Tuesday, August 11, 2009

Supply Obviously Matters: The Case of the Seasonal Cycle

Copyright, The New York Times Company

On Friday, the Bureau of Labor Statistics released a report of yet another month of job losses. But underneath the national, seasonally adjusted totals is a seasonal employment rise that contradicts much of what’s been claimed about our labor market.

To my amazement, the laws of economics have been suspended in economic commentary during this recession, especially among advocates of active government intervention. In particular, it has been repeatedly claimed that the supply of labor — the willingness of workers to work — is completely irrelevant for determining the total amount of employment in today’s economy. All that matters, so they say, is the demand for labor, and that demand is scarce.

The New York Times quoted a labor economist at Harvard as saying: “Traditionally, many economists have been leery of prolonged unemployment benefits because they can reduce the incentive to seek work. But that should not be a concern now because jobs remain so scarce.”

Paul Krugman wrote on his blog this week how he thought it ludicrous that any part of this recession’s employment decline derived from people’s willingness (or unwillingness) to work. Economist.com agreed.

This viewpoint is empirically testable, because at least one thing proceeded as normal this recession: School let out for the summer. As usual, students are more willing and available to work during their summer break than they are during the school year.

If it were true that willingness and availability for work were irrelevant for the number of people actually employed, then we should see little or no effect of summer break on the amount of employment (as measured by the number of people who tell the government they are working). Students on summer vacation and newly minted graduates should be entering the work force in the hopes of getting a job, but since the job market is so tough (especially on young people), employment across America should not actually go up.

The government data released on Friday contradict this view.

Obviously, the 16-to-19 age group has more members in school during the academic year than does wider population of adults. Thus, a decomposition of total employment by age helps us see what happened to employment as a result of the ending of the academic year.

The chart below displays seasonally unadjusted monthly employment for those 16 to 19, and all ages 16 and over, minus the number employed in the group in May 2009. When school let out, employment surged among the school-age groups: More than a million persons 16 to 19 said they were employed in July than employed in May.

Source: Analysis of Bureau of Labor Statistics by Casey B. Mulligan

Most of the media attention since Friday has been rightly focused on the seasonally adjusted employment series, because those remove the annual seasonal cycle and are therefore the best series for understanding whether the recession might be over.

However, the seasonal employment patterns themselves are normally the outcome of supply and demand, so they are a good laboratory for detecting a sudden change in the role of supply in determining employment outcomes.

If demand were the only thing that mattered, it would still be possible for employment to surge among those of school age, if the eager students were just “taking jobs” from older people. But the chart shows that the school-age employment surge was not fully offset by an employment drop by others, because total employment also increased as school let out.

Students became available to work, and the market found work for them to do.

Some may argue that summer itself is entirely a demand phenomenon: That spending surged this summer, akin to surges in summers past, and that created new jobs.

But so far the data show no summer 2009 surge in spending, or in wages. Seasonally unadjusted retail sales and hourly wages both fell more than 1 percent between May and June 2009 (the latest month available).

Thus, the national employment rate does depend on how many people are willing and available to work, and not solely on employer demand. Employment is higher when more people are willing and available to work even in the depths of recession.

The basic economic result that both supply and demand determine market outcomes has tremendous policy relevance. It is part of the case against protectionism. It helps explain why the federal government needs to roll back some of the terrible incentives it has created, such as the marginal income tax rates in excess of 100 percent embedded in President Bush’s and President Obama’s means-tested mortgage modification programs (that is, tests that evaluate things like a family’s income, net worth and debts to determine if the family is eligible to have its mortgage modified).

To be clear, much of the unemployment rate spike and the employment collapse do not result from bad policies initiated during this recession. Demand is relevant too. For example, the housing collapse would put a lot of construction employees out of work regardless of what the government did.

But public policy has made those bad employment numbers even worse, because supply also matters, and cannot be ignored.

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