Time for a Labor Market Bailout

In Economic Planning, Economics, Full Employment, Inequality, Liberalism, Living Wage, Political Ideology, Politics, Politics of Policy, Poverty, Progressivism, Public Policy, Social Democracy, Social Policy, Welfare State on January 1, 2011 at 1:00 am


As the third year of recession ends, the scale of the task of undoing the social and economic damage of the recession is now made plain. It is already well-known that 15 million Americans are officially unemployed, with another 15 million unofficially unemployed. But the scope of the recession goes far beyond their ranks  – more than half of the U.S. labor force (55 percent) has “suffered a spell of unemployment, a cut in pay, a reduction in hours or have become involuntary part-time workers” since the recession began in December 2007.

The widespread nature of workers’ declining fortunes, even if they have not suffered unemployment, explains why it is that one-third of U.S working families are now low-income (i.e, under 200% of poverty), one lost paycheck, one illness, or one accident away from disaster. But as I have noted before, the underlying illness of stagnant wages and a weak labor market have existed before – the one-third figure discussed above is only 7% higher than before the recession, and during the previous recovery in ’02-05 we saw that figure increase, never falling below its 2007 level.

A rescue is deeply needed.

So how then do we bail out the labor market – to rescue American workers? Any such effort much rest on three pillars – increasing wages (both to restore the damage done by the recession and to go further) directly, creating a permanent mechanism for maintaining purchasing power through a more redistributive tax system, and (as should be no surprise) establishing a system of social protection that can truly shield workers from the effects of a recession.

Rebuilding Wages:

Long-term readers of The Realignment Project know that the through-line of my posts about economic and social policy is an argument about a long-term structural shift away from wages and labor costs and toward profits and capital that is leading to persistent weakness in labor demand, especially for jobs that pay a living wage. I believe that it is this shift and the weakness it creates that is the ultimate cause of wage stagnation.

What is the evidence for weakness in labor demand?

Recent years have shown a surprisingly soft labor market, to the extent that in the recovery from the last recession, the labor force participation rate actually declined and then flatlined, as we can see above. This is not normal. In the past, a recovery in a recession would tend to see participation rates rebound or increase as employer rehired their laid-off employees (as was the case in 1953, 1957, 1960, and so on) now we are seeing that economic recovery can no longer bring participation rates back – and at best hold things steady.

We can also see this softness in the fact that the broader U6 measure of unemployment (which includes discouraged workers, the marginally attached, and the underemployed) has been stubbornly high. Even during the white-hot labor market of 2000, when U3 fell to 4% and we actually started to see some wage growth for the first time in a long time, the U6 rate never fell below 6.8%. U6 stayed quite high throughout most of the early recovery in 2003-5, and stayed above 8% at the best of the most recent recovery. And in each business cycle, the nadir of unemployment ratchets upward – 7% in 2000, 8% in 2007, and I shudder to think what our new floor will become.

Source: Bureau of Labor Statistics

So we can see that the labor market has developed an enduring slackness, both in recessions and recoveries. My belief is that this is one of the major factors (and the dominant factor, to boot) that  has caused wage growth to flat-lines. Workers are less likely to push for wage hikes when they know that they can be easily replaced, either by one of the unemployed, through increase in productivity, or through mechanization or offshoring, especially when the unions that normally foster wage growth are in decline. And what have we seen in American wages over the same period?

That red line tells the tale – thirty years of running in place and going nowhere. And this has, in turn, made our economic weaknesses even worse. When wages stagnate, wage-based consumption can’t grow fast enough to keep up with increasing production. Over the last decade, this was papered over with an artificially abundant supply of credit, making our economy more vulnerable to sudden credit crunches than it has been in the past. Hence, when a financial crisis paralyzes the credit supply, consumption drops faster than it would if consumption was more solidly based on wages; in turn, employers react to sharper declines in consumption with sharper increases in layoffs, creating a downwards spiral.

So how then, are we to begin to reverse this spiral?

A solution has to begin with a movement from our current national minimum wage, which remains $2.85 an hour short of its 1968 peak, arduous to raise through Congresses rarely attuned to the needs and interests of working people, and forever fighting a Sisyphean struggle against inflation, to a national living wage.

To call for this is not particularly novel in progressive circles; the more interesting question is where to draw that line. Many, such as former Labor Secretary Robert Reich have called for the minimum wage to be permanently indexed at 1/2 the median wage, out of an egalitarian principle which has a lot of merit. However, given a median wage of $15.95 an hour, this would result in an $8/hour minimum wage, not that different from its current level and just barely enough to keep a family of two out of poverty, let alone a family of three or four.

My own preference is to peg it back to its 1968 value of $10 an hour (ironically 1/2 the mean wage at the present time) and index that to inflation. At that level, a full time minimum wage job would be almost capable of supporting a family of four above the poverty line.

Rebuilding Purchasing Power:

Obviously, merely raising the minimum wage is not enough; it would directly help 3.6 million workers (or 5% of the workforce), and the ripple effects upward might reach as high as another 8.2 million workers (or 6.6% of the workforce), but that would still leave as much as 21.7% of the workforce still in need of assistance.

There is also the more philosophical question of how far minimum wage increases can get us to a just or fair distribution of productivity or profits, and the additional issue of how take-home wages are shaped by our taxation system. On the first question, let us observe that output per worker in the U.S was $105,000 a year in 2008, while the “median net compensation” per year is just $26,000 a year. Adopting a living wage as discussed above would shift about $5,500 a year back to the worker’s side of the table for a broad swathe, but by no means all, of the workforce.

On the second question, let us note that despite the fact that the U.S has a strong historic legacy of progressive taxation (and that we do a pretty good job relative to European countries that rely more heavily on VAT taxes), our tax system remains broadly flat:

Source: Lane Kenworthy

Thus, to the extent that we can make the tax system more progressive on the revenue side and more redistributive on the benefit side, the more we can ensure that the value of people’s labor is recaptured and redistributed back to them. While it’s fairly common among progressive policy wonks to argue that the EITC should be expanded into what is effectively a Guaranteed Annual Wage (as opposed to a Guaranteed Minimum Income), I think we have to both expand the scope of our ambitions and lift the level of our rhetoric.

On its own, the EITC runs the danger of becoming a Speenhamland for the 21st century; to transform it, we must begin with the understanding that the EITC should be more than a means of keeping people out of poverty – it should be explicitly tied to reducing inequality by linking the funding source to taxation on the top 1% of households, and explicitly paired with the minimum wage, so that the two rise in tandem.

Equally importantly, EITC cannot shoulder the burden of bailing out the working class by itself, any more than the minimum wage can. And here is where I diverge from my Progressive colleagues who have worked themselves into a fear over the payroll tax cut – the payroll tax is not the Progressive vision for Social Security. It was a pragmatic decision made at the time to get around the Supreme Court’s narrow view on Federal authority and to politically protect the program through the establishment of the appearance of an insurance program. However, the dream of progressives – as enshrined in the Wagner-Murray-Dingell bill for the next fifty years – was to replace payroll tax revenues with General Fund revenues as an expression of national obligation for social security.

The payroll tax is our most regressive tax, and largely responsible for the flatness of the previous graph. While we should absolutely retain a symbolic link between contribution and eligibility for Social Security, there is no reason why making the payroll tax a progressive tax should not be at the heart of progressive tax policy. At one stroke, we would increase purchasing power, lower the cost of creating living wage jobs, create a strong disincentive against runaway executive compensation, and redistribute income on a grand scale.

Recreating Social Security:

While the above steps if enacted would result in a general increase in wages and real income for working people, which would in turn increase spending and employment, it’s still the case that we do not have an effective safety net for preventing such swift declines in income and living standards in future recessions.

As I have argued before, we drastically need to rebuild our Social Security system into a universal and comprehensive institution for the protection of the entire population from major economic dangers. A big part of that will be restoring Unemployment Insurance to the point where it can actually protect against the sudden loss of income that comes with layoffs.

Ultimately, I think that a labor market bailout will have to face up to the task of dealing with the labor market directly rather than compensating for its weaknesses. A strong social insurance system and wage protection system will help, by giving workers more options and a feeling of security. However, there is in the end no alternative to creating a social insurance system for jobs to tighten the labor market for the long-term.

  1. Why should a minimum-wage job be capable of supporting a family of four? It seems to me that a minimum-wage job should be capable of supporting the person with the job. Maybe this is a matter of the definition of “minimum wage,” but it seems to me that the floor on a person’s compensation, if we believe there should be a floor, should be based on what is needed to support a person, not a family.

    • Because the median household size is 2.59 persons, not 1 – which means that a minimum wage job will still be a poverty wage job for the median worker; ensuring that someone who loses their job can keep their family above the poverty if they find any job serves multiple purposes. First, it greatly reduces the extent of working poverty and child poverty. Second, it greatly reduces the rate of increase in poverty that comes with recessions. Third, it shifts incentives such that working will always be a viable and preferred method of supporting one’s family, eliminating so-called “income traps.”

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  7. […] the lower half of the labor market is a bit more complicated than simply raising income by increasing the minimum wage and expanding the EITC, which are necessary but not sufficient steps. While empirical research has shown that minimum wage […]

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