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Inequality is inefficient.  Why?

Because the suppression of wages for labor is a rent seeking behavior.  In English, this means that in order for the part of the pie going to employers to increase in size, the size of the pie must shrink.

It's the mirror image of what we've been told is happening.

Now, typically, the story that's been told over the past 40 years is that demanding a living wage is anti-social, because increasing the slice of the pie going to workers means shrinking the pie.  There's even a neat little graphic that can be used to demonstrate the concept.

In the case of the labor market, workers are producers, while employers are consumers. I've mark the producer surplus in blue, and the consumer surplus in red.  So think of the blue as the wages paid to workers, and the red as the profits made by companies.

Now if the market is providing the maximum benefit to society, it should look like this.

But, the story that we've been told is that because wages are inflated by minimum wage laws and unions demanding wage hikes, what we get is something like this.

So what you see is that the red area shrinks.  The purple area represents money that previously went as profits to companies, but is now paid out in increased wages.  But the real trick is in the pink and light blue areas.  Because workers and unions have engaged in rent seeking they have denied the economic benefit of these areas to society, and have reduced the total amount of labor consumed.  So basically, increased wages have increased unemployment.

But, the truth of the Anglo disease is the mirror opposite of this.  Part of the money made by the financial sector is just total bullshit. But, another part of the disease is rent seeking behavior..... by capital.  By employers supressing wages. So we get this.

So again we see that employment is reduced.  In this case because the reduced wages fail to draw people into the labor market, and the same social loss occurs.

The big difference is that in this case the purple area is consumer surplus.  This is money taken from workers wages and shifted to employers profits.

So yes, the economy is suffering from rent seeking behavior, but the businessmen pointing to labor are projecting their own deficiencies on people who actually work for a living.

The bottom line is that a redistribution of wealth has shrunk the economy.  But it's been a redistribution of wealth from workers to employers. From labor to capital.

Inequality is inefficient.

And I'll give my consent to any government that does not deny a man a living wage-Billy Bragg

by ManfromMiddletown (manfrommiddletown at lycos dot com) on Thu Jan 8th, 2009 at 11:32:20 AM EST
That analysis is remarkable in its simplicity;  irrefutable in its logic; and elegant in its representation.

Brilliant!

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Thu Jan 8th, 2009 at 11:42:58 AM EST
[ Parent ]
Rather than lower wages discouraging employment, I think you need to look for the explanation of unemployment in the macroeconomic policies of a country. Workers need to eat - they cannot simply withhold their labour for an extended period of time, the way capital can withhold access to the means of production.

This precise mechanism means that artificial un- and under-employment is desirable to those who wish to reduce wages. So I think your causality is upside down. (Not that this matters to your pictures.)

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Thu Jan 8th, 2009 at 11:49:29 AM EST
[ Parent ]


In the long run, we're all dead. John Maynard Keynes
by Jerome a Paris (etg@eurotrib.com) on Thu Jan 8th, 2009 at 06:06:57 PM EST
[ Parent ]
With one addition.

What MfM is showing is two ways of reducing the social product. One is by artificially raising wages (thus reducing the demand for labour) and the other is by artificially lowering wages (thus reducing the supply of labour). The question is which one of the two situation occurs in practice.

This reminds me of the Laffer curve. One thing that is never explained (assuming the Laffer curve is a sound model in the first place) is how we know that we're in the part of the curve where reducing taxes increases revenues and not the other way around.

As we know, there have been empirical tests of the effect of minimum wages being introduced in various US states and the result of the research was to show that a minimum wage increased the number of McJobs.

Now, we can look at the question of who has the upper hand in the competition between employers and workers to fix the wage level. If workers are stronger than employers you can argue that you are likely to find yourself in the situation that workers are imposing too high wage levels. If the employers are stronger you can argue that you are likely to see employers imposing too low wage levels.

It follows that with strong unions you don't need minimum wage laws and they are possibly counterproducing. But it also follows that with weak unions you need minimum wage laws to prevent rent-seeking by the employers.

I think it is reasonable to claim that the employers are in the more powerful position. They don't need to hire a worker in order to make a living. They can always eat their seed corn, as it were, whereas workers have to rent out their labour because they have no seed corn to eat. The necessity of a combination of unions and minimum wage laws follows. In fact, if one prefers a "liberal" model in which "corporatist" behaviour as that displayed by unions is undesirable, then minimum wages are necessary.

Most economists teach a theoretical framework that has been shown to be fundamentally useless. -- James K. Galbraith

by Migeru (migeru at eurotrib dot com) on Thu Jan 8th, 2009 at 06:21:14 PM EST
[ Parent ]
that Adam Smith quote you have about this very topic you discuss...

In the long run, we're all dead. John Maynard Keynes
by Jerome a Paris (etg@eurotrib.com) on Thu Jan 8th, 2009 at 06:54:47 PM EST
[ Parent ]
With a hat tip to nanne:
The workmen desire to get as much, the masters to give as little, as possible. The former are disposed to combine in order to raise, the latter in order to lower, the wages of labour.

It is not, however, difficult to foresee which of the two parties must, upon all ordinary occasions, have the advantage in the dispute, and force the other into a compliance with their terms. The masters, being fewer in number, can combine much more easily: and the law, besides, authorises, or at least does not prohibit, their combinations, while it prohibits those of the workmen. We have no acts of parliament against combining to lower the price of work, but many against combining to raise it.



Most economists teach a theoretical framework that has been shown to be fundamentally useless. -- James K. Galbraith
by Migeru (migeru at eurotrib dot com) on Thu Jan 8th, 2009 at 07:01:23 PM EST
[ Parent ]
I also note that Adam Smith was not fond of "corporations" i.e., guilds. He probably wouldn't have liked unions too much. Taken together with his comment on legislation that is equitable if it favours the workmen, he would likely advocate what I call in my last paragraph a "liberal" model with minimum wages but without unions.

Most economists teach a theoretical framework that has been shown to be fundamentally useless. -- James K. Galbraith
by Migeru (migeru at eurotrib dot com) on Thu Jan 8th, 2009 at 07:10:16 PM EST
[ Parent ]
Don't forget the pivotal role that unions have to play not only in how much money the workers get, but also in influence the terms under which workers get that money.  Hours, overtime, safety, vacation, minimum staffing levels, etc.

Well paid workers who are bled to the bone on the job aren't necessarily happier than poorly paid workers with more reasonable hours.  They may be a better off, in many cases, but it's arguable.

by Zwackus on Fri Jan 9th, 2009 at 04:40:48 AM EST
[ Parent ]
I would argue that it's better if work standards, not limited to minimum wage, are legislated rather than a result of collective bargain which can be limited in it scope, applying to a single plant, company, or union. But that's just me.

Most economists teach a theoretical framework that has been shown to be fundamentally useless. -- James K. Galbraith
by Migeru (migeru at eurotrib dot com) on Fri Jan 9th, 2009 at 04:57:06 AM EST
[ Parent ]
That's a tactical question, IMO. In some countries, the social democrats in parliament can achieve more than the syndicalists in the unions. In other countries it's the other way around. And in some countries it's hard to tell where the state stops and the labour market begins, which kinda renders the discussion moot.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Fri Jan 9th, 2009 at 05:09:24 AM EST
[ Parent ]
I beg to disagree. Sure, general work standards (like maximum working time) can be legislated, but working conditions, work and working-time organisation, skills and safety are highly specific to a given industry and sometimes to a given company or site.

Wanting to legislate all the situations leads to heavy bureaucracy and in fine is socially inefficient. One example: the application document for the working-time reduction was 180 pages long and it didn't cover (by far) all the situations (I could provide many examples).

Legislation is necessary to provide the framework within which the collective bargaining must take place. It should fix the limits (minimum wage, maximum working time, minimum amount for training expenses...), the governance system (role and power of employees' representatives) and the methods (scope and frequency of compulsory negotiations...), but it should aim at empowering the social partners, especially the employees' representatives.

"Dieu se rit des hommes qui se plaignent des conséquences alors qu'ils en chérissent les causes" Jacques-Bénigne Bossuet

by Melanchthon on Fri Jan 9th, 2009 at 05:30:17 AM EST
[ Parent ]

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