Wages aren't moving quickly... as normal

Part 1: Description of the issue
The New York Times today wrote an article about how wages are not currently rising with the unemployment rate being now at a 6 year low, currently at 5.6% for December. They described how the Federal Reserve is considering raising interest rates which will (and this is true) make it more expensive for small businesses to borrow and slow the recovery, to prevent it from overheating, and this will (also true) lower the demand for labor which will keep wages stagnant.

But the most important detail they left out is why the wages are staying low. The reason is fairly simple and has to do with an economic concept called "sticky wages" which was one concept envisioned by John Maynard Keynes at the beginning of the 20th century to help explain why the 1930s happened how it did. Sticky prices means that it takes time for prices to adjust as the economy changes, which means in the short run we observe prices can be too low or too high for a period of time as the economy. This is why wages aren't moving yet. This concept has been observed in all markets.

This is why we are currently seeing wages stay low. This is also why the Federal Reserve needs to keep interest rates low for the time being which will incentivize more small businesses to open, which will increase the demand for labor, which will increase the wage sooner than later. Small businesses will compete for the best workers which will mean that the best will pay more to the best workers which will lift the average wage, increase purchasing power for the average family, and help fight income inequality. If the Federal Reserve makes it too expensive for small businesses to open and borrow we will see the market cool too early. So far they have done this which is the right strategy.

Part 2: Solutions
This of course happens over the very long-run, and (as an educated guess) I wouldn't expect the wages to start naturally rising for another 3-5 years personally at this point. If we wanted to see the wage rise faster than that what we would want to do is pursue the following policy options which have the fewest negative side effects:

1. Increase access to small business loans and grants from the Federal Government. More businesses means each individual business will have a smaller effect on the average wage which will push it up. It will give workers more bargaining power relative to businesses. This benefits people of all professions. (On our supply and demand diagram the demand for labor shifts to the right, pushing wages up and incentivizing people to start working)
2. Improve our labor laws to make it more easy for workers to unionize. If businesses are able to form chambers of commerce, unionizing needs to become standard practice again. This again helps people of all professions. (On our supply and demand diagram supply will be more flat, making wages more steady and higher in each profession)
3. Stop protecting large businesses from failure, and enforce our anti-trust laws. This makes it so each firm will have a smaller impact on the wage (forcing it up) and mean that the impact of a failure of any one firm in the future will have a smaller impact on the economy. Healthy economies have many businesses competing against each other in a competitive market, which pushes wages up (which directly makes a more equal society when it comes to income) and makes it so the failure of any one firm will not put the economy in great danger. In the short run the failure of one of these massive firms breaking up will be huge, but insuring that these large firms will go through restructuring and be reorganized as many smaller firms when they go belly up will be healthier for the economy, and have a direct effect on wages. (Demand becomes more vertical, meaning that they have a smaller impact on wages)

These are all free-market reforms and there is a very good reason for this. The first is deadweight loss which is observed any time there is a price floor (such as a minimum wage) or similar measures. I link to the Wikipedia article so readers who do not know about this can read about it, it is a fairly straightforward concept which naturally falls out of the standard analysis and is observed in reality. In the labor market deadweight loss is observed as unemployment, so in the long-run what we want to do is encourage policies which change the overall demand for labor to move in the direction towards higher wages. All three of the policy recommendations I have follow this logic, and are long-term solutions.

The other reason why I prefer these solutions is that they are less susceptible to politics. There is definitely a need for government in economics, and this has been understood for as long as economics has been around. The marriage between economics and politics is as old as both of the fields and the two will never be fully separated. But still, when making policies we want to have policies which would take years or decades to fully reverse so that if a government were to change the law (like the Republicans are currently trying to do with Dodd-Frank) it will take a long time to see the negative impacts, just to minimize human suffering so that there is a chance to have enough time to reverse the policies after the next election before the full negative consequences are observed.

Also, while minimum wages definitely help people at the very bottom of the income distribution it has a more or less negligible effect for workers who make above the new minimum wage, is easily modified by legislatures to be reduced or eliminated (ending the effects extremely quickly), and most importantly creates deadweight loss in the form of unemployment, both of which are major issues all economists try to avoid. More market-based reforms have the bonus of not having either of these very real problems.

Should we eliminate the minimum wage? Given the weakness of American unions (partially self-inflicted, partially not) this would be a huge mistake. Having poor unions significantly reduces the negotiating power of average workers with larger firms and means that if we didn't have the minimum wage we would see a lot more government benefits going to workers and this would exacerbate income inequality. In the long-run the goal is to have unions have the power they need to effectively work with employers to raise their purchasing power. With such an economy in the future the real effect of the minimum wage would be negligible and not save us nearly as much public funds for benefits as it currently does. We are unfortunately not at that stage at the moment.

We want to get more specialized work force, which has the advantage of making workers more productive and since there is a smaller supply of potential labor as labor becomes more specialized pushes wages up significantly. This effects everyone in the economy, and needs to be our long-term goal. The three policy recommendations above are a start to such an economy with minimal negative side effects.

The Future Economy

What would a stable economy look like? What would the goals be, and how would we get there? There are a few ideas that I think will make a big difference. Most are based heavily off of Keynesian economics.

1. The government will make a business-friendly environment. Businesses will be easy to start and small businesses will be common. Countries with low barriers to entry for businesses to start tend to be more developed and vice verse. EG This is why Indonesia is not seeing rapid economic growth yet Georgia is.
2. There will be high wages to drive consumer demand. It doesn't matter how many things you make, if people can't make ends you won't be able to make any money by being an entrepreneur. People will have disposable income in the ideal economy. People had this in America in the 1950s when our economy grew the fastest, unemployment was low, public investment at an all-time high (my grandparents paid a low sticker price for college compared to me and my parents with inflation), and the growth was larger and shared by all.
3. The government will insure that all of their citizens have access to high-quality health care and high-quality education. It doesn't matter how many jobs as programmers are available if no one knows how to do it. If another country is training people to be the best the jobs will go there. That's the current world. Its not going to change. Don't fight it, work with it.
4. The government will run low debt year to year during the good times. Running a large debt means that tax dollars will go to paying interest to investors instead of growing the infrastructure countries require to be successful which is a waste of money. If times get bad the government will run a deficit to make the economy get better as quick as possible. It is the lesser evil to watching the economy go in freefall like from 1929 to 1933 when the debt was prioritized higher than jobs and growth.
5. To fulfill these job-growing strategies there has to be a cost, and that means a progressive income tax. It will be very progressive, meaning people who make the most money will pay the most in taxes (and, as my previous post showed, they will keep the most as well). This will create an economy where people with enough drive can go from rags to riches.
6. Most of the economy will be a free market, except for health care and education which are requirements and tend to form oligopolies, the military, and printing of money which the government must do. There will probably be subsistence housing for the homeless. Mass transit and maintaining roads and railways are required. Managing air traffic is a necessary duty. Reasonable regulations on health and safety are needed.  I am being deliberately thorough. Everything else will be on the free market.

Some people say keeping debt low and having a high quality of living is not possible. This however is misguided. Here are a few case examples of highly developed countries with world-class health care and world-class education with high median ages and low debt. There are a few rich oil nations that have low debts, but I will ignore them to show you don't need to have high exports to have a high quality of living, low debt, and economic growth. (data from the IMF which I have found to be closest to raw data sources www.imf.org/debt)

1. Switzerland has one of the best standards of living in the world, and a GDP per capita over $40,000. Their debt is worth 19% of their GDP. Hardly unsustainable with what would be deemed a welfare state by many here in the United States.
2. Luxembourg has a GDP per Capita, debt percent of GDP, and welfare system comparable to Switzerland, and a debt worth 21% of their economy. Also, despite the constant criticism of how the Euro is bad for Europe that is the currency Luxembourg uses. Most countries that use the Euro have Debts worth less than their GDPs. Hardly a cause for alarm. Other factors are at play in Greece as I have already blogged about. Get off the stupid currency high horse global media, it doesn't reflect reality.
3. So, these two previous examples are small countries and are heavy with the banking, but what about Australia? Finance doesn't make nearly as much of the economy of Australia as Switzerland and Luxembourg, they also have world-class education and health care systems, the 2nd highest quality of living in the world by HDI (behind Norway, but not by much) and their debt is worth less than 23% of their GDP. It is not known as a tax haven. It is not a net exporter of oil. Most of the country's land is practically economically useless. It is not particularly small in population or area. Why does Australia have such a low debt and such a high amount of investment? Their lowest tax bracket is 0%, their highest is 45%. They make enough revenue every year to balance the budget, and there are also some extraordinarily rich Australians. That is how you have a sustainable high quality of life and a low public debt while not being a tax haven and not being a net oil exporter. This system I described at the beginning of this post is in place in Australia, the only major economy to avoid the late 2000s recession. Also, Capital gains are taxed as regular income, which is another proposal I have made in a previous post. It works for them, why not us?
4. Another example, if Australia wasn't enough, the country most right-wing Americans will claim has one of the most out of control bureaucracies and welfare states is Sweden. Their education and health care are fully paid for by taxes, and from all the griping you would expect a huge debt. Well, the opposite of what laissez-faire advocates claim is reality once again. Sweden has a debt worth 37% of their GDP. Like Australia, Sweden is not a major oil exporter neither are they considered a tax haven, and they have a lower debt than their often referred to as wise counterpart Norway. Unlike Norway, Sweden is in the EU (although they don't use the Euro) and unlike Norway Sweden does not have massive reserves of oil, yet Sweden has a low debt compared to most other countries. You see the same type of tax system as Australia has, very progressive without treating Capital Gains like the holy grail of the economy. Government is entrusted to provide education and health care, they have a high quality of living, stable economy, low barriers of entry to business, and low debt.
5. Other examples of debts below 50% and a GDP per Capita above $20,000 are Taiwan, Czech Republic (a Eurozone member), Denmark (with a government system very similar to Sweden and a member of the EU), Slovenia, Finland (yet another Eurozone member), Norway (which has a larger debt than Finland, and doesn't use the Euro and unlike Finland is a net exporter of oil and like all of these nations above has a strong welfare system and low debt).

Basically, to say that there is a choice between prosperity and low debt is a fallacious argument on several major counts. Only 12 nations on Earth owe over 100% of their GDP in public debt, and 3 of them have GDP per capitas under $10,000. Low standard of living, poor education, poor health care, and high debt. What are the real variables at play here? It clearly doesn't work to say that high quality of living and high government services = high debt, with 8 of the most developed nation, several of which are not net exporters of oil, are not tax havens, positive economic growth in most of them even today, all of which have aging populations, and some of which use the Euro, there are other factors at play than are usually blamed. I would try to find the root cause, what is so similar between Australia, Sweden, Taiwan, Finland, and Norway that is so different from Japan, Greece, Italy, Portugal, Ireland, and the United States?

The following are similar: They are all rich nations. They all have high qualities of living, and all are democracies. They all have social safety nets of varying degrees, and one could successfully argue that the nations with the lower debt have the larger social safety nets which is like so many facts is contrary to popular belief. They all have aging populations as measured by median age relative to the rest of the world. What is so different between these nations to make such a striking difference in their debts?

The following are different:

1. The governments of the United States and Japan in particular are under conservative governments frequently, while the most conservative governments of Australia, Sweden, Finland, and Norway are in power far less frequently. One must wonder whether these "conservatives" are truly "fiscally conservative" given their massive deficit spending that doesn't exist in these "welfare state" governments which have far lower debts and higher standards of living when ranked fairly. Which matters more, a government that is out of people's pockets with high deficits or a high quality of living with low deficits? I choose a high quality of living and frankly couldn't care less about the size of government, that is the wrong question to ask. We need to ask whether the government works for the people, not whether it is "too big" or "too small" both of which are relative and impossible to fairly gauge.
2. Their tax structures couldn't be more different. The tax structure of the United States for all intensive purposes has the shape of a bell curve. While people who make next to nothing will pay no taxes thanks to standard deductions, the people who pay the most are people who make most of their money from wages and don't invest in the stock market. People who make the most money pay a middle-class rate, which has been raised to 20% as opposed to 15% recently, but still is far lower than the 39.6% if that same massive amount money (think hundreds of millions of dollars) had been made through wages. That means the government loses out on billions of dollars of revenue every single year. Australia on the other hand doesn't see a difference between capital gains and wages in terms of taxes and taxes both equally for the same amount. They also outrank the United States on a variety of quality of life measurements year after year, have more government services for the things that matter, and have a lower deficit relative to GDP year after year. They also outrank Japan on most factors. That is the only clear difference I can find to explain the difference in debts. Taxes.

There is not a choice to be made between good economics and a high quality of life, in fact, after reading the statistics one might argue the opposite that good economics will tie in with a high quality of life.

Unemployment reports

I finished my statistics course three weeks ago and got a B+ in my class and learned how reports can be skewed and how to make a good analysis of data. I am reading a lot about unemployment today because June's numbers came out, I want to make a few points on how their analysis is invalid.
The unemployment report every month is merely a first draft. It takes three months to get the full picture as the forms that people sign for employment continue to come in. Assuming the economy is failing when you see the unemployment rate stays the same is just false. You need to see the historical trends when you look at the data, and a few things become clear on how irresponsible people are being.

1. Look at the trends for that month. There is one large trend in unemployment that people always leave out, according to the Bureau of Labor Statistics, unemployment increases and decreases twice every year except for one year in the past 20 years this has been the case, that year was 2008 when our housing market went belly up and the stock market crashed. The peaks are reliably in June and January, right before summer hiring and right after Christmas shopping. The low points are reliably October and April. We are still seeing this. www.google.com/publicdata gives you the raw information.

2. Skew is common in reports. People will look at the short-term, and show charts of just Obama's presidency. When you spread the graph out it makes our job growth look more flat, and you have no comparison with previous downturns, like the one that lasted across the majority of Ronald Reagan's first term. If you look at the long-term trends you can compare the slope with previous downturns which helps understand if this is unusual.

3. Without long-term trends you can't see the comparative slope difference between different downturns. Once you have this perspective you can see that using seasonally adjusted data to make it easier to find the low and high points that this recovery is going faster than the recession at the beginning of George W. Bush's presidency. It took 29 months (2 years, 5 months) for unemployment to drop 2% in these past two years, however, during the recession that followed the 2000 bust it took 72 months (3 years, 4 months) for unemployment to drop 2%. The 1992 bust took 16 months (1 year, 4 months) to drop 2%. The Reagan bust of 1982 took 10 months to drop 2% which was correlated with crashing oil prices. So, looking at this we can see this is an average recession in terms of recovery, and there is nothing to really panic about as long as we don't get the easy access to credit that brought the housing bubble. The thing that is truly slowing the economy down is that no one is focusing on how to get unemployment to drop and immediately start panicking. The media is saying it is our "new normal" with no evidence to back it up, but a lot of evidence on the unemployment graph to support that this is just a normal recession because they do not compare it to previous recessions, because that creates hope.

When people see these reports people get frustrated and people spend and hire less, there is a gigantic mood over the American public right now, and the blame has to go to the media. The brokers on the stock market start selling everything when the report isn't as good as they want and this doesn't help the economy. We have seen no major improvement in infrastructure (aka job growth) because the stimulus bill was weak, and people just are not hiring right now at the desired rate, but at the historical rate in the past.

Those are the current statistical errors that the media has been committing over and over again over the past few years.