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Event Economics

The Redistribution Recession: How Labor Market Distortions Contracted the Economy

Wednesday June 2014


Casey Mulligan Professor in Economics, University of Chicago

About the Author

Casey Mulligan is Professor of Economics at the University of Chicago, received his Ph.D. in economics from the University of Chicago in 1993 and has also served as a visiting professor teaching public economics at Harvard University, Clemson University, and the Irving B. Harris Graduate School of Public Policy Studies at the University of Chicago. He is affiliated with the National Bureau of Economic Research, the George J. Stigler Center for the Study of the Economy and the State, and the Population Research Center. He has received awards and fellowships from the National Science Foundation, Alfred P. Sloan Foundation, Smith-Richardson Foundation, and John M. Olin Foundation. His research covers capital and labor taxation, the gender wage gap, Social Security, voting, and the economics of aging. He is the author of Parental Priorities and Economic Inequality, and writes blog entries for the New York Times and

Event Transcript

Manhattan Institute has such enthusiasm for ideas. I hope that I can match that and bring some of that home to Chicago, because it’s impressive, your enthusiasm for ideas, and my book and the books you mention have ideas in them, and sometimes you wonder: Do they matter? And Manhattan Institute believes they do. I hope they are right and I hope I can convince students at Chicago that they do matter.

So I’ll tell you about a few of the ideas in the Redistribution Recession tonight. It’s about the contraction of the labor market in the United States since 2007 or so, and not only is it contraction, but the fact is that it remains depressed. And I use a very familiar methodology in the book, a method called supply and demand—you’ve probably heard of it—to try to answer that question.

The thing is the conclusions are surprising and politically incorrect. And my focus on supply and demand really lead me to major subsidies and regulations that I think were intended to help the poor, to help the unemployed.

There are more than a dozen new programs along those lines and these policies were advertised by politicians as expanding employment, but the fact is that they reduced incentives for people to work and reduced incentives for businesses to hire people to work. You’ve probably heard about the emergency assistance program for the long-term unemployed that ended actually only a few months ago after running for almost six years, but there’s also the food stamp program.

It not only got a new name, and it not only replaced the stamps with debit cards, but more importantly, participants now in the food stamp program are no longer required to seek work and they are no longer asked to demonstrate that they don’t have any wealth. Essentially, any unmarried person—and I don’t have time to go into that aspect of it—but essentially, any unmarried person can join food stamps at any time that they’re out of work and can stay on the program indefinitely if they stay out of work indefinitely.

There were new mortgage assistance programs. People who owed more on their mortgage than their house was worth could have their payments set at a so-called affordable level. In government speak, that means that you pay full price for your house only if you have a job and earn money. There were new rules for consumer bankruptcy with special emphasis on the amount that consumers were earning after their debts were cleared. And there are many, many other programs highlighted in the book of the same economic character. All of them have in common that they reduce incentives to work and earn, just like taxes do.

The cornerstone of the book really is to quantify the sum total of all of these incentives and their changes over time. And that sum total is what I call, and other economists, I think, use this phrase, the marginal tax rate, by which I mean the extra taxes paid and benefits forgone as a consequence of working. Waves of new programs increased the typical marginal tax rate from about 40%, before the crisis, to about 48% in just two years.

Although it comes last in the book, it’s worth recognizing that there is a real demand for this kind of redistribution—helping people who are unemployed, or with low incomes, has some intrinsic value in that people enjoy it. Many people like to know that there is a safety net there in case they need it. Moreover, this demand fluctuates over time.

Democrats are thought to be the party of redistribution and for sure, they had quite a winning streak in federal elections, first winning a majority in the United States Senate, and then they got the House of Representatives, and then of course, they got the White House—once and then again. But even if somehow Democrats had been prevented from taking their offices they won in an election, still, I think, we would have some redistribution in a time of crisis, mainly because Hayek is still not understood enough.

For most of our lifetimes, middle class people did not imagine themselves participating in, say, food stamps. And for most of that time, they weren’t, understandably, that supportive of expanding the food stamp program. But 2008 was a scary time and, I think, for the first time a lot of people were thinking about what might happen if my family suddenly became poor or unemployed—and food stamps is all of a sudden on their radar screen. So I think we need to recognize that.

But we also need to recognize that helping people—it’s valuable, but it’s not free. The more you help low-income people, the more low-income people you’ll have. And the more you help unemployed people, the more unemployed people you’ll have. And those are costs that are on the other side of the ledger of benefits. Really, there’s a trade-off: more help, less efficiency in the economy.

I met a recruiter; by that I mean a man whose job it was to find businesses new employees and to find unemployed people new jobs. He had a nice description of his work. Maybe he didn’t realize it, but it really described the tradeoff pretty well.

That man I met, that recruiter, his name is Mr. Reis and he said in 2009 that his clients had some jobs to fill, but he ran into a hurdle he had never seen before as a recruiter. People would apply for jobs, not with the intention of actually accepting them, but in order to demonstrate to the unemployment office that they were seriously looking for work. That’s according to Mr. Reis. As he described it—and I want to emphasize that this is his description—the applicants would use technicalities to avoid accepting a position. The applicants would take Mr. Reis through the arithmetic of benefits, taxes, and commuting costs and conclude that accepting a job would net them less than $2 an hour, so they would rather stay home. Programs for the unemployed make unemployment less painful—that’s the point of the programs. The bad news is people have less reason to avoid less painful situations. People remain unemployed longer, as Mr. Reis described to me.

Now Hayek’s “use of knowledge” in society explains how economic information is not, and cannot, be fully known by a single person. That information exists, and this is how Hayek put it, solely as “dispersed bits of incomplete and frequently contradictory knowledge, which all the separate individuals possess.” Well Mr. Reis is one of those separate individuals. Most policymakers were not, and are not, aware of what Mr. Reis was seeing. Most of those who voted the Democrats into the Senate, the House, and the Presidency were not aware. And as I’ll explain later, most of the expert economists were not only unaware, but were promising us that what Mr. Reis saw was not happening.

But as Hayek would tell you, it’s not simply a matter of putting Mr. Reis in charge, because Mr. Reis doesn’t see the whole picture either. He is one of the dispersed individuals. I don’t see all the pictures either, so what I can tell you are a few things Mr. Reis didn’t see from his position. He didn’t mention, because he didn’t see them, a bunch of other programs, other than unemployment insurance that expanded and had the same economic character—like the food stamps, mortgage assistance, or the health insurance subsidies.

Second thing about Mr. Reis’s position: it kind of comes with some judgment. I was trying to describe things to you the way he described things to me, and I think you sensed the judgment. That was his judgment. He makes the unemployment seem a bit lazier, a bit ungrateful. But you could just as well say that the situation he saw arises from the employer’s failure to up his bid so that it competes better with unemployment benefits.

My point here is not to assign fault to one party or another, just to illustrate the complicated ways in which market works. And because of the complicated market dynamics, I’m not sure there’s even such a thing as fault. We get the results that we get.

The third thing that Mr. Reis didn’t see—because he’s in charge of hiring, not firing—that’s another group of people in charge of the layoffs, making decisions about how many, and when, and whom to lay off. These new programs, that Mr. Reis saw from one angle, from the other angle, they subsidize layoffs. They make layoffs less painful, they make layoffs less expensive. Unlike the state unemployment insurance benefits that are sometimes a kind of liability for the employer who makes a layoff, the federal unemployment insurance expenses during the crisis were paid for by taxpayers generally, which means that an employer could lay off as many people as he wanted, without adding to his federal tax burden.

Maybe more vivid is the kind of Obamacare experiment that was in the stimulus law that told unemployed people, if you like your health plan that you had on your old job, you can keep it and the federal government will pay.

Before the Recovery Act, many employers used to help their employees with insurance after a separation, whether a layoff or a quit or a retirement, and those were expensive benefit programs that employers had in place on behalf of their employees. And in that old regime, before the stimulus act, employers had to consider that laying somebody off was going to, of course, end the value created by that employee—they’re leaving the building—but it was not going to end the health expenses that that employee created, because of these programs for assisting with health insurance after the separation.

But if you talk to the employers in charge of the layoffs, they will tell you how the Recovery Act or the stimulus law completely changed that calculus. If you laid off somebody during the crisis, for the first time, among other things, the employer doesn’t have to pay for the health insurance. So, public policy intended to make layoffs less painful actually made layoffs cheaper and more prevalent.

Now that’s the Hayek part of today. I also want to mention the prize part of the Hayek Prize, because it’s not just the politicians or the journalists who don’t see the full economic picture.

As I said, it’s the top economists in the world, from the International Monetary Fund, who don’t mention these issues, to the Federal Reserve, who don’t mention these issues, to the White House, who don’t mention these issues, to university professors, to the Congressional Budget Office: They all promised us that there’s no trade-off. And at this supposedly special time in our history, redistribution would actually create jobs and grow the economy. They rarely note the kind of thing Mr. Reis talked about, and they never, ever mention that redistribution is a subsidy to layoffs.

I’m talking about the prize. Here’s the thing. These are the experts who decide whether my papers get published, and they ultimately decide my salary, and they’re not too happy with anybody showing how distorted their proclamations really are. So I deeply appreciate not only the recognition from Larry and everyone at the Manhattan Institute—your recognition alone makes it harder for the experts to hide behind these proclamations and harder for them to ignore the use of knowledge in society—but the Institute and Mr. Smith made this prize possible. Your support really makes it a lot easier to question the conventional wisdom and speak up on the occasions, and 2008 was one of those occasions, when the answers aren’t conventional.

Now the Redistribution Recession is critical of the supposedly Keynesian view that the way to get people back to work is to pay them not to work. But Keynes had some things to say about incentives and economic performance that was smart enough that even Hayek approved. And I’m talking about Keynes’ The Economic Consequences of the Peace, where he offered his opinions on the effects of the 1919 Treaty of Versailles—that was one of the treaties after World War I, particularly the one between the allied powers and Germany.

Keynes made predictions about the effect of that treaty on the German economy. And Keynes believed—and Hayek agreed—that several economic consequences of the treaty, not all of them, but several, were knowable, ahead of time, before the treaty was actually executed. And he wrote his book, The Economic Consequences of the Peace after that document was written, signed and delivered, but before it was executed. He carefully quantified the economic provisions in that treaty and the economy that would be affected by it.

And thanks to your support, and also thanks to a new wave of public policies that redistribute—I need both of those things to be in business—I have been able to put together a book that’s coming out in August that I tried to model after Keynes’s book on the treaty. And I call the book Side Effects: The Economic Consequences of the Health Reform. Although the Affordable Care Act is not quite as harmful as the Treaty of Versailles, let me be clear about that, I do reach conclusions that are analogous to Keynes—namely that the full execution the Affordable Care Act would create significant economic side effects and moreover, that advocates of that document were not fully aware of, or forthright about, or both, about the costs that they were creating.

So I’d just like to finish up by saying: If you like your weak economy, you can keep it.

Thank you.