Baldwin Wallace University Economics Blog ... thinking out loud ...: February 2012

Sunday, February 26, 2012

…not an Industrial Nation

By kay.e.strong

In January President Obama touted that an economic recovery “begins with American manufacturing.”

The Brookings report: Why Does Manufacturing Matter? Which Manufacturing Matters?, opined “[p]ublic policy is needed to help strengthen manufacturing and prompt a high-wage, innovative, export-intensive, and environmentally sustainable manufacturing base.”

I just don’t get it. Why are we so obsessed with looking backward to the future?

The United States is no more an industrial nation now than it is an agricultural nation. Before the turn of the 20th century, a quarter of the American population was down on the farm. Now, maybe, 3% , that is, three percent of the population is engaged in plowing-discing-dragging-seeding American fields, raising livestock and caring for fruit and vegetable plants. And three percent is sufficient to put foodstuff on the tables of Americans and have plenty to make the US a net exporter of food! America’s agricultural sector exhibits high productivity! Similarly, in its heyday, the manufacturing sector was the backbone of the American economy. Its relative size of employment today stands shy of 9%, down from 21% in the 1980s. Assuming 150 million workers in the labor force, 3 percent devoted to agriculture, 9 percent to manufacturing, what are all the rest of us doing? Ah, providing services! Yup, 87% of American workers are employed in the service economy…and expenditure on services accounted for $7 of our $15 billion GDP in 2011…making the U.S. a Service Nation!

Some lament the loss of high-wage jobs as our manufacturing sector has downsized. What they really miss are the high-paying jobs for low skill/ low educated workers. But that train ride is over! As one would expect, comparative advantage has kicked in. Low-skill manufacturing jobs have migrated to mass-production, low cost facilities abroad. The world benefits by shrinking deadweight loss from production inefficiency. Now, about that “high-wage” thing. Every worker’s pay is based on his marginal revenue product, translated: your wage is equal to your added contribution to company revenue. The more productive you are, the more you add to revenue. The US has the unique advantage of mixing workers with high levels of capital—the secret sauce of high-wages in manufacturing today. On the downside, though, more capital per worker means the manufacturing sector is demanding more skilled workers. Higher education and higher skills go hand-in-hand with higher wages in both manufacturing and service sectors. Want high wage? Get skilled!

The Brookings report argues that manufacturing drives innovation. I rather believe that innovation hubs like Bell Labs (NJ) or Silicon Valley (CA) drive revenue streams for manufacturing. Innovation hubs bring “thinkers and tinkers” together under the same roof. Closer the proximity, the denser the body count of would-be innovators, the higher the probability of new streams of production for manufacturing. Lesson: pitch federal dollars toward research and development hives not solo-operations. Cultivate the innovation ecology of communities. Strengthen fast pitch innovation techniques such as crowd-sourcing, open-source access and redistribution and social entrepreneurship. Unharnessed ideas propagate faster.

Another claim of the Brookings report asserts that “[m]anufacturing can make a major contribution to reducing the nation’s trade deficit.” As can a drop in the relative value of the dollar or a reduction in reliance on imported petroleum products! As for the export of manufactured goods, specifically, “[o]nly about 4% of manufacturing firms in the U.S. exported in 2000 and 96% of all U.S. exports are sold by just 10% of this already small set of firms.” That 10% would be the industries of chemicals, transportation equipment, computers and electronic products, and machinery. Clearly then, these industries not manufacturing broadly stand to benefit disproportionately by export push policies. [http://www.brookings.edu/opinions/2012/0220_manufacturing_klein.aspx]

Nostalgia makes for great literature but not a great economy. We are passed our Industrial Nation prime and in the youthful bloom of our Service Nation present. Let’s get on with making policy aligned with reality!

Kay Strong, Ph.D., Southern Illinois University, M.T., University of Houston, M.A., Ohio University; Associate Professor at Baldwin-Wallace College; Areas of expertise: international economics, contemporary social-economic issues, complexity and futures-based perspectives in economics. E-mail: kstrong@bw.edu

Sunday, February 19, 2012

… illiteracy is killing the economy

By kay.e.strong

...that is, economic illiteracy! If ever you were looking for a leverage point to improve the economy, then bagging bad politics (along with the politicians) would do it!

“The polarized rhetoric of the 2012 election cycle presents voters with a false choice of whether the government can create jobs or should just get out of the way.” (NYT: How Not to Revive an Economy by Michael Grabell, 11 Feb 2012)

Amen to that!

Politic is not economics. Their goals differ. Politics is and has always been about maximizing the voice of the few at the expense of the majority. And I get it. The voice of a minority is important. It rounds out national discussion by offering a counter perspective that tempers the lunacy of the majority. What if the minority voices had been heard, would the moral depravity of Hitler’s regime have reached 6 million Jewish lives?

On the other hand, economics is about maximizing the well-being of the majority at the expense of the minority. This is where politics steps into to mitigate minority losses. In Measuring the Costs of Protection in the United States, Hufbauer and Elliot report: Still, the annual consumer costs per American job "saved" by "special" protection range from $100,000 to over $1 million and average $170,000. Consumers thus pay over six times the average annual compensation of manufacturing workers to preserve each job. In terms of net national welfare, the cost per protected job is about $54,000.

Political rhetoric kills. Government and markets are the twin pillars of a healthy economy. Good governance matters! It explains large differences in the performance of economies. The nation of Zimbabwe celebrated the December to January drop in inflation from 4.9% to 4.3%. This is a huge deal given that Zimbabwe has experienced inflation rates as high as 11.2 million percent! Yes, 11.2 million percent requiring a single Zimbabwe dollar denominated as 1 trillion ZWR! The Japanese, on the other hand, struggle with the opposite problem. Deflation, negative growth rates of prices levels, has plagued the Japanese for more than a decade making it nearly impossible to rev the economic engine.

Unemployment-wise, the rate in the troubled euro zone stood at 10.3% comparable to the US in October. The German economy faired better than average with rate of 5.5%. The Greek economy has reached +18% with more austerity measures in the works. Throughout the eurozone youth unemployment rates range from 24% (France), 45% (Greece) to 49% (Spain). Athenian youth recently took to the streets in a “burn, baby, burn” rampage reminiscent of Detroit riots of the 1960s. In Japan, employment figures conceal the second-class status of Japanese youth where 45% hold irregular jobs, up from 17.2 percent in 1988 and double the rate of older workers.

Rather than pitting government against the market, “[t]he real debate should be about which policies work and which don’t.” Score, Mr. Grabell, two points on this pop quiz! So what doesn’t work: more austerity on top of austerity [think, Greece], stimulus money directed at deep infrastructural projects like roads [think, US], or institutional policies such as underfunded pension plans which discourages older worker turnover [think, Japan].

Economic growth is a long-run phenomenon; unemployment is a by-product of short run economic fluctuations. What we need is a Stimulus 2.0 package that marries both ends of the stick, simultaneously. That is, policies that lay the ground work for long-run growth, while stimulating short-run demand. So here’s my top economic policy picks.

1. Reinvest in Americans not America. Make post-secondary education affordable by subsidizing its cost for any American willing to take on the challenge…and political whiners get a passport free-of-charge out of the country!

2. Eliminate the outrageous 8.5% interest rate being charged to American youths who have invested in higher education on their own dime. For heaven-sakes, the fed funds rate is only 0.25% on a bad day! Redirect those “shovel ready” dollars from roads to absorbing interest payments for America's future workers!

3. Open the doors to educated youth worldwide to seek “unemployment refugee” status in the US. Immigration as a trigger for economic growth is well-documented. The Kauffman Foundation characterizes foreign-born entrepreneurs as an underestimated American resource! The report states that “… in a quarter of the U.S. science and technology companies founded from 1995 to 2005, the chief executive or lead technologist was foreign-born. In 2005, these companies generated $52 billion in revenue and employed 450,000 workers.” Tell me, we couldn't use the brain-power! [Source: http://www.kauffman.org/entrepreneurship/foreign-born-entrepreneurs.aspx ]

Mr. Grabell—who’s probably neither an economist nor a politician—got it right: “… there are areas where the government should get out of the away, by clearing bureaucratic hurdles. But it’s equally important for politics to get out of the way of smart government policies....”.

Monday, February 6, 2012

Whose Recession?

By Lewis Sage

Financial pundits define a recession as two consecutive quarters of decline in real GDP. But as the old joke goes, “When your neighbor loses his job it’s a recession; when you lose your job, it’s a depression.” The National Bureau of Economic Research – NBER to the cognoscenti – has a more nuanced analysis based on their criterion of “a significant decline in activity”.

In their judgment, The Great Recession, measured from peak to trough, began in December 2007 and ended in June 2009, real growth in the second quarter of 2008 notwithstanding. The starting date is pretty easy to agree with: the unemployment rate rose from 4.7% to 5.0% in December of 2007; payroll employment peaked in January; and real GDP fell in the first quarter of 2008. But the end date of June 2009 is harder to swallow.

Payroll employment declined every month from February 2008 through September 2010, fully five quarters after the NBER terminal date. True, the rate of job loss was small compared to 2008:IV and 2009:I, but loss is loss. Unemployment data tells a similar story, peaking at 10.0% in October 2009 and then oscillating from 9.7% to 9.9% for the next six months before beginning a slow decline in May 2010. It’s become common wisdom that employment lags GDP recovery, but I would argue that the persistence of unemployment’s misery has become so great as to be disconnected from the rise and fall of the business cycle.

Let me suggest a more intuitive definition of an economic slack period: an interval in which the unemployment rate is at least 25% higher than its long-run equilibrium level. In my lifetime, the average monthly unemployment rate in the US has been 5.8%, placing my arbitrary threshold of labor misery at about 7.25%.

So let’s see how the 7.25% solution compares to business recessions since 1970.

Slack Labor Market Interval
12-1974 to 06-1977             (NBER measure ~ no recession)
05-1980 to 07-1985             (NBER measure ~ 1980:II-III, 1981:IV-1982:I)
12-1991 to 01-1993 (NBER measure ~ no recession)
12-2008 to present               (NBER measure ~ 2008:I-2009:II)

By the NBER measure, we have been in recession less than 8% of the time since 1970; by the threshold measure, it’s almost 29% of the time. If you’re a college graduate (unemployment rate 4.2%), you’re more likely to think the recession has been over for a while; if you never graduated high school, (unemployment rate 13.1%), the recession may seem permanent.

Dr. Lewis C. Sage (AB Kenyon, PhD U. Maryland) likes intersections. Since 1991, he has taught Law and Economics, Mathematical Economics, and the Economics of Healthcare. A former Fulbright Fellow (Bulgaria 1995-6), he teaches an interdisciplinary Honors seminar, Enduring Questions, and is studying strategy in the NFL draft with faculty and students in Sport Management and Psychology. E-mail: lsage@bw.edu

…Greek inclusion

By kay.e.strong

Reuters ran Analysis: Euro zone strugglers lack innovate knack ahead of today’s Greek debt deadline (6 Feb).

The 911 version: Using R&D expenditure and patent filings per million inhabitants as proxies for innovative capacity, the writer concludes Greek ranks dead last relative to fellow Euro zone nations. As an innovation laggard Greece is seen lacking in ability to spawn growth sufficient to sustain their debt load. Andrew Wyckoff, director of an OECD think tank, catalogs software, human capital development in knowledge-intensive sectors, intellectual property and organizational know-how of companies as complementary elements of innovations. Overhauling the underlying Greek business environment to enhance its international competitiveness is the solution of choice with government directing the process through business-friendly policy changes.

In Adam Smith’s story On the Nature and Causes of the Wealth of Nations the secret of wealth generation revolved around the division of labor with specialization, learning by repetitive doing, productivity, and competition playing the lead character roles in the story.

But a story with a new twist challenges conventional wisdom. Research out of Harvard’s Center for International Development argues that the richest countries are those with the most complex economies—and actually produce the greatest diversity of goods (Harvard Magazine. Complexity and the Wealth of Nations). Using network science, the researchers have complied their findings in The Atlas of Economic Complexity: Mapping Paths to Prosperity < http://atlas.media.mit.edu/ >.

The social accumulation of productive knowledge and its recombination into a more diverse and sophisticated variety of products is the main ingredient for growing prosperity. The researchers, Richardo Hausmann and Cesar Hidalgo argue that accomplishments of the past two centuries are a product of our getting smarter—not individually, but collectively.

“Modern societies can amass large amounts of productive knowledge because they distribute bits and pieces of it among its many members. But to make use of it, this knowledge has to be put back together through organizations and markets. Thus, individual specialization begets diversity at the national and global level. Our most prosperous modern societies are wiser, not because their citizens are individually brilliant, but because these societies hold a diversity of knowhow and because they are able to recombine it to create a larger variety of smarter and better products.”

The income gap between nations is expressed as a gap in social accumulation of productive knowledge and evidence by the differences in the product space of nations. Products are emblematic of the level of productive knowledge. Where the divergence between the total amount of knowledge embedded in society and that held by each member of society is narrow, economic complexity is low as is living standards.

“The secret to modernity is that we collectively use large volumes of knowledge (in producing products), while each one of us holds only a few bits of it. Society functions because its members form webs that allow them to specialize and share their knowledge with others.”

Markets and organizations are nodes in those webs making us collectively wiser.

Accumulating productive knowledge is about more than book smarts—explicit knowledge. It involves growing tacit knowledge through deep specialization (personbytes) and modularized chunking at the individual and organizational level and through our networks of organizations.

Doing so, complexifies the economy. A nation’s mix of productive output reflects its level of economic complexity. Nations make products on par with their accumulated social productive knowledge space.

“Complex economies are those that can weave vast quantities of relevant knowledge together, across large networks of people, to generate a diverse mix of knowledge-intensive products. Simpler economies, in contrast, have a narrow base of productive knowledge and produce fewer and simpler products, which require smaller webs of interaction. Because individuals are limited in what they know, the only way societies can expand their knowledge base is by facilitating the interaction of individuals in increasingly complex webs of organizations and markets. Increased economic complexity is necessary for a society to be able to hold and use a larger amount of productive knowledge, and we can measure it from the mix of products that countries are able to make.”

Viewed from this perspective, the Greeks have a scaffolding problem. For prosperity-sake they need to reach deeper into their product space but lack the requisite match in the patterns of interaction inside their organizations and own society. Drawing them deeper into the complex webs of organizations and markets of more prosperous neighbors is a practical means to overcome the scaffold problem for nations like Greece. Learning by interacting holds more promise than a sterile bailout package.

Sunday, February 5, 2012

…rethinking the wealth of nations

By kay.e.strong

This semester I’m diligently working at integrating new thinking into my macro principles course. My objective is to better match content with the current realities of the world we inhabit. I’m far from alone in believing that the field of economics needs an enema! I have an ally in the Institute for New Thinking (INET) < http://ineteconomics.org/ >. The INET sprang from the failings of traditional economics during the great Global Meltdown—not unlike Keynesian economics following the 1930s debacle of classical economics. The push for new economic thinking has one advantage British economist J. M. Keynes did not have; INET, a diverse global collaborative of thousands of trained economists, including Nobel Prize winners and others—teachers and students—“attracted by a promise of a free and open economic discourse.” INET’s mission is “to nurture a global community of next-generation economic leaders, to provoke new economic thinking and to inspire the economics profession to engage the challenges of the 21st century.”

Just as Occupy Wall Street broached the topics of greed, economic exclusion and failed policies, INET is likewise destine to shake up traditional economic thinking and its benefactors.

For an illustration, let’s crack open Adam Smith’s tome, The Wealth of Nations, the cornerstone of economics.

Many are familiar with this oft quoted passage:

"It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own self-interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities but of their advantages."

A brick in the foundation of laissez-faire economic policy which free marketers worship is typically traced back to this passage. Others tag the passage as the seed of the invisible hand metaphor attributed to Smith.

The invisible hand represents the undirected coordinating role that the price mechanism performs in guiding economic activity to its natural conclusion. The mantra of the invisible hand runs interference for all kinds of supposed ills such as government help which is likened to freshly chewed bubblicious lying on a hot sidewalk.

Traditional economics focuses on the efficiency story of economics. Efficiency is about cultivating the optimal competitive environment to insure highest possible production from supposed scarce resources. Production effects are divorced from distributional effects. And Adam Smith has become a bastion for all beneficiaries of traditional economic thinkers advocating a hands-off policy role for government.

But new economic thinking is emerging. The new story challenges traditional rhetoric. The new story portrays markets and economies as directed networks. This is the complexity story—process rather than the state of competition is at its heart. The complexity story is based on a dynamic framework involving evolutionary change overtime that is not directly controlled or controllable—where economic forces interacting with and reacting to social, political, technological, and environmental forces create outcomes. Some desirable—others not quite so.

The metaphor of the invisible hand is given a makeover in the complexity story. Here the invisible hand stands for the idea of self-organization in which the potential “chaos” of seven billion individuals unfolds into an elegant complex structure of order that fits together—with sustainability its innate goal.

In the complexity story markets are social constructs, that is, markets could not have existed had we not collectively created them. We created them—we can uncreate them, too! Markets are not sacred cows—have at that bubblicious gum.

The complexity story acknowledges that we have collective moods. Market volatility, business cycles, economic growth, inflation, technological and institutional innovation are macro outcomes of our collective psyche at work. Old equations don’t add up in the new thinking of economics. You plus me makes three. Old policy formulae are the bubblicious gumming up the works of the market and economy.

New economic thinking advocates a new role for government.

“The common finding that economic structures can crystallize around small events and lock in is beginning to change policy…toward awareness that governments should avoid both extremes of coercing a desired outcome or keeping strict hands off, and instead seek to push the system gently toward favored structures that can grow and emerge naturally. Not a heavy handed, not an invisible hand, but a nudging hand.” –Brian Arthur, Santa Fe Institute (Complexity and the Economy. 1999:4)

I sense that one day all this new thinking will seem like old hat!

Friday, February 3, 2012

...counterpoint

By kay.e.strong

“Nothing is so hard for those who abound in riches as to conceive how others can be in want.”—Jonathan Swift

p.s. for mitt