Google+ Followers

Monday, March 18, 2013

Elizabeth Warren Profoundly Misunderstands Labor Economics

According to HuffPo, Elizabeth Warren made one of the most nonsensical statements about economics that I have read in a long, long time last week in a hearing on the minimum wage:

"If we started in 1960 and we said that as productivity goes up, that is as workers are producing more, then the minimum wage is going to go up the same. And if that were the case then the minimum wage today would be about $22 an hour ... , with a minimum wage of $7.25 an hour, what happened to the other $14.75? It sure didn't go to the worker."

This shows such a profound misunderstanding of economics I had to write about it.  

Productivity, as used in labor economics, is the quotient that results when output is divided by some measurement of labor - often the number of workers (although it can be divided by a unit of labor, such as the hour, or the cost of workers as well).  Productivity can increase in several ways: (1) a static number of workers do their jobs better and produce more; (2) management figures out a way to generate the same output with less workers; (3) other players in the firm - management, owners, etc. - supply tools that enable the same number of workers to generate more output.  Obviously Warren is myopically implying that all increases in productivity result from actions covered by (1), and implying that the value that workers have heroically created has been inequitably captured by someone else (undoubtedly evil capitalists in the populist world-view that she and her adherents hold). 

This isn't true generally and it certainly isn't true of minimum wage work.  The people stocking shelves, raking leaves and flipping burgers haven't become any more productive than their predecessors 50 years ago.  They're not stocking shelves, raking leaves or flipping burgers 16x faster than was the case 50 years ago. They're not creating any more value now than their predecessors did then.   Applied to minimum wage work, Warren's  thesis is ludicrously absurd.

More generally, it's also wrong.  If operating a farm at one point took 5 people, and 4 of them are replaced with machinery and all you need is one person to hook the machines together, climb on the tractor and go out and do the work, productivity has increased fivefold.  But not because the 5 workers are working 5x harder or smarter, but because you've replace 4 of them!  

If a production line took 50 people before automation, and with robots and lasers and much more precise machines, the same production line can turn out the same output with 5 workers programming the machines and monitoring the line for snafus, productivity has increased tenfold.  Again, that's not because the 50 are working 10 times harder, but because the employer has replaced 90% of them!  

If a company had 6 layers of management and the senior executives flatten the organization and get by with three, productivity doubles.  But it hasn't come about because the same workers are making decisions that are twice as lucrative. management. Rather, half of them are gone! 

Through technological advancement, capital investment or management insights, employers have figured out  ways to get the same results from less people by using available labor more efficiently. There is just less labor needed; i.e., demand goes down.  But because the supply, the population available to work, has not gone down in corresponding fashion, the workforce has much less ability to make claims on the continuing output, populist myths notwithstanding. 

In short, increases in labor productivity have been very much caused by factors other than labor: technology, management, etc.  In fact, there is a strong case to be made that productivity and employment are really in a long-term trend of decoupling; that gains in output will come entirely from the use of more technology, and employment will by default fall into sectors which cannot be made meaningfully more productive.  In some cases - health care, for instance - rising demand for the product may lead to rising incomes for those in the sector, especially if they have distinctive, differentiating skills.  But in other cases, where the population seeking jobs that aren't terribly productive is unskilled, the supply / demand relationship works very much against them.  The sectors of the economy that have become more efficient have been absorbing less of the labor market, shedding them in many cases, so, as new entrants come in to the market, the supply of labor continues to outstrip demand for it. That's just economics, not evil.  

So where has the money "gone" (which is a totally misleading question in that it implies it was the workers to begin with)? Firstly, it's "gone" to the suppliers of technology, both the designers of the technology and the large pool of laborers who produce it, many of whom are in Asia, not the US.  Secondly, to the suppliers of management decisions who figure out ways to generate output in leaner fashion.  And thirdly, to the business owners to invest in the technology and who hire the managers. Because those have been the main sources of productivity increases.  There's no connection at all between productivity increases in the economy at large and the labor that is performed by minimum wage workers.