As I work on my book, I am trying to come up with a way to explain the classical economic outlook. Here is one approach. Comments welcome.
Here is an imaginary dialog between a classical economist (C) and Keynesian economist (K).
K: See that man, Uri, sitting on the bench over there? He is involuntarily unemployed.
C: How do you know that? Do you know his reservation wage? That is, do you know the lowest wage that he would accept to go to work? Do you know what his best offer has been?
K: Yes. He won’t work for less than $12 and hour, and his best offer has been $11.50
C: So he is not really unemployed. He has withdrawn from the labor force, because he can’t find a job that will pay him what he wants.
K: No, according to the Department of Labor, as long as he is looking for work, he is unemployed. Besides, in his last job, he earned $14 an hour and what he produced was worth $15 an hour. But when the economy went into a slump, the demand at his firm fell, and he was laid off. His problem is that there is a lack of effective demand.
C: I’m not sure what ‘effective demand’ means, but ok. What should Uri be doing instead of sitting on the bench?
K: He could be digging a ditch for the government.
C: But he’d rather be sitting on the bench. Why should he dig the ditch?
K: The government can pay him to dig the ditch. They can pay him $12 an hour.
C: If his ditch-digging is worth $12 an hour, that’s fine. The taxpayers should be happy to pay Uri to dig a ditch if it’s a worthwhile use of his time.
K: Actually, the ditch is not worth so much. Let’s say his ditch-digging is worth only $5 an hour. But this way, he’s working instead of sitting on a bench, and as taxpayers we benefit from the ditch.
C: No! As taxpayers, we pay $12 and hour for ditch-digging that is worth only $5 to us. That makes us worse off.
K: Would you rather pay unemployment benefits of $8 an hour and get nothing?
C: No….But if we are going to redistribute income to Uri, why not encourage him to take the offer for $11.50 and pay him just $.50 an hour as a subsidy to do that?
K: Hmmm. Not such a bad idea. But the ditch-digging puts more spending into the economy.
C: No it doesn’t. You give $12 to Uri to spend, but that $12 comes from those of us who pay taxes, and now we have $12 less to spend. It’s just a transfer.
K: But we’re not going to raise taxes. We are going to borrow the money to pay Uri to dig the ditch.
C: In that case, the borrowing is going to use up saving that otherwise would have been used to build homes or expand businesses.
K: No. Households and businesses do not want to spend any more. The savings would have sat idle. We need the government to spend those savings, because no one else will.
C: Really? You seem to think that we can have an excess of savings without driving down interest rates. I don’t see how that can happen.
K: That’s a discussion for another day.
Perhaps an off-topic comment, but what strikes me about this dialogue is that it makes *both* economists sound like they’re just telling tales, rather than describing (or even hypothesizing about) reality. That may not be the impression you want to give.
Is that a significant falsification of some “macroeconomic principle?” if so, what one; indirect effects?
The basic disagreements between K and C in how their dynamics and models of how the economy works need simple names, and those names should be referenced (maybe footnotes, maybe in outline form, maybe parenthetically) or somehow proximately placed next to those lines of conversation to explicitly identify the purpose that the phrase was crafted to illustrate and the issue illuminated.
In general, I find it highly useful to be able to have a big-picture comparison of different theories by making a table that lists and compares their priors and logic and demonstrates what they share in common and also names their fundamental conflicts. On one page, I should be able to see the overall structure of the disagreement between Mr K and Mr C.
And, if it’s possible, presented in a way that could implicate an empirical plan to help us resolve the disputes, or let us know whether such investigation and resolution of the dispute is fundamentally infeasible for some reason.
I have constructed a table as you suggest. I will put it into a blog post. I also plan a chapter on why empirical resolution is fundamentally infeasible.
You’re the best, Arnold Kling! I owe you a dinner, and you and your family are always welcome at my house (not too far from Silver Spring, actually). Let me know if you’ve got any interest.
I really like the idea of showing the alternate discussions about how quacro guys look at unemployment.
I like it as a dialog; I’m sure the rest of the book will be more analytical and explicit.
I agree with commenters it could use another draft, though.
The fewer numbers you can use, the easier it will be to read. My eyes always glaze over when people insert quantities and start comparing them to each other. At least for me, it’s much easier to read when writers simply use “more” and “even more than” and stuff like that.
I think you could shorten the part following “They can pay him $12 an hour.” by saying “They can pay him $12 an hour, even though the holes in the ground are worth about $5 an hour for the holes. They can do that because they’re the government.”. Just skip the part about how it would be worth it if the holes are really worth $12; it’s a digression.
Really fun stuff. Macro is a sacred cow in the econ world. It deserves someone who will look at its fundamentals.
I don’t understand why paying benefits of $0/hour is not an option. The reservation wage is obviously too high and should be lowered. The easiest way to do that is removing benefits.
Otherwise really nice..
Arnold,
If the book is going to be targeted at lay people then I think the dialogue is a good idea. By itself it’s not sufficient to give the insight someone like you ought to shoot for, but if I can make a suggestion, you could use the dialogue at the beginning of every chapter to illustrate the different points you want to dissect.
It could be a very useful motif throughout the book.
This conversation was clearly intended to be a characterture, and it moved on my understanding, but may put some off?
re the $11.50 + $0.50 subsidy, maybe a little off topic, are not the payroll and (state?) income taxes a barrier here too? – perhaps in a footnote that could be addressed.
I would suggest having Mr. C make a counter statement in his last line instead of an incredulous question. I also was a little confused by the brief mention of interest rates. Would it be clearer if he says “Wouldn’t those unused savings make borrowing easier and cheaper for businesses?” It might be a good segue into PSST, too, by saying that if businesses are not borrowing and expanding, despite available capital stock, there must be some structural deficit that hasn’t been corrected – or perhaps an institutional risk of being singled out for regulation or taxation.
Why don’t K and C talk TO Uri instead of ABOUT him? Doesn’t seem nice.
What is unrealistic is K claiming there is an offer, any offer, for him. Not that some employer might be hiring at, say $8, but would never consider him because they don’t want anyone willing to take less, and largely next to no one is hiring because no one is quitting.