Tag Archives: Noahpinion

Justin Fox Inadvertently Makes the Case Against Empiricism

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On the question of whether Federal workers are overpaid relative to private sector workers, He writes,

The Federal Salary Council, a government advisory body composed of labor experts and government-employee representatives, regularly finds that federal employees make about a third less than people doing similar work in the private sector. The conservative American Enterprise Institute and Heritage Foundation, on the other hand, have estimated that federal employees make 14 percent and 22 percent more, respectively, than comparable private-sector workers.

Pointer from Mark Thoma. My comments:

1. The empirical estimates are supposed to “control for” the many factors that could affect salaries: benefit packages, education level of workers, other measures of skill, etc. But obviously, there is no clear and unambiguous choice of how to control for these factors, or else everyone would get the same estimate. Ed Leamer hit the profession over the head with this 35 years ago.

2. Could you have predicted ahead of time which organization’s “research” would find a result favorable to Federal workers and which organization would find unfavorable results? Of course you could. So how do you sustain the belief that normative economics and positive economics are distinct from one another, that economic research cleanly separates facts from values?

3. A number of us have observed that the rate of exit from the public sector to the private sector is not terribly high, and that the ratio of applicants to vacancies in public sector jobs is not terribly low. If public sector pay were too low, you would expect government agencies to be rife with unfilled positions, due to high exit and low entry.

4. Point (3) is an example of what Noah Smith would dismiss as “casual intuition.” But in this instance, I would argue that casual intuition has a higher signal-to-noise ratio than does formal empiricism.

Noah Smith on Labor Supply and Demand

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He writes,

What is a better theory of the labor market? Maybe general equilibrium (which might say that immigration creates its own demand). Maybe a model with imperfect competition (which might say that minimum wage reduces monopsony power). Maybe search and matching theory (which might say that frictions make all short-term effects pretty small). Maybe a theory with very heterogeneous types of labor. Maybe something else.

Pointer from Mark Thoma.

This is the middle of the movie, so to speak. At the start of the movie, Smith looks at two stylized facts about the short run. One is that an immigration surge has little effect on wages. This suggests that labor demand is highly elastic. The other is that a minimum wage increase has little effect on employment. This suggests that labor demand is highly inelastic. It cannot be both.

Of course, you do have the option of denying the veracity of one or both stylized facts. But I do not want to go there. I vote for “very heterogeneous types of labor.” There is no such thing as “aggregate labor demand” in the labor market. There are patterns of specialization and trade. And these tend to be sticky, both in terms of wages and the quantity of each type of worker employed.

The “labor market diagram” makes it appear that you can have either a sticky wage or a sticky quantity of labor, but not both. Behind this (false) theorem lies the presumption that it is very easy to substitute among workers. This is an instance in which mathematical modeling serves to confound rather than help the modeler.

In fact, workers are specialized. Even relatively unskilled workers have been trained to perform their particular tasks. The substitutability that is implicit in the labor market diagram does not exist in the real world.

Labor market adjustment comes primarily from changes in the patterns of sustainable specialization and trade. Because it takes time for old patterns of trade to become unsustainable and for new sustainable patterns to form, neither wages nor quantities change as much in the short run as they do in the long run.

The effect of the minimum wage in the short run on existing firms can be small. They mostly just suck it up and pay the higher wage. However, over time, there will be a tendency for processes that use low-skilled workers to be less profitable and processes that instead use capital and high-skilled workers to be relatively more profitable. So the patterns of specialization and trade that break up will tend to be those that have been employing low-skilled workers, and the new ones that form will tend to employ fewer low-skilled workers than would have been the case otherwise.

As for immigration, what Noah calls general equilibrium I call creating new patterns of specialization and trade. There is no “lump of labor demand” that immigrants and natives are competing to fill. Firms do not say, “Oh, goody. Now I can now fire my native workers and hire immigrants for $1 an hour less.” Instead, entrepreneurs who are thinking of starting firms ask, “Where can I get the best workers for the least cost?” And in many cases immigrants are the answer. As this process plays out, my guess is that the main wage-depressing effect is on native workers just entering the labor force. But of course a lot of them have specialized skills that insulate them from competition from immigrants. So the effect on natives’ wages is limited in scope and stretched out in time.