Thursday, February 27, 2014

What worker shortage?

Everyone once in a while I stumble on an article talking about the shortage of skilled workers in the U.S. With lines such as:

"Today business groups are strongly supporting immigration reform, including increases in foreign worker visas. They can’t find enough American workers to fill openings in science, technology, engineering and math occupations."

These articles make it appear that businesses want to hire people but they just can't find the right people to hire. But if there is a shortage (many people have called this bluff, see here, here, and here) it is only a shortage at a particular wage. For people who understand the basic supply and demand model a diagram might make this more clear.



In the above diagram, the equilibrium wage and amount of labor, which is where the amount of labor supplied by people is equal to the amount of labor demanded by employers, is W* and L*. The only way there can be a shortage is if the wage is set too low. In the diagram this is a wage of W1. At a wage of W1, the amount of labor supplied, Ls, is less than the amount of labor demanded by employers, Ld. The amount Ld - Ls is the labor shortage.

So there is no labor shortage when the wage is W* and a labor shortage when the wage is W1. If the labor shortage is real it is only because employers do not want to pay the higher wage necessary to clear the market.

Employers often say there is a "skills gap" and thus they cannot find the workers they need. That is nonsense. Again there is only a "skills gap" if the wage is too low to induce people to gain the skills the employers want. For example, suppose there is a "shortage" of software engineers. If firms really cannot find the workers they need, they can increase their offering wage, offer signing bonuses, or provide some other compensation that makes the job more desirable. As the compensation climbs, more people will be willing to take the job, which increases the quantity of workers supplied, and some firms will be unable to pay those higher costs, which decreases the quantity demanded. This will lead to an equilibrium wage rate like W*.

Of course some employers will say "Well we can't offer any more money, we cannot afford it." To that I say so what? If a business cannot stay in business because they cannot sell their product at a price that reflects their true costs than they should not be in business. In this scenario it is obvious that consumers simply do not value the product at what it costs to produce it. That is exactly the reason businesses fail! When consumers stopped valuing He-Man action figures at a value that allowed the producers to continue making the toys I doubt anyone thought that this was a result of paying workers too much. Mattel, the maker of He-Man toys, was paying their workers the wage required to get the amount of workers they needed. They didn't try to keep the wage low in order to keep producing and then whine about a labor shortage. This same idea applies to high tech companies that require engineers, scientists, and other skilled workers.

Employers then might say "Well even if we offered a higher wage it takes time for people to develop the skills we need." Perhaps, but how much time does it really take? As an economist I have extensive quantitative training. I am sure that I could get the necessary skills for many of the engineering jobs available today in a year or less. And I would do this for the right price. If engineering jobs were paying $500K per year I would drop out of my econ PhD program and sign up for the necessary engineering classes tomorrow. I am sure there are many other people in quantitative occupations that would also find the switch worthwhile at that wage. The time to develop the skills needed would be short at a high enough wage because workers who have similar training would be induced to switch occupations. In fact, the necessary amount of engineers might already be out there in the form of retirees. I am sure that a wage rate of 500k/ yr (maybe higher/lower) would induce thousands of retired engineers to re-enter the workforce at a training time equal to what any employee being hired by a business for the first time must endure. The workers are out there; it is the reluctance of employers to pay the necessary wage that keeps them from getting the workers they want.

While I think that the idea of a labor shortage is ridiculous I am not for eliminating H-1B visas. I think that if foreigners want to come to the U.S. and work they should be able to do so. And if they are willing to do the work at a lower wage than natives so be it. Companies and individual workers should be free to decide on what wages they are willing to pay and accept. But what I am not for is using the idea of a "labor shortage" to fund government subsidized worker training programs simply because employers want the taxpayer to pick up their training tab. This is cronyism and it has no place in a free market economy.

Sunday, February 16, 2014

The costs of a higher minimum wage

The NY Times had an article recently that profiled some minimum wage workers in the Pacific Northwest. Workers from Idaho are commuting to jobs in neighboring states like Oregon and Washington to take advantage of the higher minimum wages in those states. This article provides some evidence that supports the claims of minimum wage opponents like myself.

1. As pointed out by GMU economist Don Boudreaux, the fact that minimum wage workers are able to change jobs is evidence that employers do not have monopsony power over minimum wage workers. Employers are competing for minimum wage workers; not colluding in order to artificially set the price of low skilled labor. This quote by auto mechanic Stevan Lindsay says it all:

"The competition for workers has in turn forced many businesses on the Idaho side to raise their wages. “I have to offer more to my employees to keep them,” said Steven Lindsay, owner of Main Street Automotive, a repair shop in Payette, Idaho, six miles from Ontario. “People are going to go to where the money is."

Now some people will point to this as proof that a higher minimum wage helps workers. And for the workers who keep their jobs this may be true. But there are costs too, which brings me to my second point.

2. Employers pass on much of the increased costs of their labor to their customers.

"Todd Heinz, who owns three coffee shops called Jolts and Juice with his wife, Vicki — two on the Oregon side, one in Idaho — likened the result to a treadmill when Oregon’s wage went up Jan. 1 by 15 cents under an automatic system linked to the cost of living. (Oregon is one of 10 states that link their minimum wage to the Consumer Price Index.) After raising the pay for his 24 employees, he raised the prices for coffee, smoothies and beer to compensate."

Employers will try to maintain their profit margins. One way they can do this by passing on some of the costs to their consumers.

And this brings me to point 3.

3. Employers can also hire less workers. A bar in Oregon where one of the people interviewed for this article got a job at did just that:

"But Mackey’s owners also told her that she would have to work harder than before for that money. Higher labor costs meant getting rid of the dishwasher, for one thing, said Angena Grove, who owns the restaurant with her husband, Shawn. And whereas Ms. Lynch covered three tables at a time in her old Idaho job, Mackey’s waitresses, with the owners helping out, cover five."

So the worker, Ms. Lynch, is making more money in Oregon but she is also doing more work. Economic theory says that workers are paid the value of their marginal product i.e. they are paid based on what they produce. If an employer is going to pay more in wages they are going to expect more output in return. Once you factor in the increased work done by people making a higher minimum wage you see that there is no free lunch. (Also, regardless of whether there is a minimum wage workers who produce more get paid more because employers want productive workers. This is why I think a minimum wage is unnecessary.)

And what happened to that dishwasher? Ms. Lynch may be making more money for more work but that dishwasher lost their job. Try telling the unemployed dishwasher that a higher minimum wage is a win-win.

A higher minimum wage has costs. Employers will expect more output and if their current employees can't meet the new expectations they will eventually be replaced by higher skilled, more productive employees who can. A higher minimum wage also leads to less employment, e.g. the unnamed dishwasher. Consumers are also hurt by a higher minimum wage in the form of higher prices for the goods and services they buy.

This article is a snapshot of what would happen around the country if the minimum wage is increased nationwide.

Friday, February 14, 2014

Correcting Robert Reich's "three biggest economic lessons"

In a recent blog post Robert Reich lists and discusses the 3 biggest economic lessons since WWII. I am going to comment on each one in turn and show how they are not really lessons at all, but simply Mr. Reich once again doing bad economics and misleading his readers.

Lesson 1:
First, America’s real job creators are consumers, whose rising wages generate jobs and growth. If average people don’t have decent wages there can be no real recovery and no sustained growth.

I have heard that the real job creators are consumers from several liberal pundits over the last 6 months or so, mostly in arguments for raising the minimum wage or increasing transfers to the relatively poor. It sounds good until you start using your brain and really thinking about it; how can people consume stuff unless it is first produced? Growth and jobs are produced because entrepreneurs see wants and desires that are currently not being satisfied. The entrepreneur then creates a good or a service to satisfy these unmet desires. The consumer learns about this new good/service and how it can make his life better off by fulfilling his previously unmet desire and so he purchases it for consumption. That is a story that has a logical order and fits reality. I do not see how Mr. Reich's proposition, that the consumer creates jobs by consuming, can be the starting point. Something can only be consumed if it is first produced. Thus the entrepreneur, the producer, the capitalist is the TRUE job creator and the producer of economic growth. That's why economists who want growth want to reduce regulation in order to free the entrepreneur and allow him to create goods and services that will make our lives better off.

Lesson 2:
Second, the rich do better with a smaller share of a rapidly-growing economy than they do with a large share of an economy that’s barely growing at all.

First of all, the same is true for the poor. The question is not whether the rich (or poor) would benefit from growth (of course they would) but whether taxing the rich will lead to actual growth. Moving money around from one pocket to the other does not make a person wealthier. The same is true for an economy; taking money from one group and giving it to another does not create any new goods and services and thus cannot make people on average any better off. Mr. Reich's mistake from lesson 1 has led him to believe, along with others, that if money is taken from the rich (the entrepreneurs and capitalists) and given to the poor  the poor will consume and create jobs. But as I pointed out above this is nonsensical. Taking money from the rich, who save and invest it, will hurt growth in the long run because as any economist will tell you savings and investment is what increases economic growth. If Mr. Reich wants a rapidly growing economy he should not advocate taking resources from the entrepreneurs and capitalists who actually grow the economy.

Lesson 3:
Third, higher taxes on the wealthy to finance public investments — better roads, bridges, public transportation, basic research, world-class K-12 education, and affordable higher education – improve the future productivity of America. All of us gain from these investments, including the wealthy.

The government quit doing these things with any sort of effectiveness a long time ago (assuming they ever did of course). The chart below taken is based on data from The Office of Management and Budget shows where the nation's tax dollars really go.

 Currently 74% of our tax dollars go to Social Security, National Defense, Income Security, Interest on the debt, and Medicare. If taxes are raised it is not going to education (2.57%), transportation (2.63%), or general science, space, and technology (0.82%). Social Security and Medicare need all the money they can get. Increasing taxes on the rich will not even cover the cost of those programs and the U.S. will continue to face an increasing national debt unless spending is curtailed. There would be plenty of money for transportation and education if politicians would cut spending on entitlements that have gotten out of control. The government does not need more revenue it needs some self control. Here is a breakdown of spending by the dollar:


 Liberals like Mr. Reich use the investment ploy as a way to sucker people into increasing tax dollars that will inevitably be spent on transfer programs and entitlements. The government is a bad steward of our money and should not be trusted to invest in things that will increase growth. Both democrats and republicans have a solid track record of squandering money on special interests, cronyism, and other wasteful spending. Even if Mr. Reich is correct that we would all benefit from more spending on transportation and education the reality is that the money will never go there.

Hopefully this post clears up the falsehoods presented by Mr. Reich.