The Jobless Situation: getting better, but still quite bad.

Measured using official statistics, the job situation in the U.S. is getting better, but it's still pretty bad. This is especially true for young people and members of "minority" groups, but the problem is serious for the whole market too, where the availability of jobs is measured.

The statistics in the graph show the number of unemployed workers relative to the number of available job openings (both as measured by the Bureau of Labor Statistics). As shown by the dark black line with diamonds, the ratio of the official (U3) unemployment rate to the job vacancy rate has fallen relative to its peak at the end of the official recession in the middle of 2009. But this ratio is still high: there are more than two unemployed workers for each job that's available. This is about the same as the worst of the George W. Bush years (even before the Bush/Obama recession), when the availability of jobs was much more anemic than most people would like. This "worst" is shown by the black horizontal dashed line. The current ratio is clearly much worse than during the "good old days" of the Clinton years, when there was about one job for each unemployed worker seeking one. (That's when the BLS started collecting these data.)

Most people know that if an unemployed worker stops looking for a job, he or she stops being counted as officially "unemployed" and isn't part of the U3 unemployment rate. Luckily, the U.S. Bureau of Labor Statistics also calculates the U6 rate, which takes these folks -- including workers who quit searching for a job because the situation is so discouraging -- into account. The ratio of U6 to the number of job openings is shown by the purple line with the cross-marks. Looking at changes over time, the story is pretty much the same as for U3. One difference is that U.S. labor markets still haven't attained a low level that's comparable to the worst of he George W. Bush years (before the recession) which is shown by the horizontal purple dashed line. It's also hardly close to the ratio achieved at the end of Clinton years. Currently, using U6, there are about 5 unemployed workers for each vacancy counted (compared to 1.8 at the beginning of the graph).

The U.S. labor markets show a severe job shortage (with job openings being rarer than job seekers). This means that when the cut-off of unemployment insurance benefits to the long-term unemployed that's happening now shoves them to accept any damn job available (even if they're very overqualified), it will simply take jobs away from those with fewer qualifications. There will be little or no fall in unemployment as the desperate long-term unemployed shove those with short job tenure out of their jobs. (The "long-term unemployed" have been looking for jobs for more than one half of a year. Currently they represent about 37% of the unemployed labor force and about 2.6% of the total labor force.)

-- Jim Devine

Macro stuff from aan AD/AS dinosaur

Recently there has been a lot of attention given to the two equilibria that one gets from the interaction of a Fisher rule and a monetary policy rule in the presence of the zero bound. The typical depiction uses a diagram with the nominal interest rate on the vertical axis and inflation on the horizontal axis. I wanted to present the material to my students and thought it would go better if I translated the problem into AD-AS terms. In doing so, the issue of the comparative stability of the two equilibria - which has been debated- pops up in a somewhat new light - or so I think, but I'm probably wrong. Anyway, here's the example:

The monetary policy rule:   R = Rn + a(I - It), where R = the real interest rate, Rn is the natural rate, I is inflation and It is target inflation. The zero bound on the nominal interest rate, i,  entails the following:

i  = R + I = Rn + a(I - It) + I greater than 0 implies that I is greater than (a/(1+a)) It - Rn/(1+a)

I also have an IS relation : Y= 500 - 100*R, where Y is real output, and
                                         Y*= 800, where Y* is potential output

Now let a= 1/4, Rn = -3, and It = 4

AD ( in I, Y space) - or IS-MP, if you prefer, has the following characteristics:

At any inflation rate above 3.2 (which is where the zero bound starts to bind) AD is given by Y = 900-25*I
For inflation rates below 3.2, R = -I, so AD is Y= 500 + 100I, so it is negatively sloped above I= 3.2 and positively sloped below

AD thus looks like the nose-cone of a rocket pointing to the right, and intersects the vertical LRAS (Y=800) twice, at inflation rates of 4 and 3 on the negatively- sloped and positively-sloped segments, respectively.
When inflation is 4, the Fed sets the nominal rate at 1, giving a real rate of -3, consistent with Y at potential. When inflation is 3, the Fed sets the nominal rate at 0 (we've hit the lower bound ) and the real rate is again -3, the natural rate. (The inflation target cannot be met in this second equilibrium)


Now for stability. If we are at an inflation rate greater than 3.2, on the downward-sloping portion of AD,  with Y less than potential, all is well. Put in your (output) Phillips curves with expected inflation moving down when inflation is less than was expected and we make our way back to potential.

If we are at an inflation rate below 3.2 and to the left of potential, on the other hand, we have instability as long as the SRAS curves are flatter than the upward -sloping AD: we move further away from potential in a disinflationary spiral. If, on the other hand, the Phillips curves  are steeper than the AD curve, we may have stability, or cob-webbing or a stable orbit - depending on the details of the adaptive expectations process. If  expected I in t is actual I in t-1, for example, then we have stability in this case

Postmodern Monetary Theory: The NSA and Unconventional Monetary Policy

On August 12, damaged by the revelations emanating from the leaked NSA documents by Edward Snowden, President Obama empaneled a commission to make recommendations for reforms of US cyber-surveillance.  On December 12 this group submitted its report, “Liberty and Security in a Changing World”.

One item that has attracted a bit of attention is a proposal, lodged in Recommendation 31, that reads as follows:

We recommend that the United States should support international norms or international agreements for specific measures that will increase confidence in the security of online communications. Among those measures to be considered are:  

(1) Governments should not use surveillance to steal industry secrets to advantage their domestic industry;  

(2) Governments should not use their offensive cyber capabilities to change the amounts held in financial accounts or otherwise manipulate the financial systems.....

This last item is interesting.  No documents have yet been released that suggest that the NSA or its foreign affiliates have altered financial accounts through electronic manipulation, but the commission presumably had access to a wide range of materials without knowledge of which will be made public in the future.  It may be the case, then, that they are acting to preempt a future revelation.  Even if there has actually been no such financial intervention, however, it is clear that there could be and that it would be prudent to consider the implications of such actions.

First, what sort of financial adjustments would authorities engage in?  It is unlikely that they would debit financial accounts, since affected parties would seek redress and, if their funds are not legally impaired, they would have a strong claim.  Crediting such accounts, on the other hand, is easily accomplished.  Recipients are unlikely to protest; on the contrary, they may be allied in some fashion with security authorities, perhaps providing some type of quid pro quo.  In that case, the alteration of financial accounts becomes of a form of monetary transfer, and it is this activity that economists may want to consider more closely.

What is the difference between the NSA or some other agency paying an external party (by check, suitcases full of cash, etc.) and crediting their account by hacking it?  Here are some of the possibilities:

1. A payment by intelligence authorities, even from a black account, is an expenditure charged to the treasury.  As such, it increases the fiscal deficit (or reduces the surplus) by a corresponding amount, which in turn alters the quantity of outstanding public debt.  To monetize this debt—to inject liquidity of equal amount so that the debt does not sop up existing liquidity—the central bank can expand its holdings equivalently.  (Saying this does not presume that the private sector cannot generate such liquidity on its own, only that monetary authorities may wish to do this under circumstances in which private credit creation is viewed as insufficient.)  Normally the treasury and the central bank are independent of one another, even if they do choose to coordinate.  In the case of credit creation by the NSA, however, payment and monetization are accomplished in the same act.  It is as if the central bank became the paymaster.  This is efficient if liquidity expansion is indeed the goal, but calls for some form of sterilization otherwise.  (Here the debiting of other accounts would be the simplest route if it could be accomplished.)

2. NSA payment through “direct deposit” is not a public expenditure and has no effect on public sector accounting.  Nevertheless it does affect national income accounts in the same way that traditional payments do: if it is payment for a counterflow of goods or services it should be incorporated into final demand, while if it is a transfer payment it alters the net tax calculation.  What is troublesome is the violation of double-entry accounting, since we now have flows into the accounts of some parties without flows out of the accounts of others.  It should be noted, however, that the application of double-entry bookkeeping to the issuance of currency is essentially pro forma, and that, in a fiat currency world, central banks do not take on any meaningful liabilities in this process.  Perhaps a fictitious liability can be designed for the NSA in order to enable the accounts to balance.

3. In the traditional practice of open market operations, central banks directly intervened only in the market for short term treasury debt.  Quantitative easing has changed this: now monetary authorities can select particular credit markets, public or private, to intervene in so as to alter the structure of interest rates.  NSA liquidity injections offer even more precise targeting at the level of individual market actors.  It is not difficult to imagine how this practice could be defended as the least-cost method of achieving narrowly defined goals in support of financial markets.  Of course, in a more roundabout manner, similar actor-targeted transfers were enacted globally in the post-2008 bailouts on a very large scale.

4. One striking feature of NSA financial capability is that it, like the virtual system it intervenes in, is borderless.  Thus, an agency of the US government can increase the stock of euros, yen, pounds, renminbi or any other currency as readily as it can inject US dollars.  It is easy to see how such a capability could be abused, and I can imagine that there may have been quiet discussions among the relevant authorities over this concern.  At the same time, however, this global capacity opens up a new chapter in international monetary policy coordination.  If, for instance, expansionary monetary policy in the US is inhibited by an unwillingness of the ECB to follow suit, explicit agreement can be circumvented.

5. The ability to intervene in any currency should also have a profound impact on the future likelihood of international monetary crises.  If there is a run on a country’s currency, that country can cause foreign exchange of any denomination to simply materialize.  Moreover, it no longer matters whether borrowing is undertaken in home or external currencies, since the borrower now has sovereign power over both.  For countries with the capacity to engage in NSA-type activities, the distinction between soft and hard currencies may be a thing of the past.

This is just a first pass at what ought to be a deeper investigation.  In the long history of money and credit, what is the significance of a public authority that can unilaterally alter the financial accounts of any market participant anywhere in the world it chooses?

Losing It Over Obamacare

I know, I know.  That every GOP hack who wants to stay on Fox News and so on must relentlessly spout idiotic drivel about the old Heritage Foundation plan cooked up by Stuart Butler back in 1989 and supported by many Republicans, even being adopted successfully in MA by one Mitt Romney as governor, although all shifting into massive opposition when Obama came out for it in an effort to gain GOP support (hah!).  So, I should not waste my or anybody else's time pointing out the specific lies and stupidities emitted by any such "pundit."

However, I cannot resist in the case of Charles Krauthammer in the Washington Post of Dec. 20, 2013.  Yes, he is an old GOP Fox hack neocon, but partly due to the latter he occasionally shows signs of intelligence on domestic economic policies, even as on foreign policy he is AIPAC squared.  So, in his WaPo column he really shows the pathetic state of those trying to block the implementation of Obamacare (OK OK, "ACA").  It may be that I am using him to complain about a syndrome so entrenched that we do not even pay it any more mind. But the basis of its ongoing constant diatribes on this matter are becoming increasingly inane and absurd.  So, I shall pick this particular column apart.

He starts out with the legit complaint that Obama's claim that nobody would lose their insurance under Obamacare is the "lie of the year," but then goes off the deep end immediately afterwards with declaring that nobody knew "just how radical Obamacare is."  While it promised free mammograms (shocking!) and all kinds of things, it is in reality just a "full-scale federal takeover."  Really?  In fact, for all its supposed radicablism, after it the US will remain the only OECD nation not providing health care to all its citizens and also the only one besides Mexico with a system that is majority private sector, with the insurance companies making lots of money out of it, even as Krauthammer somehow thinks that they are going to be in deep doo doo that they deserve because they "colllaborated with the White House in concocting this scheme and now are being swallowed by it."  Yes, the evil federal government made them wait a whole month to start collecting premia from those who are not clear about their status with them in the new system, but this is not exactly the end of their profitability, and last time I checked they are mostly doing pretty well in terms of their stock valuations, shame on them!

The list of other false issues he repeats is long.  So, the exchanges must get young healthy people to sign up or it is doomed according to him, whereas all it needs is healthy people with not much gain from getting especially young ones.  Many millions will be dumped from their old plans and forced to get ones costing much more than those, whereas it looks like most who are losing their old insurance will get plans that are either better or cost less or both (not necessarily everybody).  Employers will be able to cancel their old plans, but gee, Charles, they have that right right now.  People will lose their doctors and their drug coverage, although so far the number of such cases looks pretty small.  And, oh dear, the HHS Secretary has the power to break the law to loosen some of the requirements to ease the transition!

Needless to say he has not a word to say about any of the good things that are arriving with the plan.  These include the ending of people being turned down for preexisting conditions, perhaps its greatest virtue, the allowing parents to have their children covered until they are 27, and that many people are getting insurance who never had it, even if the SCOTUS ruling has allowed states to reject the Medicaid expansion portion of the act, which may be its greatest benefit overall.

In the end we may have the situation politically that was there when the act was passed so long ago: people like the specific provisions of the law when they are asked about them, but are more negative than positive when asked about what they think of "Obamacare."  Krauthammer joins the ongoing nonstop tirade in certain circles against it, apparently the main GOP theme for next fall's election campaign.  But, while there will doubtless be another round of people being dumped from their plans after New Year's who can show up on Fox for at least another month to complain, some of them legitimately even, the evidence of new outrages is going to get very thin not too long after that, and those ranting like Krauthammer will find themselves having to struggle ever harder and more tendentiously to provide any sort of credible critique of the new program, even if many of us know that the alternative (single payer) it was originally cooked up to hold off would probably be better.

Barkley Rosser

John Cochrane on the 1982 Fiscal Restraint ???

Has John Cochrane fallen off the cliff again with:

What if we got the sign wrong on monetary policy?

He is motivated by post from Stephen Williamson on Phillips curves and monetary policy that starts off sensibly enough. Even this die hard believer that Keynes had a point is willing to concede that Milton Friedman got a lot of things right. Williamson is even willing to note this:

If we think there is an episode where monetary factors were important, then we should see the Phillips curve over that period, as monetary shocks tend to move inflation and the unemployment rate in opposite directions in the short run. So, consider the period of time between fourth quarter 1980 and third quarter 1982, when Paul Volcker was using monetary policy to bring the rate of inflation down.

Williamson later notes what Irving Fisher taught us about the effect on nominal interest rates in the long-run:

So, over the long run, there's a clear positive correlation between the nominal fed funds rate and the pce inflation rate. Irving Fisher taught us that, in credit markets, borrowers and lenders care about real rates of return. Thus, there should be an inflation premium built into the observed nominal interest rate - if the inflation rate is higher, the nominal interest rate should be higher. This just compensates lenders for the decline in purchasing power they experience between the time a loan is extended and when it is paid back. Indeed, some mainstream models, including New Keynesian models (which are basically neoclassical growth models with sticky prices and wages) have the feature that the long-run real interest rate is a constant, determined by the subjective rate of time preference of the people who live in the model.

All of this seems fine until Williamson starts musing over this:

So, suppose I am Paul Volcker, and I'm faced with a situation at point A where the inflation rate is high and the nominal interest rate is high. The curve SRLE1 is the short-run tradeoff I face. I can reduce inflation in the short run by increasing the nominal interest rate, thus moving to B. But that won't work to reduce inflation in the long run, so after increasing the nominal interest rate, I have to begin reducing it.

At this point one might be best advised to stop reading as we old timers would cut in and say that the prolonged large out gap during the 1980’s was what was responsible for the dramatic reductions in inflation, which sort of became a semi-permanent feature of the US economy. But silly me had to read Cochrane’s take on this which included:

To be sure, I left the grand Volcker stabilization out of the picture here, where a sharp spike in interest rates preceded the sudden end of inflation. And to be sure, there is a standard story to explain negative causation with positive correlation. But there are other stories too -- the US embarked on a joint fiscal-monetary stabilization in 1982, then under the shadow of an implicit inflation target gradually lowered inflation and interest rates.

Did Cochrane and I live on different planets some 30 plus years ago? My recollection was that Reagan’s fiscal policy was quite stimulative working contrary to Voclker’s tight monetary policy. Which is why real interest rates during the 1980’s shot up dramatically and stayed high even as inflation and nominal interest rates fell. Yea – there are “other stories too”. Stories that don’t fit the reality of the period.

Bullard Leads The Fed

Janet Yellen may be about to replace Ben Bernanke as Fed Chair, but the decisionmaker there who seems to be calling what will be happening in the future is St. Louis Fed President, Jim Bullard.  After the initial foray to talk about tapering in May, he dissented at the June meeting on the dovish side, despite being prez of one of the traditionallhy most monetarist Feds.  He argued that they needed more data supporting an end to the taper to go for it, particularly on the inflation side. In September the FOMC surprised the markets by essentially following Bullard's advice, pulling back from a taper and declaring that more data was needed to support a taper.

Now he has done it again.  At the meeting concluded yesterday, the Fed announced a "tiny taper," cutting securities purchases from $85 billion per month to $75 billion per month.  Who was the first to publicly call for such a move?  Yep, Jim Bullard, on December 9 in a public statement, indeed, using the term "tiny taper" for what he thought they should do, and now they have done it.

So, things may change with the leadership transition, but anybody wanting to watch what the Fed is likely to do in the near future is advised to keep an eye on the public statements by Bullard.

Barkley Rosser

Taxes And Income Distribution: The Way It Was And The Way It Is

Got invited on to the local TV station today to discuss income distribution thanks to the recent statements about the matter by President Obama and Pope Francis, only to upset the local anchorman by telling him things he had not known previously, such as the shocking fact that someone making $115,000 per year pays the same in fica/Social Security taxes as someone making $115 million per year, although, well, that must be just fine because "that is the way it has always been, right?"  As it was I advocated raising the income cap on fica and taxing capital gains as income, just as was put into place back in 1986 under Ronald Reagan.  In the very conservative Shenandoah Valley this is how one must pose such radical proposals.

But, it got me to thinking about what I should have said, particularly if I had more time, which one rarely has on TV, especially local TV.  So, when the anchorman, who really is reasonably smart and well-intentioned, asked me if it had always been this way, that people above a certain income level (really, wage and salary level) pay no more in fica taxes than those at that level, I should have reminded him of how things used to be.  Yes, that is the way it has always been, but in other areas of the tax code, things have changed so as to really help out those at the top end of the income hierarchy, even if they have not been made to pay their fair share for our rising Social Security expenditures (and I noted that if one raised the income cap and was revenue neutral, one could cut the overall rate, thus lowering taxes for the bottom 96% of the income distribution, sort of like how closing loopholes back in 1986, such as the special break for capital gains, allowed a general cut in income tax rates for Mr. Reagan).

In particular I should have mentioned that from 1940 to 1965 we had a top marginal federal income tax rate that exceeded 90% in the U.S., which has since been drastically lowered.  Since 1986 that rate has not exceeded 40%, but somehow the economy grew more rapidly and produced more jobs during that earlier period than it has since that top rate was so sharply reduced.  In discussing the reintroduction of the special treatment of capital gains income under Bush, Jr., I noted that it was supposedly justified by the top 1/10 of 1% of the income distribution, who have gotten something like a third of the income increases since 2009, being those who would provide jobs for the rest of our society.  I asked perhaps a bit too sarcastically, "Where are those jobs?  They sure are not doing a good job of providing them," which brought a vigorous nod and chuckle from the crusty weatherman who was standing nearby.  Uh oh, now I am in deep doo doo, with a storm brewing.

What really strikes me is how successfully this very upper sliver has been able so to cow the media that one never hears these sorts of facts discussed.  We hear repeatedly about how "47% do not pay federal income taxes," but nobody talks about how fica taxes simply do not increase at all above a certain cutoff.  Occasionally someone will mention the special treatment of capital gains, but this is quickly dismissed because of the need to keep those "job creators" happy.  It is a hard fact that the group that pays the highest percentage of their income in taxes overall is actually around the 96-98 percentile, with that percentage falling steadily and firmly as income rises above that, because of the limit on fica taxes and the higher percentage of income earned as capital gains and also the regressive nature of sales taxes, the largest source of revenue for state governments nationwide, another point almost never discussed, except for in GOP states where they want to shift more to those sales taxes and away from income taxes so that those job creators will get helped more.

My bottom line was to say that I did not support "confiscatory taxation of the rich," but that I simply wanted to see them pay some of the same rates that others pay.  That seems fair, doesn't it?  But this is shocking, shocking, in today's environment.

Barkley Rosser

Robert Samuelson Whines About Muddling Through

Oh, I cannot resist piling on, even though good old Dean Baker has already pretty much done the dirty job of once again showing how misguided and fixated on silly things Robert J. Samuelson is with his latest column in the Washington Post, 12/16/13, "The luxury of muddling through," although my effort to link to Dean's excellent post does not seem to be working.  In any case, the abysmal RJS complains that the latest budget deal is just "muddling through" and does not deal with "the central issue" of longer term deficits, which he sees as mostly a matter of not cutting retiree benefits, although he does note that Republicans do not wish to raise taxes, which he seems to accept as an unbudgeable given.  He does not note that this new budget cuts unemployment insurance and food stamps (SNAP), even as he whines about this muddling through. While this budget clearly "sucks," as Nancy Pelosi put it, at least it does mean that we are not likely to have a government shutdown or debt ceiling crisis for the next two years (although debt ceiling crisis is not completely off the table).

Dean accurately points out that RJS makes no allowance for the collapse in revenues due to the Great Recession and how our failure to get back to where we were is the main reason for the deficit.  He also  notes that for all RJS's whining about Medicare costs, he does not even mention once that the cost curve on medical care costs has been bent.  In all this RJS continues to follow the line of WaPo editorial page editor, Fred Hiatt, that cutting Social Security and Medicare is this very high priority that must be done ASAP, a line that many other WaPo columnists who are nominally liberal  Dems such as Ruth Marcus also spout.  Dean also argues that if SS and Medicare really were to get into serious trouble in the future, voters would probably support tax increases to support these popular programs.  Polls show even Republicans supporting such tax increases for these programs.

Let me just add a few more points to this drubbing that Dean missed.  One is that in fact the deficit has come down substantially over the last few years.  It is simply not in any dangerous state that would lead to the sort of crisis that RJS suggests in the column may be coming if muddling through is all that happens.  Furthermore, as Dean has noted in the past, but did not this time, the real measure of the burden of the debt is the interest payments on it measured as a percent of GDP.  That percentage is now only half of what it was 20 years ago.  We are simply nowhere near any sort of crisis point on all this.

What continues to be annoying about RJS, besides his fixation on wanting to cut these programs, is how ignorant he is of economics, although somehow he has been given this position of being the main regular economics columnist of WaPo.  This is best seen in the horror that he expresses in this column that the likely outcome of this budget is that "the current [upward] trajectory of the debt would not change."  Really.  Somehow he seems unaware that in the vast majority of years in US history we have run federal budget deficits, which means that the debt has risen in most years without any fiscal catastrophe ever happening.

Since WW II, there have been only a handful of years when the budget has run a surplus, most recently at the end of the 1990s, with that reflecting both rapid GDP growth and the tax increase Clinton put through in 1993, unsupported by even one Republican who loudly forecast imminent recession whereas instead we had rapid GDP growth, which brought us those surpluses, just as our current low GDP and growth is the main source of our current deficit.  There is simply no reason to aim at budget surpluses as a policy goal.  Again, it is the ratio of the debt to GDP that matters, and more importantly the ratio of the interest payments to the GDP that matter even more, and those are very far from what they were even quite recently when they did not trigger any sort of crisis.   Robert J. Samuelson's whining is simply completely out of touch with reality, but at least he is unlikely to lose his job at WaPo as long as the current editorial page editor continues to have his.

Barkley Rosser

Persistently High Long-Term Unemployment Rates.

In case you were wondering about how bad the U.S. job situation is, here's estimates of the unemployment rate for those who have been jobless (but still seeking jobs) for more than a half of a year, as a percentage of the total civilian labor force. The labor force is the total number of workers who are willing and able to work, as indicated by their either having jobs or actively seeking them. Even though the numbers are down in recent years compared to at the end of the "Great Recession," they are still much higher than during previous recessions in the U.S. (indicated by the vertical gray lines). -- Jim Devine

Website for Nonlinear Economic Dynamics Society (NEDS)

I want to announce that the Nonlinear Economic Dynamics Society (NEDS) that I founded some years ago now has a website at NEDS, folks.

Barkley Rosser

Being an Economist Means Not Having to Have Any Actual Knowledge of What You’re Talking About, Exhibit 37: Occupational Safety and Health

Robert Frank’s column in this morning’s New York Times is about the economics of occupational safety and health, or more precisely, about Robert Frank’s one obsession with economic theory, invidious comparisons of well-being.  Frank has gone totally hedgehog over the tendency to evaluate one’s condition in relation to others; it has been the subject of virtually all of his writing for the past decade or so.  To better highlight this one wrinkle, he has embraced the most orthodox of orthodoxies in every other respect, which means that his treatment of policy topics has become little more than an exercise in deduction from axiomatic principles.

To see what I mean, take a look at this latest piece on “the price of danger”.  Here is his summary of the issue as seen through the lens of economic theory:

Consider the familiar trade-off between wages and workplace safety. Because safety devices are expensive, additional safety means lower wages. Reducing risk to zero is impossible, so the practical question must always be this: How much safety is enough? Since Adam Smith’s day, classical economic theory has held that well-informed workers in competitive markets will navigate this trade-off sensibly. They will accept additional risk in return for higher pay only if the satisfaction resulting from their additional buying power is greater than the corresponding loss in satisfaction from reduced safety. Regulations that mandate higher safety levels make workers worse off by forcing them to buy safety they value at less than its cost.

Of course, as Frank notes, workers have clamored for safety regulation, and some degree of standard-setting and monitoring is universal in industrialized countries.  Hence the theory must be wrong.  Why?  The answer is—surprise!—the tendency to evaluate our well-being in relation to others.  Income is a rat race, so trading off risk against income makes workers worse off.  And that’s it—end of story.

Does it matter that every single point that Frank raises is contradicted by the evidence?  He apparently doesn’t care, since evidence doesn’t get any space.  Having a clever idea is enough.  If Frank were the only economist with this frame of mind, we could safely ignore him; alas, he has a lot of company.  Pick up any economics textbook and you will find sweeping judgments about all sorts of issues of law and policy based entirely on deductive theory, without any consideration of the history of the topic or factual details that people on the ground have regarded as important.  (Exhibit 1 would have to be rent control.)

So let’s make a list of some of the things that people who study occupational safety and health know and Frank omits from his analysis:

1. Safety is expensive, but so are accidents.  There is an enormous literature that documents that firms frequently fail to take measures on their own initiative to prevent accidents even though they would pass a cost-benefit test.  Not all such measures would pass, but many would.

2. Adam Smith’s theory of compensating wage differentials was highly disputed during the nineteenth and twentieth centuries.  John Stuart Mill believed that, in times of involuntary unemployment, higher risk would be accompanied by lower wages—the sweatshop effect.  The institutional economists identified with legal realism in the early twentieth century agreed.  True, there was a period of theoretical monoculture in economics during the 1970s to 1990s in which compensating differentials became the hegemonic view, but that perspective declined with changes in labor market analysis post-1990 or so.  Take a look, for instance at Labor Economics, the graduate textbook by Cahuc and Zylbergerg; their skepticism toward the model that Frank identifies with “economic theory” is palpable.

3. Frank simply assumes that wage bargains are not affected by the prior allocation of rights—that it makes no difference whether workers have no right to safe jobs and must give up wage demands to get them, or whether they do have this right and have to be bribed with hazard pay to accept greater risk.  Of course, in the real world willingness to pay and to accept are vastly different, and workers understandably want all sorts of mandated job rights, beginning with health and safety.  To be effective, such rights have to be codified and enforced.  I have not made up this point; you can find it in legal reasoning during the period at the turn of the twentieth century when courts began to find in favor of injured workers.  (My source for this was Atiyah’s Rise and Fall of Freedom of Contract.)

4. Wage compensation for risk will be incomplete if the threat of dismissal is used to control worker effort, the so-called efficiency wage approach to wage-setting.

5. The literature on the behavioral aspects of risk perception and response is a thick stew.  Workers tend to respond asymmetrically to safety norms, as suggested by prospect theory.  They often retreat into denial of unpleasant truths about the risks they face, as suggested by cognitive dissonance theory.  Workers are human beings, not cost-benefit machines.

6. The empirical record for compensating wage differentials, despite what its proponents (like Kip Viscusi) claim, is mixed at best.  Positive coefficients on occupational risk in wage-risk regressions depend on the choice of control variables; they show up in some subsamples, such as unionized workers, and not others.  They are different for white workers compared to black, men compared to women, and these differences fluctuate from one sample to the next.

But why get bogged down in all this detail, specific to the economics of occupational risks, when the point is to show how you can solve the world’s problems with a single, all-purpose axiomatic model?