky enough to be born there happier than the unlucky ones born in poorer places.

This is why causal inference in the social sciences is so difficult: a plausible explanation isn't always borne out by the data. Sometimes this is made evident if we consider related questions. In this case, if we observe that poor countries are less happy than rich countries, which they are, should we conclude that it's probably because they don't have enough public transportation or a better pension system? Or maybe having access to better economic opportunities might improve the mood.

For the record, the other happiest countries are Finland, the Netherlands, Belgium, Switzerland, New Zealand, Australia, Canada, Sweden, and Norway. Bastions of diversity, they are not.

Blame Game

It turns out that the collapse of the global economy was not caused by clueless economists or Gaussian copula functions or even big-headed quants. No, the blame for the financial Armageddon can be laid at the feet of a... political scientist. Well, sort of anyway.

So quick! Everybody get the torches and pitchforks! And after we've grown tired of blaming this guy for everything, I propose we blame Canada. It's always worked before.

(ht: Dani Rodrik)

Nye and Drezner on Policy Relevance, Academia and other topics.

This is a very interesting exchange between Joseph Nye of the Kennedy School of Government at Harvard and Dan Drezner of the Fletcher School at Tufts. The two academics discuss the role that academia should have in policy debates, the policy relevance of IR scholars, and other interesting topics. 

Gotta love Drezner's couch and Nye's hanging fish. Enjoy!

From "Obscure Journal" Article to Mainstream Policy

Cap and trade has become the "hot" environmental policy of choice as of late. Both those on the right and those on the left increasingly see it as the most efficient and practical way to tackle the issue of global warming using a market-based approach. 

The hard-core environmentalists and champions of global warming on the left would much prefer a strict carbon tax that would levy a tax on emissions of carbon dioxide as a way to cut down on pollutants. The global warming skeptics on the right do not want increases in regulations on businesses and oppose taxing companies on their emissions. They still oppose cap and trade as unnecessary regulation seeking to tackle a mythical problem, but see it as preferable to a strict carbon tax. In other words, if something is going to be implemented, they'd rather see a market based cap and trade, similar to that of the acid rain cap and trade in the early 1990's, rather than higher taxes and regulations. 

A cap and trade program, with its relatively broad appeal, is easier to sell politically and cheaper to administer:

It is almost perfectly designed for the buying and selling of political support through the granting of valuable emissions permits to favor specific industries and even specific Congressional districts. That is precisely what is taking place now in the House Energy and Commerce Committee, which has used such concessions to patch together a Democratic majority to pass a far-reaching bill to regulate carbon emissions through a cap-and-trade plan.

The bill is poised to win committee approval this week, although with virtually no support from Republicans. If there was a single moment when cap and trade crossed the threshold from relatively untested economic concept to prevailing government policy, it came in May 1989 in the West Wing office of C. Boyden Gray, counsel to President George H. W. Bush.

Cap and trade evolved from an academic debate that began in the early 1960s when Ronald H. Coase, then a professor at the University of Chicago Law School, wrote an influential paper, "The Problem of Social Cost,” that examined when government should intervene in cases where a private entity causes public harm.

In 1971, W. David Montgomery, a Harvard graduate student in economics, fleshed out the idea of emissions trading in his doctoral thesis and has spent much of the last three decades trying to figure out how the marketplace can deal with environmental problems that are caused by relatively few actors but have consequences felt globally.

So a cap-and-trade system is poised to make its way through Congress and into legislation. An idea that was hashed out, critiqued and critiqued again in "obscure journals" across a wide variety of disciplines including economics, political science, public health and environmental science, among others, has finally made the long journey from mere idea to "policy" and it only took about 50 years. 

I find it really interesting when policies and proposals have their foundations in academic journal articles written by economists and political scientists (mostly because it gives me hope that I will one day be relevant and may come up with some crazy idea that may actually impact the real world), specifically when proposals and positions are exactly lifted from the literature. The interesting question is: When are policies most likely to get lifted from academic journals? I'm guessing it is during times of crisis, which is when there is an impetus to try new things and actually push through changes in regulatory structures. (Kindred brought this up in a recent paper and discussion.)