Job Insurance – Solving For Inflation

Introduction:

While in previous segments of the Job Insurance series, I’ve been understandably focused on using job programs to attack our currently-nigh-double-digits level of unemployment – but the whole idea of establishing a job program as social insurance is to envision a system that works both in recessions and in “good times.” At base, job insurance ultimately is a plan for full employment, that least remembered and most-tantalizing dream of American progressivism.

Historically, one of the most intellectually-daunting objections to full employment is the fear that it would create unstoppable inflation. But contrary to arguments that proponents of Keynesianism and full employment policies have no way to deal with inflation, there are and have been progressive proposals that allow for the holy grail of economic policy: full employment without inflation.

Options for Dealing With Inflation:

The mid-20th century was an incredibly fruitful period for political economy, and in many ways was the peak of achievement in economics – well before the “econometric revolution,” especially in terms of the degree of nuance and attention to the complexity of real world economies displayed by the great thinkers of the period. And Keynesian and institutionalist thinkers who advocated for full employment were no fools – they understood the realities of dealing with inflation, especially because many of them had been directly involved in keeping inflation under control during the full employment of WWII.

So what did they come up with?

John Meynard Keynes: Wages Into Bonds!

The father of Keynesian economics himself proposed a solution that has been almost entirely ignored since his untimely death in 1946. While those economists who followed the ideas of Keynes often collapsed inflation down to the famous/infamous IS/LM model (which suggested a direct tradeoff between inflation and employment), Keynes himself actually had a more sophisticated idea for how to deal with inflation, based on his wartime experience.

When World War II broke out, Keynes naturally went into government service, and one of the first questions that he had to deal with was how to keep inflation under wraps in an environment of full employment caused by a military draft and an upsurge in defense industry-driven manufacturing that threatened to create an unstoppable price spiral as rapidly-increasing wages ran headlong into ration-restricted supply.

Keynes’ solution was forced savings through the purchase of bonds: in his book, How to Pay for the War: A Radical Plan, Keynes argued that rather than cutting wages, the government should simply act to push future spending into the future, deferring the inflation until after the war, when the sudden increase in spending would be a helpful force, counter-acting the negative side-effects of demobilization. The great advantage of this approach, compared to other methods (increasing taxes, freezing wages, or outright wage cuts), is that it doesn’t have any long-term negative effect on working class living standards. Rather, income would simply be shifted into wealth, improving the balance of working class family budgets.

In the modern context, this approach could be modified by enacting legislation such that wage increases over a certain set yearly percentage would be paid in bonds that would mature in 5 years, for example. Obviously, mandating such payments could be seen as heavy-handed, but you would see almost the same effect on consumer spending if you established the wage-bond system as “opt-out” as opposed to “opt-in” (one aspect of human economic irrationality is that we tend to be rather lazy when it comes to taking affirmative action when it come to savings; evidence has shown that people are much more likely to contribute to 401ks or IRAs if they are automatically enrolled than if they have to sign up themselves). This approach would also have the advantage of being incredibly flexible – since it would operate through the same monthly withholding system that our income and FICA taxes do, it could be adjusted up or down on a monthly basis in response to the rate of price increases.

If you wanted to get even more creative, you could do a progressive matching scheme, whereby bonds could be cashed in for things like a full college tuition, or a first home, or a small business loan, or a retirement annuity – helping working class Americans and expanding economic opportunity at the same time.

John Kenneth Galbraith: Wage and Price Controls!

John Kenneth Galbraith was probably the best-known economist of his time, although he never got the respect from his colleagues that he deserved – in large part because he never got on board with the “econometric revolution” (as a result, Galbraith never bought into the Keynesian “synthesis” and thus never had much attachment to the Phillips Curve axiom that there was a direct trade-off between inflation and unemployment). Galbraith was also something of an anomaly – while he became a “social” Keynesian shortly after the publication of the General Theory in 1936, he retained a lot of his earlier “institutionalist” background and as such continued to focus as much on economic structures and the behaviors of corporations and groups within corporations as he did on aggregate levels of supply and demand. He also spent as much time in government as he did in academia – and his experience as deputy head of the Office of Price Administration during WWII gave him the most practical experience in wage and price controls as any economist could hope to achieve.

Thus, when the stagflation of the 1970s reared its head, Galbraith proposed a wide-ranging system of price and wage controls. Noting that the OPA had brought inflation down from a peak of 13% in May 1942, after which FDR’s “General Max” and “Hold the Line” orders empowered the OPA to act against price-raisers, to 3% at the end of 1943, and had successfully kept inflation to 1.64% in 1944 and 2.27% in 1945 despite unemployment rates of 1.2% and 1.9% respectively, Galbraith argued that price controls could control inflation at any level of employment. By focusing on core industries like steel, which were both heavily unionized and heavily concentrated allowing for tripartite bargaining and which had powerful influence on prices in construction and other sectors dependent on their products for materials, a permanent system of price controls could be established without setting prices for most consumer goods. In this system, the target would be to cap wage increases at the rate of productivity increase, without a need for high-interest rate policies that cause economic contraction and higher unemployment.

John H.G Pierson: “Economic Performance Insurance”!

A more obscure figure than the previous two, John H.G Pierson was a Keynesian economist who was one of the authors of the 1946 Full Employment Bill, which would have established Federal responsibility for full employment and the right to a job. When that legislation was de-fanged in Congress, Pierson devoted his life to writing about full employment, publishing five books and dozens of articles and testifying in front of Congress. After the defeat of the Full Employment Bill, Pierson put forward a proposal for what he called “Economic Performance Insurance,” which would build upon the idea of the Full Employment to create a Federal guarantee of full employment by adding a Federal guarantee of full consumption. This guarantee would ensure that there would always be enough demand for producers to sell their goods, either by raising or lowering the Federal income tax withholding rate (and including a negative income tax for those too poor to pay income taxes)  on a monthly basis to keep consumption up, or by establishing a reversible Federal sales tax, which could be raised or lowered as needed.

Pierson’s argument was that by putting both a floor and a ceiling on both employment and consumption, we could establish “Full Employment Without Inflation.” If employment fell below the level established by the President and Congress as “full employment” for that year, then public jobs would be created to fill the gap; if consumption likewise declined, then the withholding rate would be lowered or the sales tax would either be cut or reversed into a positive sales “bonus” in order to put more income into the pockets of consumers. On the other hand, if employment rose to a level above the “full employment” line or if consumer spending increased faster than expected, threatening to cause an inflationary spiral, then the government could reduce the number of public jobs and increase tax rates to cool the economy down.

In this fashion, Pierson believed that we could ultimately replace the ups and downs of the business cycle with a permanent state of full employment and full consumption, while remaining a capitalist country. Businesses would be bolstered by abundant markets and free from the fear of sudden declines in revenues, and thus would have no need to hike up prices above the market rate in order to cushion themselves against future recessions. Workers would be assured that they’d always have a job and that their wages would never fall behind inflation, and thus would have no need to fight for inflationary wage increases. The government would guide the economy, but allow for free competition within the bands of employment and consumption agreed upon in a democratic process.

How Would Full Employment Without Inflation Work?

There are elements of all three inflation proposals that fit in well with a Job-Insurance-based system of full employment. Pierson’s plan provides the best overall framework for combining employment and consumption, but I prefer Keynes’ bonds compared to sales or income tax hikes, because of the superior results in long-term living standards. Ultimately, you’d also want Galbraith’s controls as a Plan B in the event that either consumers fail to respond to the decreased cash on hand (in the case of spending-driven, “demand-pull” inflation) or if producers respond to a moderation in consumption by yanking up their prices instead of lowering them (“cost-push” inflation driven either by a sudden rise in raw materials or other business costs, like a sudden spike in the cost of gasoline due to some exogenous shock, or by monopolistic or oligopolistic behavior).

So what would a Job Insurance and Consumption Insurance system look like?

Now, as I’ve discussed before, it costs approximately $35 billion to create 1 million jobs. Given that the U.S workforce is 154.5 million-strong, you need to create 1.5 million jobs or so to create an additional 1% of employment – or $52 billion per 1% of employment. This gives us a schedule that looks something like this:

0-1% employment needed = $0-52 billion required

1-2% employment needed = $52-104 billion required

2-4% employment needed = $104-208 billion required

4-8% employment needed = $208-416 billion required

Keep in mind, however, that most recessions don’t see a sudden 8 percentage point spike in unemployment; in the last 10 recessions before the current one, the average increase was 2.6% (or a hair under 4 million jobs).  That works out to $135 billion, which is a quite reasonable sum at 17% of the ARRA stimulus package. Even in the case of our “Great Recession,” unemployment spiked up by 5.2%, which would cost about $270 billion and create 7.7 million jobs. The reason why direct job creation would cost 34% of the original stimulus is that direct job creation is a super-efficient form of jobs policy: whereas classic Keynesian stimulus works on the aggregate demand of the entire economy to create employment through the multiplier effect, direct job creation increases employment both in its primary effect and its multiplier effect – keep in mind that a direct job creation program of 7.7 million jobs, through the stimulus created by the wages spent and the outlays for non-labor costs like land, tools, and raw materials, would create additional private-sector jobs beyond its initial allotment.

Consumption is significantly trickier to administrate. Personal Consumption Expenditures (PCE) in 2008 were $9 trillion, and 2009 looks to be a bit above that. Which means that in order to raise PCE by 1%, we need to create $90 billion in consumer spending – note, this doesn’t just mean provide $90 billion to consumers; because people have a different “marginal propensities to consume” and don’t automatically rush out and spend 100% of the money you give them. This gives us a schedule that looks something like this:

0-1% consumption needed = $0-90 billion required

1-2% consumption needed = $90-180 billion required

2-4% consumption needed = $180-360 billion required

4-8% consumption needed = $360-720 billion required

In the case of our “Great Recession,” PCE fell by .8% (combining 2008 and 2009 so far) or $72 billion. If that seems small, keep in mind that PCE doesn’t include business consumption of raw materials, capital goods, or government purchases. Getting PCE to rise by .8% isn’t as easy as giving $72 billion to consumers, however; you need to spend however much it takes to cause consumer spending to rise by $72 billion.

The advantage of running a Job Insurance system alongside a Consumption Insurance system is that previously-unemployed workers tend to spend close to 100% of their income, both on their present living costs and also to make up for purchases they deferred while unemployed. $270 billion worth of new jobs works out to $189 billion in (potential) PCE, assuming a 30% non-labor cost rate (that’s conservative compared to the WPA’s historical 20% rate). Hence, in our current recession, we would probably achieve our consumption goals simply through the wage effects of the jobs program, not merely reversing the recession, but providing a helpful “take-off boost” for the recovery. To be fair, part of the reason for this is that our “Great Recession” saw a very sharp decline in employment (especially due to a credit crunch that hammered business consumption of materials and capital goods) with a relatively shallow decline in PCE.

Conclusion:

As John H.G Pierson and other mid-century economic thinkers noted, recovery from a recession is not the same thing as permanent full employment.  Unemployment in the U.S has rarely approached a true full employment rate of 3% employment or below (allowing solely for “frictional” unemployment caused by people moving between jobs) – our average is more like 5-6% unemployment.

In order to get to full employment therefore, we’d have to run a constant Job Insurance program of 2-3% of the workforce even in good times – which would increase in compensated-for recessions and decrease when economic growth threatened to overheat – which costs about $104-156 billion per year. Now, as I’ve stated before, this is well within the realm of fiscal possibility. A 1% payroll tax or its equivalent raises about $64 billion per year (wages and salary are 46% of a $14 trillion GDP)- thus, the equivalent of a 1.6%-2.4% payroll tax would easily pay for full employment through Job Insurance. An additional .5% payroll tax would easily fund a Job Insurance Reserve that could respond to a massive 3% slump in private employment.

Getting to full consumption would take a bit of fiddling, but could probably be achieved through moving the income tax withholding rate up or down month by month (the creation of the Earned Income Tax Credit in 1975 has made this an easier tool to use, since it allows us to influence the behavior of low-wage workers) or by creating a reversible sales tax.

The larger point is this: full employment is well within our means. Full employment without inflation is not beyond the means of modern public policy.

So why are we trying to wrestle down a 9.7% unemployment rate with piece-meal legislation, when a $270 billion jobs bill could reverse the damage done by the recession completely, and a further $105 billion jobs program could provide full employment?