Deadweight Loss and “Job Creation” Plans
This post was written by Karl Whelan
There is a widespread consensus among opposition politicians, unions and business lobby groups such as ISME that the government needs to launch a “jobs plan” to reduce unemployment. One such proposal is Fine Gael’s plan to give those firms hiring unemployed workers either a €6000 subsidy over two years or a waiver on employer PRSI. (Labour have a more restrictive version which only applies to recruiting people unemployed more than six months.) Another proposal is ISME’s call for “an employment subvention fund to protect existing jobs.”
At a time of rapidly rising unemployment, I’m sure these seem like tremendous proposals to the public and the government is being widely criticised for its failure to adopt “innovative” proposals like these. To my mind, however, it would be a mistake to adopt proposals of this type. Let me explain why.
First, the principle reason for rising unemployment is a sharp reduction in labour demand owing to the steep nature of the recessions. Policies that are looking to offset this reduction in demand using wage subsidies are unlikely to have more than a marginal effect. Empirical estimates of labour demand (as summarised for instance in Dan Hamermesh’s book) show small elasticities with respect to wages. Even schemes that offer generous temporary tax incentives are only likely to have a minimal effect on the overall demand for labour. So while it is the case that such schemes could increase employment and through this, decrease spending on unemployment benefits, these effects are likely to be marginal.
Second, these proposals have an enormous deadweight loss element. This means that most of the money will go to firms who do not create any new jobs as a result of the policies.
The most obvious example of a policy of this type that is subject to significant deadweight loss is the provision of subsidies to protect existing jobs. The economy is doing badly but we must remember that the vast majority of jobs are being maintained. In practice, it will simply not be possible to identify those firms that would be laying off workers without the subsidy and those that would not. So this type of scheme would end up costing the taxpayer a lot of money without creating many jobs.
Policies to subsidise firms that are expanding employment may appear, at first blush, to be less subject to deadweight loss. However, one needs to keep in mind the importance of labour market “churning”. The media tends to report recessions as periods when “firms are cutting jobs” and booms as periods when “firms are increasing jobs” but the reality is more complex. At all times in the business cycle there are firms that are increasing employment and firms that are cutting employment.
The classic research in this area is due to Davis, Haltiwanger and Schuh, but work has also been done for Ireland. A recent paper by Martina Lawless and Alan Murphy showed that, even at the height of the Celtic Tiger boom in 2000, overall employment growth of 8% was driven by expanding firms contributing 15% and contracting firms contributing -7%. Conversely, in the worst year recorded in their dataset (1982), expanding firms still contributed a positive 7% to employment growth (though contracting firms contributed -10% that year.) Here’s some data from their study (thanks to Martina.)
These figures can be interpreted as implying that, even in the middle of a severe recession, expanding firms will probably contribute at least a positive 5% to employment growth over the next few years. With a base employment level of about 2 million, the implied deadweight annual cost to the taxpayer of a €6000 subsidy would be (.05)(2)(6000) = 600 million. Furthermore, once put in place, these incentives could prove very difficult to get rid of.
To be fair, FG’s plan is restricted to those firms that hire unemployed workers. But with one in five workers unemployed, much (most?) of the recruitment in the economy in the next few years will involve unemployed workers, even without such a subsidy.
I know that this post will get a very negative reaction from people eager to cheer on positive proposals that are seen as “doing something”. However, at a time of fiscal crisis, it is crucial that we only adopt measures that get an appropriate “bang for the buck” and these policies fail to do that.
Also, one of the lessons emphasised by Jim Poterba in last week’s excellent Geary Lecture was that if we need to raise more revenue, it is best to do so by broadening the tax base while keeping rates low. Measures like this, which erode the tax base and have little effect on employment, are a step in the wrong direction.
Tags: Deadweight Loss, Job Creation, Job Subsdies
June 2nd, 2009 at 2:13 pm
A number of measures along the lines now being proposed were tried in Ireland during the 1980s, and some were subjected to evaluation and found wanting, for reasons such as Karl outlines.
A good rule would be the following: No-one should propose the introduction of a scheme similar to unsuccessful schemes tried last time we had an unemployment crisis. Policy innovation implies a willingness to make mistakes. But only new mistakes.
June 2nd, 2009 at 2:38 pm
One of the reasons why members of the government in the mid-1980s embraced social employment schemes with such enthusiasm was because it enabled them to promote a plethora of ‘employment initiatives’ in their respective constituencies, something they imagined would be helpful to their returning as TDs after the next general election. They also laboured under the illusion that ‘make work’ schemes would lower the numbers on the Live Register, which it didn’t of course. It’s depressing to see the same old ideas labelled as ‘employment stimulus packages’ rearing their ugly heads again, like perennial weeds in the garden. Maybe the reason why such ideas appeal so much to our political leaders is because most of them come from sheltered backgrounds and have never had to hack it in a cut throat private sector job in their lives, where the fruit of your labours either generates profit or you get the boot?
June 2nd, 2009 at 3:01 pm
There is enormous intuition in this post and it is a welcome breath of fresh air to hear it expressed so eloquently.
In the current policy environment, many mainstream commentators and virtually all policymakers are rushing to embrace “panic” solutions, which will have unintended consequences and inevitably miss their mark.
It is often said that the first casualty of war is truth. Equally, the first casualty of recession appears to be good economic governance.
Congratulations to Karl for (yet again) flying the banner of economic sanity.
June 2nd, 2009 at 3:43 pm
“First, the principle reason for rising unemployment is a sharp reduction in labour demand owing to the steep nature of the recessions. Policies that are looking to offset this reduction in demand using wage subsidies are unlikely to have more than a marginal effect.”
The elephant in the room is the minimum wage. We didn’t have one in the 1980s. The demand for anything - including labour - is a function of price (or marginal cost in the case of labour), among other things. Right now we have set the price very high for anyone wanting to employ those now unemployed. Schemes such as that proposed by Fine Gael (I’ve proposed similar myself) are really ways of trying to get around the minimum wage so as to reduce the price of labour without getting rid of the minimum wage (which I personally would prefer).
And €600 million ‘over the next few years’ is actually a trivial amount of money in the context of the likely tax payments of those hired under any such scheme. I’m happy to follow Colm’s rule: but only all key the conditions of the 1980s apply.
June 2nd, 2009 at 3:55 pm
Despite my frequent calls for an effective fiscal stimulus, I fully concur with the solidly-based rejection of these kinds of “employment promotion” exercises in this post. However, I am intrigued, Karl, by the difference between your estimate of the deadweight loss (€600m over 2 years) and FG’s estimate of €30m. It may be that FG is doing its calculations on its proposed PRSI exemption with a relatively low take-up and attempting to take account of the number of jobs which would be addded in the absence of their proposal, while you are looking at a relatively high take-up (100,000 “jobs”) using FG’s proposed alternative of a €6,000 subsidy over two years.
The real deadweight loss is probably somewhere between these two estimates. The sustained removal of an unemployed person from the Live Register has to benefit the fiscal balance - and one one would expect some increase in tax revenue. The key question probably is whether or not each firm availing of this subsidy will be able to generate a marginal revenue product that will cover the full marginal expense of employing this worker when the subsidy is removed. Both theory and practice offer little hope on this count.
FG is attempting to cover itself in this respect by requiring that, in the event of a failure to sustain the job, the subsidy will have to be refunded “pro rata” - whatever that means. This may be designed to limit take-up and the deadweight loss, but it really means that the firms who will take up this offer are those that are reasonably confident they can sustain increased employment and would have recruited in any event.
June 2nd, 2009 at 4:13 pm
I agree with Karl that many of schemes being proposed may have little affect on overall unemployment levels. However, if designed properly, they may have a non-trivial affect on the balance between the different categories of the unemployed.
We know, from the literature pointed out to us by Colm Harmon in an earlier post, that unemployment spells early in one’s working life have discernible effects much later in one’s career. So an ‘Employers’ PRSI holiday’ for employing those entering the labour market from education may be useful. Even if that person becomes unemployed when the PRSI holiday expires, they may be better placed to take up employment when the upturn comes then if they have never been employed.
Secondly, we know that the duration of unemployment spells affects a person’s probability of getting a job. I remember Paul Walsh giving either an IEA or DEW paper to that effect a long time ago. During the last recovery, jobs were going to returning emigrants, woman coming off home duties and new labour market entrants rather than those in long-term employment. The community employment schemes were designed to solve that problem, though Karl’s point that these schemes are easier to set up than shut down is well taken. Again, even if there is no net change in employment, creating incentives to employ from this vulnerable category of workers may be useful.
We are going to have double digit unemployment for a number of years, with all the waste of human capital that that entails. Any suggestions as to how the loss of human capital could be minimised, given unemployment levels are worthy of careful consideration.
June 2nd, 2009 at 4:38 pm
Graham - I am somewhat surprised given your pattern of posting that you are so gushing about Karl’s enthusiasm for broadening the tax base at a time when private sector workers are being crucified. You have expressed deep antipathy a number of times with your comments for people who have been burned by this recession yet judging from this you seem quite happy with the idea that the tax base will be broadened to maintain public pay levels that are based on 2007 levels of economic activity.
Karl - below again is the Bell and Blanchflower paper. I really urge you to read this and put an addendum to your post as this paper does outline a number of very sensible responses. You can have all the fun you want making fun of people “eager to do something positive” but people like Blanchflower deserve a proper hearing and neither you nor Colm have commented on this paper.
http://www.bankofengland.co.uk/publications/speeches/2009/speech379paper.pdf
June 2nd, 2009 at 4:48 pm
Liam, I’m in the public sector and, thanks to the so-called pensions levy and various tax increases, my take-home pay is back to 2002 levels (or would be if I were still single). So can we please stop peddling this myth that public sector pay–now that the pension levy and tax increases are in place–is still based on ‘2007 levels of economic activity’? It isn’t.
June 2nd, 2009 at 5:19 pm
Some Comments:
@Gerard and Graham: My calculation is not €600 million “over the next few years” or “over two years”. It is that, if expanding firms account for a low job creation rate of 5% over the next few years, then during each of those years, the cost of the scheme will be €600 million in year two and after. If the scheme stays in place after that, when job creation picks up, it will cost more. The point here is that these schemes can cost a lot of money without doing much good.
@Margaret: I agree that well-designed active labour market policies are a good idea. Blanket subsidies for firms expanding employment are not a well-designed active labour market policy.
@Liam: A couple of points. First, I can assure you that criticising policies that lots of important people believe in isn’t much fun at all. For a start off, it’s an invitation to get criticism of the type you’re aiming at me and that’s really not much fun. I’ve been thinking about writing this post for weeks but have backed off because, frankly, I was wary of all the criticism it would attract.
Second, I don’t see any connection between my post and the Blanchflower-Bell paper. Nowhere in its 106 pages do I see a proposal for blanket hiring subsidies for the unemployed. I suspect these guys know perfectly well why these are bad policies. Opposition to bad “job creation” policies is not the same as opposition to useful active labour market policies and I’m puzzled that you would think this.
Finally, do we really have to do the public sector pay thing again? Public sector pay is two-sevenths of total public spending. We simply cannot solve all our problems by cutting public sector pay. Undoubtedly, this element of spending will need to be cut further, as will transfers and spending on other stuff. And even then we are probably going to require higher taxation levels (maybe you think we can cut our way to fiscal stability—if so, I’d like to hear your proposals.) Given that, eroding the tax base on policies that don’t work is a bad idea.
June 2nd, 2009 at 5:20 pm
Ernie - I dont have an axe to grind against the public service so I will take your point and read fully the extent to which public sector and private sector wages have reduced and stop using the 2007 anchor as a rhetorical device until then.
June 2nd, 2009 at 5:55 pm
I was involved in this area in the 1970s and my instinctive feeling is that the deadweight cost is enormous no matter how carefully you try and design the “increment”. It is like elastoplasting a symptom rather than dealing with the disease and the former may actually inhibit the latter.
Even with the economy in free fall you are subject to inter-employee churning. There must be more productive ways of deploying given resources even if these have less immediate sex appeal.
June 2nd, 2009 at 6:01 pm
Karl - again similar to my reply to Ernie I dont want to overdo the importance of public sector pay cuts and I agree that bringing it up here is a distraction without full figures and this should be left to another thread.
I take your point that your post was addressed at wage subsidies and not all attempts to actively intervene in a depressed labour market.
The BB paper is strong on the role of cuts in the tax cost of hiring at-risk workers and this jars with attempts to broaden the tax base outlined in your post. Also, BB calls for a large fiscal stimulus. Many serious analysts have argued that any attempt to increase Irish spending beyond where we are might have dramatic repercussions in terms of debt sustainability and international credibility. However, we have not given full thought to redirection of existing planned expenditure items toward programmes that are more job intensive.
Your post also did not mention the non-pecuniary cost of unemployment, as well as long-run structural effects. These need to be factored in when evaluating employment stimulus.
There is also a general sense that both policy and academic economics is asleep on this issue. One of the reasons that the policy documents coming out are so patch is that they have so little academic work to base their ideas on. We can beat the bad ones down but putting forward some ideas that might work is also important.
And yes, I am drafting a document to be put forward for the general stocks treatment. I hope an actual labour economist beats me to it!
June 2nd, 2009 at 7:18 pm
@Liam: “Jars with” isn’t the same thing as “disagrees with”. Remember that resources are going to be very limited. I’m all in favour of targeted labour market policies that have some track record of working and this is perfectly consistent with being against blanket wage subsidies.
On the general uselessness of academics, my sense is that we have more of a track record here than your comments suggest (ESRI did a lot of work evaluating various types of FAS programs) but, yes, perhaps those who know their stuff have been a bit quiet on these issues.
Looking forward to your document!
June 2nd, 2009 at 9:03 pm
“Jobs are earned, not created” was the title that Laurence Crowley gave to paper on unemployment during the 1980s. That the governing classes and uncritical commentators still persist in using the term “job creation” leaves a lot to be desired, in terms of understanding how unemployment came down during the 1990s. Macroeconomic factors set the right tone, eg. devaluation. IMO, the growth of new businesses - inward and outward FDI, others (of which the best know is probably Ryanair), was the key and is still.
June 2nd, 2009 at 11:15 pm
It may be easy for people here to say that jobs whether existing or new should not be subsidised particularly if they are the lucky ones to be be still in employment Properly targeted these subsidies can assist businesses to grow..Also is it not better to pay someone to work in a Community Employment scheme than have them draw dole to do nothing ?. I recall these schemes in the 80s and 90s giving basic dignity to people who had somewhere to go each day and again had a purpose in their lives aiding projects in sport, culture and the community. The only difference this time is that I would recommend that the bloated Public Service organisation FAS and the Politicians would have nothing to do with their administration.
June 3rd, 2009 at 7:06 am
@ Karl Whelan
Why can you put so cogently the exact arguments in this post, that tell against more QE by central bankers?
Just because the government is disbursing sums of cash to voters? Is that the apparent difference in your mind?
Can you not see that printing money means that all (eventually, after the mercantilist cascade) get credit and that this is equally unsustainable?
All the malinvestment has to be reduced. You seem to want this to be long drawn out, I and others prefer this to be as quick as possible, with more pain and courage than on your path.
Whole industries may disappear in the next few years.
June 3rd, 2009 at 7:12 am
@ Colm McCarthy
While obviously appearing sensible, your suggestion accepts that it is always possible for government to be smarter than all the evidence available suggests. They never choose commercial winners: it is not their expertise!
Reducing independence in this way, means more reliance on “them”: “they must do something” less mature and cogent voters, consumers and investors are not what we want at this time, as we can least afford them now! We have just had them! They had their monopoly money and their investments must now bear fruit.
June 3rd, 2009 at 7:17 am
@ Veronica
You make a good point! This behaviour is taught and then learned and exists in co-dependancy that we now call democracy. There is nom limit to what a politician or his oozing familiar, the senior civil serpent, will sell to get and retain power. Lord Acton anyone?
Why people laugh at North Korea for its hereditary communism when we have more extensive nepotism in Ireland, as existed in Iceland, escapes me, but with your insight, you may already know.
Keep it up!
June 3rd, 2009 at 7:26 am
@ Margaret Hurley
The loss can be minimized by being realistic and pretending that the state can do everything for voters is a lie. It has been perpetrated by those who gain and retain power by pretending that the state can make the sea recede by command.
Just what tax rates are you prepared to accept? Ireland rejected the Scandinavian model years ago. The Denmark solution will create training jobs but we see what has happened in Ireland with the various training agencies. We have a very poorly trained building industry, that turned out substandard housing.
It seems to suit many to have permanent emigration from Ireland.
June 3rd, 2009 at 8:54 am
My reading of the Bell & Blanchflower paper that they are very lukewarm on ALMPs. For example, they say this:
“we are not making the case for significant expansion of existing ALMP measures on a broad scale …As already mentioned, the evidential basis for such a course of action is not strong at least in terms of their effects on participants. Other effects are not well researched. Further, such evidence as is available suggests that any positive impacts on participants may be diluted when unemployment is high, e.g. Podivinsky and Mcvicar (2007). This adds to our caution in proposing substantive expansion of existing ALMPs in the UK.”
This is, I think, one of the reasons why labour economists have not been rushing to propose loads of them, especially with the state of the public finances.
B&B do, however, go on to say that whatever measures are put in place should be focussed on the young, for the reasons that Margaret Hurley emphasizes; Brian Nolan also made this point in his DEW conference paper - that we should not be indifferent about who is unemployed, since long-term scarring effects are much worse for young and inexperienced workers. This is an important message and not addressed by any of the existing proposals that I’m aware of.
June 3rd, 2009 at 9:22 am
@ Karl Interesting post with which I largely agree.
@ Liam
I have looked briefly at the Bell and Blanchflower paper (we are bound to cross swords on this again). It seems rather partial equlibrium to me. What about the budget constraints, inefficiencies, disincentive effects, slowing down of the needed re-adjustment….
I would only endorese proposals 3,4,5 (on encouraging young people to stay or re-enter the education system) and 10 (short time working as an alternative to lay-offs).
There are lots of proposals in there that call for more spending (particularly proposals 1,7,8,9) and less taxes (proposal 2) - how could we square that with the obvious budget constraint?
I have outlined my views on “shovel ready infrastructure projects” (proposal 7) elsewhere. I wonder about proposal (6) to encourage more people to be trained as teachers (what are the needs from a demographic perspective in Ireland?). Bell and Blanchflower also propose that more money be made available to fill public sector vacancies (proposal
and they also argue for some “temporary, limited and targetted expansion of ALMPs (proposal 9)
June 3rd, 2009 at 9:55 am
Karl
Some observations on your estimate of the deadweight cost for the proposed FG wage subsidy scheme.
The scheme is restricted to companies expanding overall employment levels. There is a subtle, but potentially important, distinction between expanding overall employment levels and creating new jobs. As you point out, there will, even in a recession, be significant (albeit declining) replacement of staff due to natural turnover, even in companies that are declining in size (this, I suspect, is what is measured in Martina’s data).
But I suspect that only a fraction of such firms will, in the current environment, be expanding their overall employment levels and therefore qualify for the proposed wage subsidy. This would seem to be backed up by the latest NCB PMIs, which estimated that only 5% and 4% of manufacturing and services companies respectively were planning to expand employment.
A smaller observation - the subsidy would, of course, only apply to private sector employers, which probably employ no more than 1.6m people (not the two million overall level of employment that you cite).
Andrew
June 3rd, 2009 at 10:41 am
Aedin - absolutely! Some of the existing interventions are not effective in the current environment, further reinforcing the case that a proper debate on how FAS and related agencies are actually reacting is long overdue and does not seem to be forthcoming. BB, in my reading too, come down on the side of making it cheaper from a tax perspective to hire young workers, redeploying capital budgets toward job intensive projects and rolling out immediate shovel ready projects.
And I do think its time that labour economists made some contribution to the public debate. I accept that ESRI ran a conference and that they talk about unemployment in the QEC. But we have had two crisis conferences that barely mentioned the word job. This is disproportionate and points to a lack of people knowledgeable about labour markets and willing to speak about them in public debate. One cannot pick up a newspaper without reading often very cogent analyses of the banking system. I have not read a decent piece yet analysing properly the unemployment situation and as usual please enlighten me if I am incorrect.
Edgar - your paper suggests that much of the current capital programme is poorly costed and also has an enormous cost per job. Is this not a place to start? Also - you cannot compare the type of projects that the BB paper is suggesting with the huge pork investments you critique in your paper.
June 3rd, 2009 at 10:58 am
Liam and Edgar,
I am reluctant to wade in, but this thread, in a forward-looking manner, highlights many of the key components what will be required for a sustainable economic recovery. (I think we may have had enough of the banks and rectal fiscitude - as Barry Desmond once put it.) It began with Karl’s perceptive critique of FG’s (and other) costly, blunderbuss approach to subsidise an increase in employment.
Three plausible contentions seem to be emerging.
1. Fiscal constraints should prevent blanket employment subsidies where deadweight costs are high and significant additional capital expenditure where the cost per job is much higher than it is for alternative investments;
2. The human and social costs of unemployment (and sustained unemployment) are very high for some categories of the unemployed - particularly the younger cohorts - and these must be addressed.
3. There is a pressing requirement to enhance skill sets for those about to enter the labour force (in the light of declining take-up of maths and science-based courses) and to modify and enhance the skill sets of those recently unemployed.
In response the following may be worth considering:
1. Reducing the costs of doing business: more effective application of existing competition, regulation and consumer protection policy is probably the best way of ensuring that the marginal revenue product generated by a new employee exceeds the marginal expense of employment. This may take longer to incentivise new employment, but it will squeeze rents and deadweight costs rather than adding to them as a blanket employment subsidy would.
2. Mobilise private sector finance of investment in key telecoms, energy, transportation and water services infrastructure under a reformed regulatory revenue model; this will generate the quadruple whammy of reducing charges for these services, freeing up scarce government revenue, boosting economic activity and productivity and providing employment for suitably skilled workers.
3. It should be possible to justify expenditure to encourage young people to remain in, or to re-enter, education and training on its own merits as an investment in human capital. However, expenditure on useful social and community-based schemes for those in longer term unemployment and who have difficulty participating in education and training could be easily justified in terms of avoided future health, social and criminal justice expenditure.
For what it’s worth…
June 3rd, 2009 at 11:03 am
@ Liam
Infrastructure is just one of the 10 proposals in BB. In my paper I make the point that we need to get value for money and that we are spending a lot so we do not need to spend more (as argued by some). I do not argue against infrastructure investment, but against blindly raising the public capital programme without having done the background work.
I raised some questions about a further 5 proposals in BB. Do you think we should train more teachers? Do you think we should fill public sector vacancies? Do you think we should reduce taxes? Do you think we should have a major stimulation programme? Do you think we should do more ALMPs? How are we going to pay for it all?
I know some people will argue that we are able find the money for the banks so why not for ‘employment supports’ - fair question, but can we do both?
June 3rd, 2009 at 11:14 am
Liam, I agree that FAS’s response should be critically assessed. My current hobby horse is that the current emphasis on training (which is the FAS remit) is misplaced. There were huge numbers of young men who left school early to work in construction during the boom who have limited numeracy and literacy and who may never work again if this isn’t remedied. I think much more effort should be put into getting these guys back to school (or College). Forget about training for the moment - it is very difficult to identify the skills that will be needed in the post-crash world. So don’t bother - equip these guys with the capacity to learn; that will stand to them much better. We need to make return to school palatable and affordable.
In fairness to Labour Economists, I think there is a sense that unemployment in this recession is a different beast to that in previous recessions, and we’re watching the data emerge to assess whether we actually know anything useful about how to remedy things this time around…..
June 3rd, 2009 at 12:23 pm
Sorry Liam, perhaps I could have been clearer.
My praise for Karl’s post was not related to the comment on broadening the tax base, which I took to be marginal to his central message. It was that I am sceptical of job creation policy responses, for reasons identical to those he so eloquently evokes.
On this one, I’m sure you will agree that I have been consistent throughout.
June 3rd, 2009 at 1:12 pm
@ Aedin
I agree with you on education vs. training. Getting those that dropped out of school over recent years back into education would also buy some time to find out what training might have a return after the recession. In the BB paper proposals 3, 4, and 5 relate to this.
June 3rd, 2009 at 1:29 pm
@Andrew
Indeed, you’re right that I should have used 1.6 million rather than 2 million (that calculation was bit more back of the postage stamp rather than back of the envelope!) Also, as I noted, the FG plan would only apply to hiring unemployed people, so this would also reduce the cost relative to my estimates, though I’m not sure by how much.
On the data used in the Lawless-Murphy study, “job gains” are only counted if total employment has increased, so replacing exisiting workers does not show up in their dataset (they discuss this on the fifth page of the paper). So their figures correspond precisely to the measure of job gains that your policy would apply to.
June 3rd, 2009 at 5:38 pm
Fascinating post and thread – I’m sorry I didn’t have the opportunity to follow it earlier.
While Karl raises critical challenges to wage subsidy policies, I feel the overall perspective is too micro oriented. It would be right to focus on industry-level labour demand elasticities if we were dealing with an economy at full employment, where the position of the labour demand curve itself can be taken as given. The situation is different if we are facing an economy in a recession. In this context, it is interesting to consider general temporary payroll tax cuts as a form of macroeconomic stimulus. Now I realise payroll tax cuts are not usually thought of as a stimulus instrument. However, I feel that the nature of the Irish case is such to make them worth considering. First, the recession is at least in part related to dysfunction in the banking system. Financing constraints (most worryingly for working capital) appear to be a significant contributor to the contraction. The large literature on investment and finanancing constraints suggests policies that improve the cash flow position of businesses could have a significant return in the present situation. Second, it has been rightly pointed out that multiplier effects from standard demand stimulus measures are likely to be relatively weak in an economy as open as Ireland’s. Policies directed at payroll costs at least have the advantage that they benefit exporting firms as well as those depending on domestic demand.
Of course, any costly stimulus policy must be judged in terms of the overall fiscal constraint. (One rough way to think about this constraint is as a Laffer-curve style relationship between the deficit and real GDP. If we are to the right of the peak, any increase in the deficit makes things worse through interest rate/expectation effects.) But as stimulus policies go, temporary payroll tax reductions are worth consideration.
June 3rd, 2009 at 6:48 pm
Edgar - “I raised some questions about a further 5 proposals in BB. Do you think we should train more teachers? Do you think we should fill public sector vacancies? Do you think we should reduce taxes? Do you think we should have a major stimulation programme? Do you think we should do more ALMPs? How are we going to pay for it all?”
- (i) Yes, we should train more teachers and instructors at all levels of education initially in temporary and low paid apprentice jobs for the duration of this part of the cycle. This is one specific example but in general, teaching-type jobs are good candidates for holding positions for people with college education that will allow them to keep their skills while not really costing the taxpayer much (I will be more precise on a later thread). In general these type of “graduate intern” jobs could be introduced at the stroke of a pen and would absorb potentially a large number of graduates who are either going to be unemployed or competing for jobs in areas that they are overtrained for, thus potentially displacing the lower skilled people that many here have argued are the ones really in trouble. Universities, hospitals, services companies, tech companies and so on could all absorb intern positions and we should try this out. I am aware that DETE are piloting something (see link) and maybe this might be the catalyst but my sense is that the number of places is far too small and the framing too dull http://www.entemp.ie/press/2009/20090527.htm (ii) Yes - we should fill certain types of public sector vacancies with contract employees on 2-3 year contracts subject to a far greater emphasis on what employees do in the public sector. (iii) There is a case for lowering a certain number of taxes while increasing others. John makes some of this case. (iv) We are already engaging in a big stimulus effort by running double digit deficits but we have no real idea of the employment effects and whether it makes sense to alter composition to directly target employment. The IMF Conference linked to by Philip talks about among other things about employment effects of fiscal stimulus but less on composition effects as far as I can see. For Ireland, the issue has obviously to be one of composition rather than level as we cant do much more on the level and may have to do a lot less. (v) Depends what you mean by ALMP’s. Aedin’s point about younger workers is interesting in this score. The ESRI conference reviewed some ones that might work. What FAS is doing deserves more scrutiny - it might be great but its not being subject to any proper debate. (vi) We should not view the items mentioned as net additions to current levels of spending. Reallocation of existing social welfare payments toward more active initiatives is one way of paying for some of this. A complete rethink of the capital plan in the short-run is another.
June 3rd, 2009 at 7:00 pm
Paul - I want to quibble briefly with one thing you said there about having enough of the bank discussion. I agree that there has been an imbalance in the debate in Ireland with disproportionate focus on the banks and less real analysis of the implications of this downturn for household balance sheets, employment, housing and so on. This is not a reflection on the people commenting on the banks. People like Karl have been giving almost daily academic commentary on one of the most important issues in the history of the state from an economic perspective. Long may he continue to do so because, whether he is fully right, fully wrong or somewhere in between I really believe (and a long body of literature shows) that public policy makers who know they are being watched do better than those who operate in darkness. Im sure Andrew McDowell (commenting here), for example, would admit in his memoirs in years to come that knowing that Karl is about to read anything he writes on the banks is a good spur to go the extra mile.
June 3rd, 2009 at 8:36 pm
Hi All. I think the points made about, throwing large,widely available grants at this problem would indeed be a poor use of our dwindling resources.
I do have one caveat with regard to Sole traders(self employed). I think that the benifit of keeping sole traders going, even if it means giving those making slight losses up to 10k per year, keeping their capitalistc minds active and ready for the fabled upturn, as well as the cost benifit of keeping them off the dole would be a good use of our resources. BTW I am not a sole trader.
June 4th, 2009 at 9:29 am
Liam,
Fair comment. I accept I was being a bit flippant about what I preceived as an imbalance of coverage. However, you are raising, possibly inadvertently, some fundamantal questions about democratic governance, accountability and scrutiny. This is taking us into the sphere of polictical economy - and probably deserves a separate post - but it is worth while to consider the essential features as concerns have been raised here previously about the quality of economic policy advice available to the Government and suggestions floated about the possibility of elevating this blog as a forum for generating and scrutinising policy ideas in a formal manner.
Observing Ireland from England, as I do, I am a little bemused that the current intense debate here about the business of parliament and democratic governance is having almost no resonance in Ireland. From the comfort of retirement, Andrew Turnbull, former UK cabinet secretary and head of the civil service, has recently made some serious points:
http://www.ft.com/cms/s/0/73f524ca-4faa-11de-a692-00144feabdc0.html
For all sorts of historical and cultural reasons the Irish system of democratic governance is broadly similar to that in Britain - and similar to to the system of parliamentary democracy in all other EU member-states, with the important exception of France. Indeed, in global terms, in established and well-functioning democracies, with the important expection of the US, this model of parliamentary democracy holds sway.
Its essential feature, as Andrew Turbull points out, is that the power of government in parliament, once it can sustain its parliamentary majority, is virtually absolute. Switch back to Ireland. The Taoiseach has asserted that “he will govern as he sees fit”. While the Dail arithmetic holds up, this is simply a statement of fact. Irrespective of the quality of the critiques posted here by Karl Whelan and other well-qualified and internationally recognised economists, the Government will take no notice. And an atavistic and tribal strain of anti-intellectualism erects another barrier.
(In passing it is to Andrew McDowell’s great credit that he is prepared to engage on this blog with critiques and scrutiny of FG’s policy proposals as they are being developed. In fact, this is probably one of the most beneficial aspects of this blog. There is an extremely high probablity that FG will be the dominant player in the next government - irrespective of when a general election is called. It is only now that their economic policy proposals may be influenced before they are set in stone in a programme of government. And it is why I have frequently called for more scrutiny here of what FG and other parties are proposing.)
Back to democratic governance. The simplest and most effective reform comprises the selection, empowering and resourcing of parliamentary committees (similar to those in the US) to hold the government to account and to initiate legislation. This could involve shrinking government within parliament (and, possibly, taking some outside), but increasing scrutiny and accountability. These committees would have the resources to retain the calibre of economic expertise to scrutinise and modify government economic policy proposals. And the government, in turn, would be required to increase the quality and quantity of economic analysis supporting its proposals.
And it is possible that this could be achieved wthout a constitutional amendment.
June 4th, 2009 at 1:34 pm
It is my suspicion that we may already have lost our economic sovereignty. Is it conceivable that the ECB has agreed to buy our bonds (indirectly through the banks) subject to a fiscal austerity programme agreed with the Government? In those circumstances, we may not be in a position to apply funds to any employment stimulus packages unless agreed in advance with the ECB/EU. Am I getting paranoid?
June 4th, 2009 at 1:42 pm
@ Liam
Ok - so you would follow pretty much all proposals of the BB paper and you would reprioritise expenditures while keeping within the current envelope. That knock my worry about the overall budget constraint on the head but it begs the obvious question as to what expenditure you would cut??
@ Paul
I also think that Andrew McDowell deserves credit for debating FG policies on this board. Where are the other advisors???
June 4th, 2009 at 1:42 pm
I dont think so zhou.
Unless anyone has any other ideas as to why the ECB has agreed to buy our bonds at such favourable rates/at all?
If anyone has any other ideas as to why they would I and zhou would be eager to hear them.
June 4th, 2009 at 1:56 pm
@Zhou and Eamon
Guys, can we tone done the ECB stuff a bit? I suppose we should get something going somewhere else on this issue but since you’re discussing it here:
1. The ECB is not buying the banks’ Irish government bonds at all (at favourable rates or any other rates). They are using them as collateral in repo operations.
2. The ECB is willing to lend to the Irish banks using these govenment bonds as collateral because they one of a huge range of assets that the ECB considers eligible collateral for these operations. See here http://www.ecb.int/paym/coll/html/index.en.html
3. Since late last year, the ECB has adopted a policy of providing unlimited amounts of credit in its refinancing operations (previously it had auctioned off a set amount of credit, subject to a minimum acceptable interest rate). So within this framework, the ECB has no choice but to lend to the Irish banks once they come up with eligible collateral.
4. Given the Irish banks relatively modest holdings of Irish government debt (they hold only a tiny fraction of the outstanding sovereign debt) and their now large level of loans from the ECB, they are clearly using plenty of other stuff as collateral also.
5. The “ECB/EU” stuff is just silly. The ECB\Eurosystem is not simply an outgrowth of Brussels. It is an independent central bank (witness the recent Merkel-Trichet spat). It also has representatives from 16 countries going to and fro all the time. Trust me, there is no way they could run some sort of consipiracy theory of the type you’re suggesting.
I know conspiracies are great fun but the truth is usually much less exciting.
June 4th, 2009 at 1:57 pm
@ Paul
It is my opinion that some forms of democracy are more democratic than others. Proportional representation is more democratic than first past the post. The best example of this is the share of parlimentary seats the Lib dems get 4-6% usually, even though they have about 12-15% of the UK vote.
It is also my opinion that the party whip sytem first introduced by Parnell was one of the most undemocratic acts allowed to occour in British Parlimentary History. Party whips being abolished via referendum would give parliment more power to disagree with the Government.
Lastly I would argue that corporate lobbying has no place in a properly functioning democracy.
It should also be outlawed through referendum.
I know I may as well be asking for a free holiday in Bermuda for all the good it will do but if there are alternitive answers, regardless their palitablity to the major parties they should be aired.
June 4th, 2009 at 2:22 pm
@Karl
Thanks for the comprehensive reply.
June 5th, 2009 at 8:31 am
Eamonn,
I take your points about specific failures of democratic governance in many jurisdictions, but, without deviating too far from the labour market policy debate in this thread, my focus is on effective engagement of the economics profession with the political policy formulation, evaluation and implementation process. It harks back to a post by Colm Harmon in April (http://www.irisheconomy.ie/index.php/2009/04/13/skills-deficits) bemoaning the lack of quality economic input in this process. The extended debate on that thread provoked the following characteristically incisive and pungent observation by Colm McCarthy:
“Consider the market for economic advice, which varies in quality, but not much in price. On which side of the market will quality get determined? If demand is quality-insensitive, what is the pay-off to quality improvements on the supply side?
Why do economists never apply a little economic analysis to the economics industry?”
My simple proposal in response to this is to reform, empower and resource the Oireachtas Committees to enhance the quantity and quality sensitivity of this demand. And that this, in turn, would increase demand on the government side. Our elected representatives would still make the final decisions, but they would do so on the basis of advice presented and contested in a rigorous and structured format. It would facilitate a move towards the separation of the executive and legislative powers, increase scrutiny and transparency and be more effective in holding the government to account. And our dozy Fourth Estate might pay more attention and up their game.
During the long summer recess (assuming there isn’t a general election) our elected representatives could do worse than focus on reforming the current Oireachtas Committee system along these lines.
June 5th, 2009 at 11:54 am
Quibble all you like about the ‘panic’ suggestions put forward by politicians and trade unions but why does all discussion here on an attempt to boost job creation centre on the implementation of untargeted and blanket social employment schemes. Okay, so maybe there is no quick fix, magic bullet solution to job creation which can be easily peddled by politicians eager to show that only they have the solution that the others lack. But what is needed is a whole reconfiguring of the entire economy towards job creation and away from what it has traditionally relied on.
Yesterday I talked to James K. Galbraith about this, before his Tasc lecture in the Royal Irish Academy, and he emphasised that the system will have to move away from reliance on commodity speculation and towards job creation. You can listen to it here:
http://www.irishleftreview.org/2009/06/05/ilr-podcast-interview-james-galbraith/
June 5th, 2009 at 12:31 pm
@Donagh:
What exactly, in concrete terms, is this re-configuring of the entire economy towards job creation that you envisage?
The steep nature of the current recession can make it hard to forget that the most basic fact of macroeconomics is that recessions come and go. Economies create plenty of jobs during expansions and shed them during recessions. While the current recession is bad, we need to be careful not to introduce panic measures that will hamper growth (and probably employment levels) for years to come.
A bit of history is useful on this. We’ve been here before — back in the 1980s people regularly claimed that Ireland could never return to low unemployment without the government directly intervening to “create” lots of jobs. Well-intentioned as they were, these folks were wrong then, and the argument is wrong today as well.
Prof. Galbraith is an interesting man but characterising the pre-2007 economy as “relying on commodity speculation rather than job creation” is not helpful. One can be more precise and say that the financial sector of the economy (which means a lot more than commodity speculation) probably became too large in many of the world’s leading economies. But this doesn’t really have anything to do with job creation — these industries created jobs at the time and are now shedding them and during the booms they fueled unemployment rates were very low. When we come out of this recessions, other sectors will emerge to employ these people.
As with the conspiracy theories referred to above, broad sweeping statements like this are very popular but usually just aren’t that helpful.
June 5th, 2009 at 1:46 pm
@Karl
Okay, let me begin by conceding some points. In an attempt at brevity and shorthand I managed to come across as unnecessarily aggressive and just plain dumb. In the interview Prof. Galbraith had to correct me a number of times when I tried to express some of the points he had made in articles etc, and I am sure that he would take issue with my simplification of the point he made regarding job creation. Also, he was talking about the US economy at the time, so extrapolation over to Ireland was inaccurate. Also realize too that broad sweeping statement are not helpful, and certainly buck the trend in the detail of comments provided on this and other IE treads.
My point was that while it is good to express caution against panic measures which may seem innovative to the wider public but have been shown not to work, I would have thought that it would be more useful to argue for ways of generating sustainable jobs to ease the social and indeed economic problems associated with a long recession, rather than implying that all state sponsored programs to encourage job promotion should be dismissed out of hand.
Recessions do come and go, but is this one not different? Is not the underlying causes of it connected to deeper structural problems which are the result of how the economic system has worked in the last couple of decades? However, rather than dealing with that point I was thinking, when I made my comment, that there have been a number of problems lying under the hood of the Irish economy for a number of years and which have mitigated against real indigenous growth (and I am relying on Seán O’Riain’s posts here and elsewhere on that). There is seems little real desire to tackle these past shortcomings. It was inaccurate to focus on commodity speculation and the financial sector. Although it has accounted for the huge flood of money passed through the system, it has not contributed to the whole Irish economy in the way that it was imagined (unless I’m reading Patrick Honohan’s 2006 paper for the DEW on the Financial Service Sector incorrectly).
The alternative it seems is to rely on the market on its own to boost job creation without any clear idea of when or how that would happen, leaving those reservists in the army of the unemployed hanging around doing nothing (or relying on them taking leave to another country).
On job creation itself, Michael Taft and others continue to make suggestions.
http://www.irishleftreview.org/2009/05/07/shane/
Perhaps these can be addressed seriously and indeed challenged. So it’s unfortunate if what I said came across as a conspiracy theory – that’s an easy enough brick to lob – but I concede that my argument was wasn’t detailed, well informed or articulate enough for the point I was trying to make.
I’m pasting in the podcast here, so that IE readers don’t have to pollute their browsers with an ILR webpage
Galbraith Interview
June 5th, 2009 at 3:03 pm
Donagh,
Thank you for putting Michael Taft’s ideas forward for consideration and challenge. This is important as they resonate with a significant proportion of the electorate. Others, if they wish, are far more qualified than I am to comment, but I wish to focus on a couple of key aspects.
Despite being fully supportive of the need for a Keynesian style stimulus it must be recognised that the ability of the State to finance anything of this nature is extremely constrained. I describe the contention that, because it is prepared to bail out the banks, the State should be able to finance all manner of job protection and creation schemes as the “Casablanca Folly” - “You played it for her; you can play it for me. Play it.”
That the bank bail-out could be played differently - and less expensively - is neither here nor there. Some budget constraints are just .. hard.
The Eurozone and global stock of surplus savings has been diminished, but it hasn’t gone away. With sensible policies and effective regulation we can tap into this to finance any amount of human and physical capital investment. This, of course, would require the shooting of some sacred cows such as the belief in the ineradicable evils of any form of privatisation.
And the high profits of the semi-states cited by Michael Taft as evidence of the superior performance and efficiency of public sector enterprises (relative, one presumes, to private sector ones) are primarily driven by excessively high prices and revenues set by the energy regulator to allow these businesses to extract a share of up-front investment financing from consumers - so as to avoid direct Exchequer financing. The government is screwing consumers much more rapaciously than any carpet-bagging private equity ghouls ever would.
Welcome to the real world!
June 12th, 2009 at 12:44 pm
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