Stephen A. Marglin
Keywords: flexprice adjustment; fixprice adjustment; conventional wage; unlimited supplies of labor; capital widening; capital deepening; Phillips curve
Published in print:Jul 2017
Category:Research Article
Pages:360–425
Download PDF (1.7 MB)
The central question this paper addresses is the same one I explored in my joint work with Amit Bhaduri 25 years ago: under what circumstances are high wages good for employment? I extend our 1990 argument in three directions. First, instead of mark-up pricing, I model labor and product markets separately. The labor supply to the capitalist sector of the economy is assumed à la Lewis to be unlimited. Consequently the wage cannot be determined endogenously but is fixed by an extended notion of subsistence based on Smith, Ricardo, and Marx. For tractability the product market is assumed to be perfectly competitive. The second innovation is to show how disequilibrium adjustment resolves the overdetermination inherent in the model. There are three equations – aggregate demand, goods supply, and labor supply – but two unknowns – the labor–capital ratio and the real price (the inverse of the real wage). Consequently equilibrium does not even exist until we define the adjustment process. The third innovation is to distinguish capital deepening from capital widening. This is important because, ceteris paribus, wage-led growth is more likely to stimulate the economy the greater the fraction of investment devoted to capital deepening. A final section of the paper shows that US data on employment and inflation since the 1950s are consistent with the theory developed in this paper.
Full Text
1 INTRODUCTION
Are high wages good for employment? Does higher employment lead to more inflation? When do higher prices mean stagflation? This essay lays out and tests a new framework for assessing the relationship between prices and wages on the one hand and output and employment on the other. I build on my work with Amit Bhaduri of a quarter of a century ago (Marglin and Bhaduri 1990; Bhaduri and Marglin 1990). The central innovation of this joint work was to question the conventional wisdom of left-leaning political economy that higher wages are always good for employment and output. Higher wages, Bhaduri and I argued, may decrease aggregate demand through a negative impact on investment demand. Here, I expand the argument by focusing on the differences in the relationship between wages and employment under different adjustment regimes. The expanded model allows me to examine supply and demand shocks under different dynamic assumptions, and to test the Keynesian idea that aggregate demand matters against data on employment and inflation. I also offer an argument about how different types of investment respond to profitability and capacity utilization, an argument intended to clarify the impact of wages on aggregate demand via the investment channel.
From a mainstream point of view, the entire tradition in which Bhaduri and I situated our work – the tradition in which aggregate demand matters in the long run as well as in the short run – was conceived in error. The process of consolidating the Keynesian revolution made a role for aggregate demand contingent on one form or another of market imperfection or friction, and the resulting sand in the wheels was supposed to operate only in the short term. By the late 1960s, when the neoclassical counter-revolution had begun in earnest, the Keynesians had already abandoned the long run to the neoclassicals. Robert Solow's 1956 essay was widely understood to have demonstrated the irrelevance of aggregate demand, even though the ‘demonstration,’ as Solow himself recognized (ibid., p. 91), is simply an assumption.
The counter-revolution, led by Milton Friedman (1968) and Edmund Phelps (1968), delivered the knock-out punch – or so it was believed. A positive relationship between employment and inflation, enshrined in the Phillips curve (Phillips 1958), was understood by Keynesians to reflect the operation of aggregate demand. The counter-revolutionaries dismissed the Phillips curve as the result of misperceptions that would necessarily disappear as agents developed more sophistication about the economy. The implication was that demand cannot matter in the long run. Indeed, Friedman and Phelps predicted that periods of high inflation would not be accompanied by higher economic activity. In the long run there is no Phillips curve, no trade-off between economic activity and price stability. In this perspective raising money wages is necessarily an exercise in futility: higher wages can mean only higher inflation, with no impact on employment and output. The classical dichotomy with a vengeance!
Some years later, Robert Lucas (1981, p. 560) claimed that experience had borne out the Friedman–Phelps predictions:
The central forecast to which their [Friedman and Phelps's] reasoning led was a conditional one, to the effect that a high-inflation decade should not have less unemployment on average than a low-inflation decade. We got the high inflation decade, and with it as clear-cut an experimental discrimination as macroeconomics is ever likely to see, and Friedman and Phelps were right. It really is as simple as that.We have a lot more data available today than Lucas had at his disposal in 1981. And the data do appear to bear out the prediction that there is no relationship between employment and inflation. Figure 1 plots the data over more than half a century. Analysing these data, economists have found, if anything, a negative relationship between real economic activity and inflation. Cross-sectional studies by Stanley Fischer (1993), Robert Barro (1996), and others have found a significant negative correlation between growth and inflation, but their results are dominated by high inflation rates, where negative supply-side effects plausibly dominate. More striking are the findings of Moshin Khan and Abdelhak Senhadji (2001), who separate poor and rich countries and find that for the rich countries the threshold above which inflation is associated with lower GDP growth is only 1–3 percent per year.
Figure 1
Employment vs inflation, 1956–2011
Citation: 5, 3;10.4337/roke.2017.03.04
None of this should surprise us. Once it has been determined that demand does not matter in the long run, it makes sense to treat all observations symmetrically and look for supply-side effects.
Appearances notwithstanding, we can make sense of the data in terms of a Phillips curve along which movements reflect demand shocks but which is itself moved by supply shocks, as Robert Gordon (1984; 2013) and others have argued. Demand shocks result in the standard Phillips result, a positive relationship between employment and inflation. As we shall see, supply shocks are more complicated.
The key to finding order in the randomness of Figure 1 is to filter the data in two ways. Not only must we separate demand and supply shocks, we must also sort out wage shocks (which affect employment and wages through their effect on labor supply) from price shocks (which operate through goods supply on employment and output). This done, there were, I shall argue, two periods in which wage pressure exerted a strong influence on the positive Phillips-curve relationship: in the late 1960s and early 1970s upward pressure on wages displaced the relationship between employment and inflation upwards, and in the mid 1990s downward pressure on wages displaced the relationship downwards. This suggests that high(er) wages have historically exerted a negative influence on the economy, but, in line with the central hypothesis put forward by Bhaduri and me 25 years ago, this result is contextual. Both instances of wage pressure took place under conditions of high employment and, presumably, high investment demand – precisely the conditions under which Bhaduri and I argued that higher wages would not improve aggregate outcomes.
This leaves open the possibility that under conditions of slack, such as characterize global capitalism since the financial crisis that inaugurated the Great Recession, the impact of higher wages would be very different from 20 or 40 years ago. Higher wages would indeed stimulate the economy.
Wage increases, transfers, and the socially determined income distribution in the USA*
Lance Taylor, Armon Rezai, Rishabh Kumar, Nelson Barbosa and Laura Carvalho
Keywords: wealth distribution; income distribution; SAM
Published in print:Apr 2017
Download PDF (1.7 MB)
The central question this paper addresses is the same one I explored in my joint work with Amit Bhaduri 25 years ago: under what circumstances are high wages good for employment? I extend our 1990 argument in three directions. First, instead of mark-up pricing, I model labor and product markets separately. The labor supply to the capitalist sector of the economy is assumed à la Lewis to be unlimited. Consequently the wage cannot be determined endogenously but is fixed by an extended notion of subsistence based on Smith, Ricardo, and Marx. For tractability the product market is assumed to be perfectly competitive. The second innovation is to show how disequilibrium adjustment resolves the overdetermination inherent in the model. There are three equations – aggregate demand, goods supply, and labor supply – but two unknowns – the labor–capital ratio and the real price (the inverse of the real wage). Consequently equilibrium does not even exist until we define the adjustment process. The third innovation is to distinguish capital deepening from capital widening. This is important because, ceteris paribus, wage-led growth is more likely to stimulate the economy the greater the fraction of investment devoted to capital deepening. A final section of the paper shows that US data on employment and inflation since the 1950s are consistent with the theory developed in this paper.
Full Text
1 INTRODUCTION
Are high wages good for employment? Does higher employment lead to more inflation? When do higher prices mean stagflation? This essay lays out and tests a new framework for assessing the relationship between prices and wages on the one hand and output and employment on the other. I build on my work with Amit Bhaduri of a quarter of a century ago (Marglin and Bhaduri 1990; Bhaduri and Marglin 1990). The central innovation of this joint work was to question the conventional wisdom of left-leaning political economy that higher wages are always good for employment and output. Higher wages, Bhaduri and I argued, may decrease aggregate demand through a negative impact on investment demand. Here, I expand the argument by focusing on the differences in the relationship between wages and employment under different adjustment regimes. The expanded model allows me to examine supply and demand shocks under different dynamic assumptions, and to test the Keynesian idea that aggregate demand matters against data on employment and inflation. I also offer an argument about how different types of investment respond to profitability and capacity utilization, an argument intended to clarify the impact of wages on aggregate demand via the investment channel.
From a mainstream point of view, the entire tradition in which Bhaduri and I situated our work – the tradition in which aggregate demand matters in the long run as well as in the short run – was conceived in error. The process of consolidating the Keynesian revolution made a role for aggregate demand contingent on one form or another of market imperfection or friction, and the resulting sand in the wheels was supposed to operate only in the short term. By the late 1960s, when the neoclassical counter-revolution had begun in earnest, the Keynesians had already abandoned the long run to the neoclassicals. Robert Solow's 1956 essay was widely understood to have demonstrated the irrelevance of aggregate demand, even though the ‘demonstration,’ as Solow himself recognized (ibid., p. 91), is simply an assumption.
The counter-revolution, led by Milton Friedman (1968) and Edmund Phelps (1968), delivered the knock-out punch – or so it was believed. A positive relationship between employment and inflation, enshrined in the Phillips curve (Phillips 1958), was understood by Keynesians to reflect the operation of aggregate demand. The counter-revolutionaries dismissed the Phillips curve as the result of misperceptions that would necessarily disappear as agents developed more sophistication about the economy. The implication was that demand cannot matter in the long run. Indeed, Friedman and Phelps predicted that periods of high inflation would not be accompanied by higher economic activity. In the long run there is no Phillips curve, no trade-off between economic activity and price stability. In this perspective raising money wages is necessarily an exercise in futility: higher wages can mean only higher inflation, with no impact on employment and output. The classical dichotomy with a vengeance!
Some years later, Robert Lucas (1981, p. 560) claimed that experience had borne out the Friedman–Phelps predictions:
The central forecast to which their [Friedman and Phelps's] reasoning led was a conditional one, to the effect that a high-inflation decade should not have less unemployment on average than a low-inflation decade. We got the high inflation decade, and with it as clear-cut an experimental discrimination as macroeconomics is ever likely to see, and Friedman and Phelps were right. It really is as simple as that.We have a lot more data available today than Lucas had at his disposal in 1981. And the data do appear to bear out the prediction that there is no relationship between employment and inflation. Figure 1 plots the data over more than half a century. Analysing these data, economists have found, if anything, a negative relationship between real economic activity and inflation. Cross-sectional studies by Stanley Fischer (1993), Robert Barro (1996), and others have found a significant negative correlation between growth and inflation, but their results are dominated by high inflation rates, where negative supply-side effects plausibly dominate. More striking are the findings of Moshin Khan and Abdelhak Senhadji (2001), who separate poor and rich countries and find that for the rich countries the threshold above which inflation is associated with lower GDP growth is only 1–3 percent per year.
Figure 1
Employment vs inflation, 1956–2011Citation: 5, 3;10.4337/roke.2017.03.04
None of this should surprise us. Once it has been determined that demand does not matter in the long run, it makes sense to treat all observations symmetrically and look for supply-side effects.
Appearances notwithstanding, we can make sense of the data in terms of a Phillips curve along which movements reflect demand shocks but which is itself moved by supply shocks, as Robert Gordon (1984; 2013) and others have argued. Demand shocks result in the standard Phillips result, a positive relationship between employment and inflation. As we shall see, supply shocks are more complicated.
The key to finding order in the randomness of Figure 1 is to filter the data in two ways. Not only must we separate demand and supply shocks, we must also sort out wage shocks (which affect employment and wages through their effect on labor supply) from price shocks (which operate through goods supply on employment and output). This done, there were, I shall argue, two periods in which wage pressure exerted a strong influence on the positive Phillips-curve relationship: in the late 1960s and early 1970s upward pressure on wages displaced the relationship between employment and inflation upwards, and in the mid 1990s downward pressure on wages displaced the relationship downwards. This suggests that high(er) wages have historically exerted a negative influence on the economy, but, in line with the central hypothesis put forward by Bhaduri and me 25 years ago, this result is contextual. Both instances of wage pressure took place under conditions of high employment and, presumably, high investment demand – precisely the conditions under which Bhaduri and I argued that higher wages would not improve aggregate outcomes.
This leaves open the possibility that under conditions of slack, such as characterize global capitalism since the financial crisis that inaugurated the Great Recession, the impact of higher wages would be very different from 20 or 40 years ago. Higher wages would indeed stimulate the economy.
Wage increases, transfers, and the socially determined income distribution in the USA*
Lance Taylor, Armon Rezai, Rishabh Kumar, Nelson Barbosa and Laura Carvalho
Keywords: wealth distribution; income distribution; SAM
Published in print:Apr 2017
Category:Research Article
DOI:https://doi.org/10.4337/roke.2017.02.07Pages:259–275
Download PDF (202.5 KB)
This paper is based on a social accounting matrix (SAM) which incorporates the size distribution of income based on data from the BEA national accounts, the widely discussed 2012 CBO distribution study, and BLS consumer surveys. Sources and uses of incomes are disaggregated by household groups including the top 1 percent. Their importance (including saving rates) differs markedly across households. The SAM reveals two transfer flows exceeding 10 percent of GDP via fiscal (broadly progressive) and financial (regressive) channels. A third major flow over time has been a ten percentage point increase in the GDP share of the top 1 percent. A simulation model is used to illustrate how ‘feasible’ modifications to tax/transfer programs and increasing low wages cannot offset the historical redistribution toward the well-to-do.
1 INTRODUCTION
In the USA there is ongoing debate about how the positions of the ‘poor’ (say, households in the bottom one or two quintiles of the size distribution of income), the ‘rich’ (the top decile or top percentile), and the ‘middle class’ (households ‘between’ these two groups) will be affected by fiscal and other initiatives such as raising the minimum wage. Feedbacks of distributive changes into macroeconomic performance are equally of interest. This paper highlights the severe limitations to reducing income inequality in the USA. In model simulations, when they are applied at politically ‘feasible’ levels, standard policy tools such as increased taxes on high income households, higher transfers to people with low incomes, and raising wages at the bottom do not reduce rich-vs-poor inequality by very much.
The basic reason is that consistent macroeconomic accounting shows that there are three income redistribution flows on the order of 10 percent of GDP. The first two are fiscal tax/transfer payments (broadly progressive) and financial transactions (regressive). The last is an increase over 2 decades by 10 percent of GDP in the share of primary incomes appropriated (some might say expropriated) by the top 1 percent of income recipients. In a macroeconomically consistent framework incorporating the size distribution of income we show that policy interventions such as those mentioned above cannot reverse this historically large and unrequited income transfer.
For ease of presentation the household size distribution is rescaled to the national income and product accounts (NIPA). It is summarized by a metric (the ‘Palma ratio’) which, as opposed to the standard Gini coefficient, emphasizes the disparity in incomes between the ‘poor’ (say, households in the bottom one or two quintiles of the size distribution of income) and the ‘rich’ (the top decile or top percentile). The ratio has trended strongly upward over time.
To trace macroeconomic and distributive linkages through, we use a simple, static demand-driven macro model based on a social accounting matrix (SAM) which enfolds meso-level data on key distributive variables (types of income including transfers received, taxes paid, consumption, saving) for swaths of the size distribution into the NIPA system. Basically, we rescaled available data to fabricate a representation of the size distribution consistent with the NIPA from the US Bureau of Economic Analysis (the BEA accounts are themselves a fabrication). The numbers provide a broad-brush representation of the distributive situation for the period 1986–2009. For the model simulations we focused on 2008, a relatively ‘representative’ year for the economy. 1 While the distribution of income for the US economy is well known, there is less clarity on the size distribution of expenditure. As a first approximation we use less granular estimates on consumption and saving rates for most of the population. For the top decile and fractiles (top 10 percent and top 1 percent) we extend the relationship between income and saving using log-linear extrapolation. Our numbers are consistent with other estimations of the size distribution of income, such as the recent study by Alvaredo et al. (2013) and Saez and Zucman (2014). We use a Congressional Budget Office (CBO) study, itself based on administrative tax data, which captures a detailed breakdown of income across a more representative sample of households. Unlike the Survey of Consumer Finances (SCF), there is less concern in this data set regarding oversampling of wealthy households and exclusion of the Forbes 400.
We begin the presentation in Sections 2–4 with a review of the US size distribution in the context of the SAM, shedding light on how relatively large fiscal and financial transfer payments and unequal income flows fit into the macro system. In Section 5, we go on to simulation results, before concluding with a brief discussion in Section 6. Appendix 1 briefly discusses the Republican ‘Path to Prosperity’ budget proposal in the House of Representatives. Appendix 2 reports details on how we put the accounting together and sets out the specification of the model.
Download PDF (202.5 KB)
This paper is based on a social accounting matrix (SAM) which incorporates the size distribution of income based on data from the BEA national accounts, the widely discussed 2012 CBO distribution study, and BLS consumer surveys. Sources and uses of incomes are disaggregated by household groups including the top 1 percent. Their importance (including saving rates) differs markedly across households. The SAM reveals two transfer flows exceeding 10 percent of GDP via fiscal (broadly progressive) and financial (regressive) channels. A third major flow over time has been a ten percentage point increase in the GDP share of the top 1 percent. A simulation model is used to illustrate how ‘feasible’ modifications to tax/transfer programs and increasing low wages cannot offset the historical redistribution toward the well-to-do.
1 INTRODUCTION
In the USA there is ongoing debate about how the positions of the ‘poor’ (say, households in the bottom one or two quintiles of the size distribution of income), the ‘rich’ (the top decile or top percentile), and the ‘middle class’ (households ‘between’ these two groups) will be affected by fiscal and other initiatives such as raising the minimum wage. Feedbacks of distributive changes into macroeconomic performance are equally of interest. This paper highlights the severe limitations to reducing income inequality in the USA. In model simulations, when they are applied at politically ‘feasible’ levels, standard policy tools such as increased taxes on high income households, higher transfers to people with low incomes, and raising wages at the bottom do not reduce rich-vs-poor inequality by very much.
The basic reason is that consistent macroeconomic accounting shows that there are three income redistribution flows on the order of 10 percent of GDP. The first two are fiscal tax/transfer payments (broadly progressive) and financial transactions (regressive). The last is an increase over 2 decades by 10 percent of GDP in the share of primary incomes appropriated (some might say expropriated) by the top 1 percent of income recipients. In a macroeconomically consistent framework incorporating the size distribution of income we show that policy interventions such as those mentioned above cannot reverse this historically large and unrequited income transfer.
For ease of presentation the household size distribution is rescaled to the national income and product accounts (NIPA). It is summarized by a metric (the ‘Palma ratio’) which, as opposed to the standard Gini coefficient, emphasizes the disparity in incomes between the ‘poor’ (say, households in the bottom one or two quintiles of the size distribution of income) and the ‘rich’ (the top decile or top percentile). The ratio has trended strongly upward over time.
To trace macroeconomic and distributive linkages through, we use a simple, static demand-driven macro model based on a social accounting matrix (SAM) which enfolds meso-level data on key distributive variables (types of income including transfers received, taxes paid, consumption, saving) for swaths of the size distribution into the NIPA system. Basically, we rescaled available data to fabricate a representation of the size distribution consistent with the NIPA from the US Bureau of Economic Analysis (the BEA accounts are themselves a fabrication). The numbers provide a broad-brush representation of the distributive situation for the period 1986–2009. For the model simulations we focused on 2008, a relatively ‘representative’ year for the economy. 1 While the distribution of income for the US economy is well known, there is less clarity on the size distribution of expenditure. As a first approximation we use less granular estimates on consumption and saving rates for most of the population. For the top decile and fractiles (top 10 percent and top 1 percent) we extend the relationship between income and saving using log-linear extrapolation. Our numbers are consistent with other estimations of the size distribution of income, such as the recent study by Alvaredo et al. (2013) and Saez and Zucman (2014). We use a Congressional Budget Office (CBO) study, itself based on administrative tax data, which captures a detailed breakdown of income across a more representative sample of households. Unlike the Survey of Consumer Finances (SCF), there is less concern in this data set regarding oversampling of wealthy households and exclusion of the Forbes 400.
We begin the presentation in Sections 2–4 with a review of the US size distribution in the context of the SAM, shedding light on how relatively large fiscal and financial transfer payments and unequal income flows fit into the macro system. In Section 5, we go on to simulation results, before concluding with a brief discussion in Section 6. Appendix 1 briefly discusses the Republican ‘Path to Prosperity’ budget proposal in the House of Representatives. Appendix 2 reports details on how we put the accounting together and sets out the specification of the model.
