Larry Summers flunks Ec 10

Preferring shorter workweeks to layoffs is first-term microeconomics; it’s implied by the diminishing marginal utility of income. Why isn’t that obvious to Larry Summers?



Larry Summers, on why the Administration hasn’t gone for the kind of “job-sharing” programs (encouraging companies to shorten workweeks rather than laying off employees) that have kept German unemployment down during the Great Recession:

The primary objective of our policy is having more work done, more product produced and more people earning more income. It may be desirable to have a given amount of work shared among more people. But that’s not as desirable as expanding the total amount of work.

May be desirable”?

Whiskey.  Tango.  Foxtrot.

The principle of diminishing marginal utility makes it obvious that if there are twenty workers and only work enough to support nineteen of them, it’s better to have each of them work 5% fewer hours for 5% less money than to lay one of them off.  Just do the thought experiment:  if you were one of the twenty, with no better or worse a chance than anyone else of being the one selected for the layoff, which policy would you prefer?   Most obviously, a 5% pay cut is very unlikely o make you lose your house, but a year of unemployment could easily do so.

Indeed, lots of people would probably be better off with 5% less income and 5% fewer working hours, as long as the people they socialize with were taking similar income hits so that their relative income level didn’t change much.

And that’s before you get to all the impacts of unemployment other than losing current income:  losing health insurance, taking a possibly permanent hit to your human capital, risks of substance abuse, mental illness, physical illness due to stress, family breakdown, loss of status.

So the phrase “may be desirable” could only be spoken by someone who  ha not only lacks empathy and common sense but has also gotten so lost in the arcana of macroeconomics as to have forgotten first-semester microeconomic principles.

No doubt Summers has his value, but if I were Barack Obama and I read that sentence I’d want to spend more time with my other economic advisers.

Current real GDP per capita will be higher than GDP per capita at the beginning of 2007.  We weren’t in crisis then.  The crisis isn’t a one-year slippage in national income; the crisis is that people are out of work.

No doubt the President’s political advisers understand this.  But I hope he’s not deluded into thinking that there’s a choice between good  politics and sound economic analysis.

There’s only a choice between good politics and bad economic analysis.

Author: Mark Kleiman

Professor of Public Policy at the NYU Marron Institute for Urban Management and editor of the Journal of Drug Policy Analysis. Teaches about the methods of policy analysis about drug abuse control and crime control policy, working out the implications of two principles: that swift and certain sanctions don't have to be severe to be effective, and that well-designed threats usually don't have to be carried out. Books: Drugs and Drug Policy: What Everyone Needs to Know (with Jonathan Caulkins and Angela Hawken) When Brute Force Fails: How to Have Less Crime and Less Punishment (Princeton, 2009; named one of the "books of the year" by The Economist Against Excess: Drug Policy for Results (Basic, 1993) Marijuana: Costs of Abuse, Costs of Control (Greenwood, 1989) UCLA Homepage Curriculum Vitae Contact:

25 thoughts on “Larry Summers flunks Ec 10”

  1. I agree with the characterization of Mr Summers' response. But is there anything the government could actually DO to make job-sharing happen, once it decides that job-sharing is a good idea, or is the best policy just to talk it up? What measures might it take? Are there federal unemployment benefits that could be tailored to the situation? It's really a matter of pressure on employers, though perhaps collective agreements may have to be looked at as well. Does one need a far-reaching bill from Congress, and what are the chances of that happening? How do you put a time-limit on the sharing, if you do?

  2. I think the counter-argument to this would be that you're more likely to have 20 workers with a range of skills and motivation than 20 workers who are interchangeable. If you can pick the worst worker and lay him or her off, productivity will drop less than if you cut everyone's time (including the most productive workers) by 5%. This assumes that workers vary in productivity, and that it's easy to tell which ones are the best.

  3. In terms of diminishing marginal utility, while the one person who is laid off will miss his or her income less than the whole would miss their 5%, if the company loses overall productivity by keeping the weakest link, it will be less profitable, and more likely to need to impose another 5% cut. If you allow worker skills to vary, the calculation gets a lot less simple.

  4. There is no evidence that people (at least Americans) would prefer this, even if it were rational. The difficulty of this type of collective action problem should is easily demonstrable by the auto manufacturers. It was quite obvious that worker compensation or number of workers or both needed to come down for many years, but they could never do it. You didn't see the UAW arguing that they should reduce the pay of current workers to keep more of them employed. Instead, their preferred course has been to keep some with legacy high compensation packages, eliminate others, and only hire new workers at reduced rates. Even here, where there is an explicit mechanism for the workers to act collectively and enforce bargains with their employers, you don't see the old guys agreeing to spread it around – even among themselves – very much.

    I don't think the unemployment problem is characterized by 5% decreases in demand across the board. The problem is that the economy got greatly unbalanced — there were altogether too many people building casinos in Las Vegas, cooking up bogus mortgages, making cars that people were buying on credit, etc. These activities hit the wall, and I don't think building only 95% as many casinos until employment rebounds is a likely scenario for economic recovery.

    Unfortunately, your suggestion that there is an easy answer is wrong. Hard working people get caught up malinvestment activities and will suffer, when, as here, the market corrects. They will have no choice but to find new jobs in new industries.

    Even if one firm could theoretically cut its wages to save jobs, can't another firm recruit the best employees away by offering full rates?

    What your example points to, however, is the importance of savings. There is no economic difference between accepting a 5% pay cut and saving 5% of income (ignoring taxes for these purposes). I well understand the difficulties in being disciplined enough to save for a rainy day (or the months that many will be unemployed) but if there's a silver lining to the current difficulties, the reemphasis on saving over consuming is welcome.

    I would have predicted that many of the unemployed might be eventually absorbed by the health care industry, which been employing more and more people. But, as I understand it, after Health Care Reform passes, our country will be spending less money on health care. So, I presume there will be massive dislocations of employees or massive pay cuts in this sector in the coming years, too.

  5. "…as I understand it, after Health Care Reform passes, our country will be spending less money on health care. So, I presume there will be massive dislocations of employees or massive pay cuts in this sector in the coming years, too."

    The country will be spending less on health care due to decrease in fraud, hospital/physician error, and third party(insurer)profit maximization. The customer base will be expanded requiring increased numbers of health care providers, workers, suppliers, facilities, medical equipment providers, support services, etc.

  6. Auntie —

    What do you mean concretely by each of those categories (fraud, error, profits)? If there's that much fraud, then they ought to do away with it regardless of whether health care reform passes. And, I would like to know how insurance companies are able to make profits in the face of such massive fraud? I assume insurance companies are going to still be making profits after the passage of the bill, as President Obama says you'll be able to keep your coverage. How much are they going to go down?

    Let's assume that 10-20% of medical spending is unnecessary or the result of outright mistake and is completely eliminated by the reforms (somehow the government is going to be more aggressive at squeezing this out than the rapacious, profit maximizing insurance companies). If the number of blood tests goes down by 10%, aren't there going to be fewer people working in the places that do the tests? If that happens, its probably a good thing, as we're economically better off with a person who stays healthy and avoids diabetes, which frees up another person to do something other than treat diabetes.

    I've heard it argued that preventative care will help reduce long-term costs. I rather doubt it, but if we catch more people earlier for diabetes and prevent it that's fewer people working in diabetes treatment.

    Now, I don't agree that this is going to happen — we will surely be spending more and more on health care even after any reforms. Does anyone really believe that the United States will spend less on health care?

  7. My first reaction was how does a professor at UCLA know it's called Ec 10 (by the way the official name has been social analysis 10 for decades now).

    My second is that Professor Kleiman needs a refresher course in English as it is actually spoken.

    It may be that the Queen of England is using the subjunctive when she says "may." It may also be that she uses the subjunctive in cases where the indicative would be incorrect, since the indicative implies the absense of doubt. It may even be that Summers knows about these rules of prescriptive grammer.

    However, he was clearly saying "I concede for the sake of argument that it *is* desirable to have a given amount of work shared among more people. " by which he means "I concede that it is desirable to have a given amount of work shared among more people." (believe me the guy doesn't concede for the sake of argument).

    The use of the subjunctive for reluctant concessions of obvious truths is standard. Or in any case the use of the phrase "may be" sure is.

    You may have notice that I don't have a clue about English grammer. I never studied the subject. I am translating back from Italian (congiuntivo, dubitivo …).

  8. Unlike the poster, Larry Summers remembered Okun's Law or "rule of thumb," which Stiglitz characterizes as a "remarkable finding, for it seemed to run counter to one of the basic principles of economics, the law of diminishing returns…." Okun's Law lead to the an understanding that in a downturn employers engage in "labor hoarding" as a matter of course because it makes economic sense to keep more employees than are needed in a downturn because of the costs in training new employees when things turn around.

  9. Horsie,

    Claims of medicare and insurance (beneficiary) fraud have been leveled at patients, hospitals, and physicians for years. There are numerous agencies and industry departments in existence for the sole purpose of processing claims of fraud. I am aware that there are folks who commit fraud against insurers (false or exaggerated claims),the medical community (underpayment by insurers or cash-paying patients), as well as entities in those communities who perpetrate fraud against patients; e.g. see Ian's Law, nursing home abuse and fraud, doctors/surgeons operating without licenses, and so forth. As you know premiums keep rising to cover all costs of business. Profits were never in danger.

    With the approx. increase of 40 million premium paying customers (subsidized or not), there no doubt in my mind that the industry will continue to profit, but that's their private business. HR3962 includes a stipulation that insurer profit is to be capped at 15% with all other profit to be reinvested in extension and delivery of services. There is great protection of private industry privilege in this country. Had Congress wished to explore highest efficiency and effectiveness, it most likely would have debatedd Single Payer. The insurance industry is a third party payment system- not a health service industy. Personally I am as concerned about their profits as they are by the number of people to whom they've denied or stopped coverage, and the medical bankruptcies for which they are responsible in this country.

    With an ever-increasing population I cannot see how there could be health care job losses. With the focus that the Democrats placed on increasing quality in health care, I hope to see an end to the days of 10+ patients per nurse. Facility improvements, greater support staff, and hopefully a merging of cross-discipline health care, I would expect to see a vast increase in the fields of health and health-related jobs. The fact that funding for training is included in the bill speaks to this intent.

    I am completely ambivalent about preventive care. Between environmental toxins and genetics, I don't know how much value we'll see from this. It may be highly educational for us. I suspect that aspect will take longer to become an accepted practice in our culture, but I do think people will seek help earlier when ill thus decreasing demands for expensive critical care. For how many office visits will one trip to the emergency room pay? Those who have been using the ER for primary care will have a far less expensive and easily available option should Congress succeed in delivering. And for those of us who eschew interactions with doctors unless bleeding, broken, or suspicious of a problem, well, at least we won't have to stress on money issues when we're injured, fired, or diagnosed with something despicable. That's a good thing.

    Finally, it's only money. We have trillions for war, but nothing for our people's health? I think we Americans need to take a good long look at our national priorities and quality of life issues. Health care (preferably universal) is a basic component of the "general welfare" which we promise ourselves in our founding documents.

  10. I second Elliott's remarks above.

    In addition, I can think of another way in which firing 5% of workers may be better than cutting wages 5%. If a company is facing serious financial difficulties, then demand for its products or services 9and thus the labor to produce them) is likely down as well. If the company with 20 employees lays off 1 worker, then that worker could in theory find a new job in a sector where demand has not fallen as rapidly. Thus the 19 remaining workers are fully and productively employed, and the unlucky 20th is also, after a period of unemployment, also fully and productively employed.

    But if the company simplys cuts hours and pay for all 20 workers by 5%, then none of the workers is likely to shift their suddenly freed up productive capital to new uses. After all, a 5% cut in hours is about 2 hours a week. Hardly enough to get a part-time job. So less work overall gets done.

  11. Even allowing for the vagaries of idiomatic usage, Summers' comment is a mess. It's undeniably the case that the Administration does currently act on objectives other than its primary one of increasing aggregate output, income, & employment. The fact, for example, that extended employment benefits aren't as desirable as full employment doesn't mean that the Administration doesn't, or shouldn't, support them. I've heard Summers advocate vigorously for secondary objectives in other contexts. So we're left w/o any sense of the real reasons behind his position.

    Kleiman's point doesn’t rest on the assumption, which I agree would be mistaken, that reductions in aggregate demand, output, & employment are equally distributed across the board. Whether or not, say, casino construction declines by 10x the aggregate average, there still is the separate problem of how, for a given change in a firm's or industry's output, the adjustment is to be distributed across workers w/in the firm or industry. Work-sharing schemes can be successfully implemented; they don't rest on some sort of basic conceptual confusion.

    Still, I'm not sure work sharing is a political winner in the US, for the simple reason that our political system doesn't generally select welfare-maximizing outcomes. If any (or some low threshold of) reduction of income – esp. when it's attributable to someone's intentional political decision – turns workers against incumbents, then it will be politically preferred to concentrate the misery among as few hapless souls as possible. This is traditionally accompanied by pious head-shaking about the ineluctable unfairness of life. It's neither inevitable, rational nor desirable that we should act this way, but I'm afraid maybe we do.

  12. How about the repeal of the Davis-Bacon act until unemployment goes back down below 7%? Why is salary-cutting only preferable to incumbents?

    By the way Prof. Kleiman, isn't the trade-off that you see as preferable in this context — lower wages for more employment – something analogous to that that workers who refuse to unionize adhere to? I saw Nelson Lichtenstein on C-SPAN a few days ago, and I believe that this is the Wal-Mart employment model — hire more people at comparatively lower wages than the often unionized supermarkets. I believe that this is the reason he cited for Wal-Mart's failure in Germany, which is something of the opposite type of labor market. There, you get Aldi — no "greeters", no bags, few jobs.

    Isn't this the tradeoff that unionization makes? Fewer, but better paying jobs? Or has the law of supply and demand been repealed? Why do you hate unions and love Wal-Mart?


    I think you give the game away — you know as well as I do that we'll be spending more money. You say we should rethink our priorities, I assume you're saying we should divert spending away from war and toward health. That's off-message — President Obama says we need make no such tradeoffs — we'll save money in the long run. The explicit basis of the President's argument is that we'll have more money for wars (or agricultural subsidies or Goldman Sachs bailouts) if we enact health care — maybe they'll put the F-22 back in with the money they save on health care.

    By the way, I've never understood why medical bankruptcy is supposed to be such a horror. (You can consult Todd Zywicki as to why bankruptcy filers often have unpaid medical bills – it is a rational choice). If you've got no significant assets and low income to start with, what the hell is the big deal? And if you do, why don't you have medical insurance? And if there are people whose catastrophic medical conditions go through their insurance, why is the bankruptcy system not an efficient way to deal with this problem?

    At any rate, I don't hear Democrats saying that catastrophic health events are the big problem they're trying to address. If it were, why not simply have a targeted program for catastrophic events?

  13. There seems to be some confusion between wage income & the wage-rate. The former = the latter × hours worked, w/ which job sharing is directly concerned.

  14. Mark,

    I am a huge fan. Over the years, I have developed a lot of trust in your judgments and opinions, but I agree with Mr. Waldmann that "may" signifies different things depending on context. In this case, "may" doesn't serve to indicate Summers's uncertainty in the proposition, but is merely the beginning of the split conjunctive "may…but", which operates to concede the proposition following "may".

    Also, while I love your passion and willingness to not suffer fools, I think you might want to consider applying the Principle of charity more often and the Principle snark a little less.

  15. In response to Robert Waldmann and nattybumpo:

    Assuming for the purposes of argument that Summers meant "job-sharing is valuable but GDP growth is more valuable," then his answer wasn't really responsive to the question. The question wasn't "Why aren't you giving up on fiscal stimulus and promoting job-sharing instead?" It was "Why aren't you promoting job-sharing?" Without an explanation of why measures to promote spreading work hours around(e.g., temporary changes in corporate payroll tax contributions to make it more attractive for firms to job-share) would interfere with efforts to stimulate the economy generally, Summers's answer doesn't explain why job-sharing shouldn't be added to the mix.

    (In response to Robert, it was Ec 10 when I was a grad student there, and that's the way most people of my generation still refer to it.)

  16. Interesting how almost everyone has avoided the main point of the argument, which seems to be that Summers is apparently willing to let millions of people go hang rather than imperil (even theoretically) the GDP number under his lamp post.

    Oh, and although companies may get higher productivity as a result of firing one person and making the other 19 do that person's work for the same pay, I was unaware that corporate profit was a moral good. (Work-sharing and reduction in hours also allow companies to make much finer adjustments, with the obvious benefits for morale and corporate memory.)

  17. Joel Levine says:

    "Unlike the poster, Larry Summers remembered Okun’s Law or “rule of thumb,” which Stiglitz characterizes as a “remarkable finding, for it seemed to run counter to one of the basic principles of economics, the law of diminishing returns….” Okun’s Law lead to the an understanding that in a downturn employers engage in “labor hoarding” as a matter of course because it makes economic sense to keep more employees than are needed in a downturn because of the costs in training new employees when things turn around."

    Last I heard, Okun's 'law' has been null and void in the US for a while; employers are more likely to quickly shed employees, for the past ~20 years.


    "No doubt Summers has his value, but if I were Barack Obama and I read that sentence I’d want to spend more time with my other economic advisers."

    Beyond being a neoliberal supporter of moving wealth upwards, I encountered precisely zero evidence that Summers has ever had any values. I'm serious – the man did more than his fair share to destabilize Wall St in the 1990's, and then was aided and promoted at least one corrupt criminal as chair of the Econ dept, and then was an arrogant econo-shite as president of Harvard.

    Now, he's providing cover for the idea that Nothing Is Wrong, that we shouldn't actually reform the financial system, or otherwise act like Democrats.

  18. Summers answer is an accurate reflection of Washington policy. Washington's ability to maintain its massive defense program rests on sufficient tax revenues to service its debt, this, in turn, depends on the steady growth of GDP, which rests on creating more work rather than sharing work which already exists.

    This has been the official policy of the United States since 1950.

  19. You can read it all here:

    "With a high level of economic activity, the United States could soon attain a gross national product of $300 billion per year, as was pointed out in the President's Economic Report (January 1950). Progress in this direction would permit, and might itself be aided by, a build-up of the economic and military strength of the United States and the free world; furthermore, if a dynamic expansion of the economy were achieved, the necessary build-up could be accomplished without a decrease in the national standard of living because the required resources could be obtained by siphoning off a part of the annual increment in the gross national product. These are facts of fundamental importance in considering the courses of action open to the United States (cf. Ch. IX)."

    Forging the strategy of containment: NSC-68, page 61

  20. I'll confess to ignoring the reduction of 5% in hours worked. I don't believe there is any significant population that would accept a 5% reduction in wages who would keep working but who also would quit if not simultaneously offered a 5% reduction in hours. You might find people who are willing to accept a 50% cut in hours and commensurate cuts in compensation, but not 5%. And, if they're willing to accept a 50% cut in compensation, what's the difference between that and unemployment where you'd get a 100% cut in hours? Perhaps only Europeans are willing to accept this due to the difficulty in getting hired in the first place.

  21. Paul~ You're correct- productivity is up. I think that is a temporary condition. Many small companies laid off 5+ workers leaving the work to two people. This is unsustainable. The other aspect this brings to my mind is that of the absolute uselessness of many "jobs" which were in existence prior to the Wall St Theft of 08.

    This is why I think a reduction of hours which constitute full time work is in order. A full time work week of 30-32 hours is ample for most jobs, would create additional hours for jobs which are necessary, and allow people a little breathing space in their personal lives. It would also help in the transition to a new "normal" of fewer jobs; especially if the physical infrastructure work embodied by health care, green energy, education, and transportation do not manifest.

    Horseball~ Why would anyone in their right mind accept a pay cut without commensurate reduction in hours? I suspect we would find this in small businesses and union work -desperate workers, but the corporate world has built no loyalty with many of its workers.

    Is the off-shoring of business due to cheap labor soon to become unnecessary?

  22. Question: If our currency is no longer based upon a finite resource such as gold, what is limiting our creation of money and its distribution pump called "work" other than poor regulations, unbalanced money management, and theft? Is there any true value of a government having a surplus when it is actually the creator of the currency? Shouldn't the goal be to have that currency in sustainable balanced movement no matter what the total numbers are?

  23. "There is no evidence that people (at least Americans) would prefer this, even if it were rational. The difficulty of this type of collective action problem should is easily demonstrable by the auto manufacturers. It was quite obvious that worker compensation or number of workers or both needed to come down for many years, but they could never do it."

    I'll cite another example. The Denver PD's union was recently presented with a choice between freezing salary increases and keeping everyone on the force, or taking the pre-negotiated pay increase and laying off a certain number of officers.

    They chose plan B. In part, I think this was because they knew that the officers that would lose their jobs would be those with the least seniority. If you know in advance whose job is on the line, there's far less incentive to work cooperatively with your co-workers in this way.

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