Structural Unemployment – The Beveridge Curve

There are those that see the problem of unemployment in most economies (but especially the US) as a structural issue. This refers to the mismatch between the jobs that are available and the skills that people have. Cyclical unemployment can be reduced by boosting demand – dropping taxes and increasing government spending (fiscal policy) and lowering interest rates (monetary policy). However, if unemployment is mainly structural patience is needed to wait for the market to sort things out, and this takes time.

The Beveridge curve is an empirical relationship between job openings (vacancies) and unemployment. It serves as a simple representation of how efficient labour markets are in terms of matching unemployed workers to available job openings in the aggregate economy. Economists study movements in this curve to identify changes in the efficiency of the labour market. It is common to observe movements along this curve over the course of the business cycle. For instance, as the economy moves into a recession, unemployment goes up and firms post fewer vacancies, causing the equilibrium in the labor market to move downward along the curve (the red arrows in the figure above). Conversely, as the economy expands, firms look for new hires to increase their production and meet demand, which depletes the stock of the unemployed – see graph below.

Careful analysis of Beveridge Curve data by economists Murat Tasci and John Lindner at the Cleveland Federal Reserve shows that it’s behaving much the way it has in previous recessions: there are as few job vacancies as you’d expect, given how desperate people are for work – see graph below. The percentage of small businesses with so-called “hard-to-fill” job vacancies is near a twenty-five-year low, and open jobs are being filled quickly. And one recent study showed that companies’ “recruiting intensity” has dropped sharply, probably because the fall-off in demand means that they don’t have a pressing need for new workers.

According to James Surowiecki from The New Yorker structural issues aren’t irrelevant, of course; there are certainly plenty of construction workers who are going to have start plying a new trade. But what defined the recent recession was the biggest decline in consumption and investment since the Depression. Dealing with that is the place to start if we want to do something about unemployment. The structural argument makes government action seem irrelevant.

QE2 – why all the fuss?

The Federal Reserve (US central bank) second round of quantitative easing (QE2) has its critics – the Chinese and German governments, economist Joseph Stiglitz, and most Republican congressmen. The Fed is currently running out of options and once interest rates can’t be cut anymore it is resorting to buying up longer-term government bonds. This will hopefully keep long-term interest rates low and create more money in the economy and make investments other than government bonds more appealing. Therefore why all the fuss?

- China and Germany are worried that QE2 will increase the supply of US$ on the market and therefore weaken its value. This will make Chinese and German imports more expensive and US exports more competitive which ultimatley means job growth.
- Joseph Stiglitz says that economies always recover but without a stimulus it will take a long time. Short-term unemployment needs to fall and this requires more government spending – not quantitative easing (QE2). As Keynes said in the long-run we’ll recover but in the long-run we are all dead.
- The Republicans basically object to QE2 because it is there job to make sure that Obama is a one-term President. Would they be criticising Fed Chairman Bernanke if the Republicans were in office? I think not.

According to James Surowiecki of The New Yorker the attacks on QE2 are hysterical and people are accusing the Fed of injecting high-grade monetary heroin into the system which they assert will generate artifically high stock and commodity prices around the world. The reality is that stock prices have fallen over the last few weeks since QE2 as American banks have trillions of dollars to lend but consumers are continuing to reduce their debt. The biggest risk to the US is not that the economy will experience high levels of inflation in a couple of years (pipeline effect) or a stock market bubble or currency war. The reality is that there could still be well over 15 million people unemployed.

Loosening monetary policy

I came across this cartoon in the New Yorker which in a way could be used to show quantitative easing as well as lower interest rates. Rather than Ben Bernanke’s helicopter drop how about opening the money pipe. Is that Ben Bernanke showing people around with Tim Geithner (US Treasury Secretary) adjusting the flow? New caption – “These two guys have been doing this for well over a year now”

As we know an expansionary monetary policy involves lowering the rate of interest set by a country’s central bank. This should influence the rate of growth of aggregate demand, the money supply and ultimately price inflation. However growth and inflation still eludes the US economy.

New Documentary Movie – ‘Inside Job’

I came across a review of the “Inside Job” in the New Yorker magazine. It is billed as a comprehensive account of the financial crisis and seen as a cross between Fahrenheit 9/11 and a History Channel primer, with a dash of indignation. Below is a review from The Dim Post

Instead of being a reporter or Michael Moore style muckraking provocateur documentary maker Charles Ferguson is very much a part of the world his film is about. This gives him access to interview subjects other documentary makers could only dream of: central bankers, hedge fund multi-billionaires, senior economists, finance lobbyists, former investment bank CEOs, Wall Street prostitutes, the Prime Minister of Singapore . . . For a movie about economics and finance it’s a surprisingly funny movie but most of the humor is laughter in the dark: Ferguson’s interview subjects try to spin their own moral complicity and moral bankruptcy and he skewers them expertly. It’s a brilliant film.

Boosting inflation isn’t the right policy, but it may just be the correct one.

There is an excellent article in this week’s New Yorker magazine by James Surowiecki in which he explains, with the help of Yale Professor Robert Shiller (co-author of Animal Spirits), the costs of inflation but also the need for prices to rise in the US economy. Surowiecki suggests that if the Fed were to raise its inflationary target from around 2% and commit to higher prices it might change people’s behaviour especially as debt burdens would be reduced and money would lose value in the future. But central bankers are more concerned with stable prices than with lost jobs and they tend to look after the interests of lenders, for whom inflation is generally bad news.

Inflation helps debtors and spenders at the expense of creditors and savers and it seems to reward those who have conducted themselves irresponsibly, and to penalise those who were more cautious. But, according to Surowiecki “the economy doesn’t exist, in the end, to reward virtue and punish vice. It exists to maximize our well-being, and, currently, doing that may require helping the undeserving and irresponsible, if only because there are so many of them.”

Click here for the full article.

New Yorker animations

I often go to the New Yorker website for articles and to look at their latest animations that are quite amusing. Here are a couple on explaining the financial crisis and another way of paying for a domestic flight in the US.