20 Mar 2013

## A Different Explanation of the “Productivity” and Wage Divergence

I have not read a single word from the EPI paper claiming that if the minimum wage had followed “productivity growth” it would now be \$22/hour, so everything I am writing in this blog post is predicated on Daniel Kuehn’s interpretation being sound. Having said that, consider the following fable:

In 1968, a nation of identical workers collectively puts in 1 billion labor-hours, to produce 1 billion units of finished consumer goods, at a price of \$1 per unit. (There are different types of goods, but they all have the same unit price.) Everyone gets paid \$1/hour. This is the only production, so nominal GDP is \$1 billion. The government also happens to set a minimum wage law of \$1/hour, but this has no effect because that’s what the competitive wage was anyway. (Assume that not only the average product, but also the marginal product, is \$1/hour.)

In 1971, there is a major policy change that unleashes the printing press. The government’s cronies start getting humongous payments of new \$100 bills, which they do partially spend on consumer goods, but which mostly go into financial assets, real estate, and precious metals. After decades of this new pattern, we find…

In 2013, the same workers collectively put in 1 billion labor-hours, to produce 1 billion units of finished consumer goods, at a price of \$2 per unit. Everyone gets paid \$2/hour. This contributes \$2 billion in nominal GDP. However, the fat cats provide “financial services” of \$8 billion in nominal GDP, for a total nominal GDP of \$10 billion. Since CPI has doubled, in 1968 dollars real GDP is \$5 billion, a five-fold increase.

EPI publishes a paper saying that if the minimum wage kept pace with “inflation,” it would be \$2 in 2013. If it kept pace with real productivity growth, it would be \$10/hour. A senator asks a guy employing the average worker–and who pays him his marginal product–where the “extra \$8” went. Progressives around the world explode with happiness at the economic wisdom thus displayed. Everyone who is in favor of jacking up the minimum wage cites this brilliant exchange, but of course the people responsible have plausible deniability, since they technically never said anything about raising the minimum wage. They just accused the guy of skimming \$8 per hour out of his workers’ checks, that’s all.

#### 35 Responses to “A Different Explanation of the “Productivity” and Wage Divergence”

1. Bob Roddis says:

That’s about how I saw it too, the funny money regime resulting in the elite looting the masses and the “financialization” of everything. Meanwhile, in order to average everything thing out, the nearly-broke pizza parlor guy is ordered by the “progressives” to pay his employees \$22 per hour.

• Daniel Kuehn says:

We have no time to order the pizza guy to pay \$22 an hour. We are far to busy plotting against human freedom, railing against having our sacred nostrums destroyed by reality, and avoiding lectures about ordinal preferences.

• Bob Murphy says:

Daniel, I understand why you are amused at the hypotheses concerning your motives, but I am myself amused that you don’t see how Warren was cozying up to the people wanting a higher minimum wage.

• Daniel Kuehn says:

Oh I imagine she’s cozying up to them because she wants a higher minimum wage too, and because people like that get excited about her, give her money, and (perhaps of secondary importance) vote for her.

• Andrew Keen says:

• Bob Roddis says:

I forgot to mention that a main reason the “progressives” want the pizza guy to pay \$22 per hour is because they think they are the anointed and they hate average people.

2. The Narrator says:

Daniel,

Even if you think your interpretation of what Warrent meant is the correct one or the most plausible one, would you agree that it is at least not an unreasonable interpretation of Warren’s words that she is being deliberately ambiguous for political reasons in the way that Bob says that she is?

• The Narrator says:

• Daniel Kuehn says:

Was she being ambiguous? I didn’t think so. She’s a pretty straight shooter, don’t you think?

She probably doesn’t grasp all the nuance of the productivity stuff we’ve been arguing. I’m not saying she does.

She pretty unambiguously wants an increase in the minimum wage, right?

And I’m pretty confident she doesn’t want it at \$22 because she’s never said that. If she announces that she does tomorrow, then I’ve got egg on my face and she’s lost a little respect from me.

• The Narrator says:

DK wrote:

“Was she being ambiguous? I didn’t think so. She’s a pretty straight shooter, don’t you think?”

I think the opposite.

“She probably doesn’t grasp all the nuance of the productivity stuff we’ve been arguing. I’m not saying she does.”

Yes, but that whole issue is a red herring.

“She pretty unambiguously wants an increase in the minimum wage, right?”

Yep. How is this point relevant to the discussion at hand?

“And I’m pretty confident she doesn’t want it at \$22 because she’s never said that.”
Okay, she never said it, that is correct. When interpreting what people mean and intend with certain statements, do you generally refrain from concluding anything beyond what people literally say?

For example, when you interpret the meaning and intentions of what, to use some randomly chosen examples, a Rand Paul or a Don Boudreaux or other Austrians and/or libertarians say, do you generally lrefrain from concluding anything beyond what they literally say?

If so, then I have some archival info you might want to take a look at. If not, then why not? what are your criteria in deciding when and when not to do this?

Anyway, as I described in my prev comment, from the invalid inference Warren makes it is a natural (albeit not necessary) next step to say that a \$22 minimum wage would be just and/or unproblematic, although she herself does not literally say this and likely also doesn’t actually think it. The issue is that she 1. uses an invalid inference, 2, and then uses the unjustified conclusion of that inference to create in the listener the idea that a \$22 minimum wage or at the very least a substantially higher minimum wage than the current one is just and/or unproblematic.

You may say: wow, you must think she’s a magician that she can do such crazy complex things. To which I would say: no, she’s a skillful populist politician and this is what those people are skilled at/trained to do.

“If she announces that she does tomorrow, then I’ve got egg on my face and she’s lost a little respect from me.”
you’re setting an irrelevant and unnecessarily high standard, Daniel. She doesn’t need to do this for your interpretation of her statements to still be wrong. In fact, I don’t even think that she *thinks* (much less will say) that the minimum wage should be \$22. The issue is that she is being misleading and ambiguous in her words (in the way described above) so as to create the impression – while not actually saying it, so that she can always plausibly deny that this is what she said or meant or meant to suggest – that a substantially higher minimum wage would be just and/or unproblematic (and/or something we don’t currently have because somehow something sinister happened to the difference between the actual minimum wage and a just and/or unproblematic substantially higher minimum wage)

• Daniel Kuehn says:

re: “Okay, she never said it, that is correct. When interpreting what people mean and intend with certain statements, do you generally refrain from concluding anything beyond what people literally say?”

No, of course not.

• EconomicFreedom says:

>>>>I don’t agree with Warren on everything, but she’s a smart cookie.
>>>>She’s a pretty straight shooter, don’t you think?

Warren lied about being a woman of color and having a Native American heritage in order to apply for a teaching position at Harvard. She’s a “tell ’em what they wanna hear” opportunist, and not “straight shooter.”

And her justly ridiculed statements that successful people didn’t achieve success by their own efforts but owe it to government roads and fire-engines prove she’s as dumb as a bag of hammers, and not a “smart cookie.”

• BilltheBruinsFan says:

Straight Shooter? You’re describing the woman that claimed Indian blood to get a job with Harvard, right?

• Economic Freedom says:

>>>Straight Shooter? You’re describing the woman that claimed Indian blood to get a job with Harvard, right?

Precisely on account of her obvious Indian blood, Kuehn meant that Warren could shoot *arrows* straight.

(Ahem.)

3. The Narrator says:

Daniel wrote: “I imagine she’s cozying up to them because she wants a higher minimum wage too, and because people like that get excited about her, give her money, and (perhaps of secondary importance) vote for her.”

Okay, but then in what way is she cozying up? I mean, if your original interpretation of her words was correct (the one described here http://factsandotherstubbornthings.blogspot.nl/2013/03/on-warren-thing.html ), then in what way was she cozying up to those wanting a higher minimum wage? Like, was she being misleading or something?

or do you just mean that her words in the interpretation you have of them by themselves *constitute* cozying up and so that cozying up does not imply doing anything improper, dishonest, misleading etc?

• Daniel Kuehn says:

How can you call her “ambiguous” in your earlier comment?!?!

She’s Elizabeth Warren for God’s sake. Didn’t we all know what she stands for already?

She’s cozying up because she likes them! As in, “I’m going to be cozying up with Kate and my cats on the couch tonight”.

• The Narrator says:

How can you call her “ambiguous” in your earlier comment?!?!”

It’s very easy actually. I wrote about it in two comments on your blog. I’ll reproduce them below (btw, it’s a bit odd that you sort of suggest here that her being openly pro-minimum wage somehow is an argument against her being misleading or ambiguous in her remarks):

1.
[…] it is misleading to use the percentage by which the economy-wide average productivity went up to justify saying that the (inflation-adjusted) minimum wage should have gone up by the same percentage (disregarding is-ought issues of course), because the latter then for a crucial part is dependent on the assumption that the average productivity of workers at the minimum wage level (disregarding for the sake of the argument whether this is about one industry or for minimum-wage level jobs in all industries) went up by the same percentage as the economy-wide average and *that* assumption is nowhere argued for (and would also be implausible given basic economic principles)

But Warren does make this inference, and then goes on to use its “conclusion” to challenge that employer. Moreover, from the conclusion of that inference the idea of a minimum wage adjusted for that economy-wide average productivity gain is a natural (though not necessary) one (though she does not literally state that idea (in this case that the minimum wage should be \$22).

2.
Warren isn’t as careful as you are here in separating *economy-wide average* productivity rates and growth from productivity growth at the minimum wage level. She says: “As productivity goes up, that is, as workers are producing more, then the minimum wage is gonna go up *the same*. And if that were the case, the minimum wage today would be about \$22 an hour. So my question mr. something, with a minimum wage of \$7,25 an hour, what happened to the other \$14,75?”

So she herself ties the average productivity growth to the productivity growth at the minimum wage level by saying the minimum wage would go up the same. So she’s not saying for example that if the economy-wide average productivyt goes up by e.g. 100% it may still be the case that the productivyt at the minimum wage level only goes up by about say 10\$, no, she says the minimum wage goes up “the same”, and then in the next sentence she makes this even more explicit by aksing what then happened to the \$14,75.

It seems to me that it is perfectly natural to interpret her as saying that the actual 1968 minimum wage when raised by the same rate in productivity growth would be \$22 today, and from that it seems quite reasonable to interpret her to mean that a \$22 would not be unreasonable right now.

• EconomicFreedom says:

>>>because the latter . . . is dependent on the assumption that the average productivity of workers at the minimum wage level . . . went up by the same percentage as the economy-wide average . . .

Bingo. But this won’t cut any ice with Kuehn. He’s a Keynesian. And Keynsianism — neo- or paleo- — relies on just that sort of obfuscation by means of lumping, aggregating, and averaging together data that should really be kept apart.

4. Major_Freedom says:

Excellent blogpost.

5. Matt M says:

I feel like Warren is being ambiguous in the sense that she seems to be walking right up to the “\$22 an hour people,” flirting with them, implying they make some really good points, but refusing to commit to actually agreeing for the record with their premise, solely for political reasons, because she knows it would make her look idiotic to all but the most committed progressives. My guess is that she herself IS committed enough that she probably actually DOES believe \$22/hr is appropriate, but she knows she can’t say that.

In a way, she’s playing the old Glenn Beck “I’m just asking questions” routine. Something like: “Should the minimum wage be \$22 an hour? These guys think so. And they make some really good points. Now I’m not saying that it should be, I’m just asking the question.”

6. MingoV says:

Arguing with Daniel Kuehn is like arguing with a leaky faucet. No matter what arguments you make, you continue to hear the annoying drip, drip, drip.

• Daniel Kuehn says:

OK, but remember there is absolutely no argument here. Bob and I agree on the subject matter of this post.

I think sometimes he likes to present things like there’s more animosity between us than there is, and the commenters just seem to eat that story up.

• Bob Murphy says:

OK, but remember there is absolutely no argument here. Bob and I agree on the subject matter of this post.

I don’t see how this is possible, when I think Sen. Warren and the EPI report were terribly misleading to the point of gross irresponsibility, whereas you thought they were intriguing and remarkably good fun.

• Daniel Kuehn says:

Well right we disagree on whether Warren was implying something you think she was implying that I don’t, but we agree on the arguments about differential productivity in different sectors and what that means for average productivity figures, don’t we?

• Silas Barta says:

Are you actually familiar with Warren’s statistical prowess, Daniel_Kuehn? Do you think she would still be a law professor if she were actually good at math?

7. Silas Barta says:

I hate the sloppiness with which these reports compute productivity. The governing assumption seems to be that if they output is worth more, it must be due to the worker being more productive. But it could be due to capital or the inputs of other workers. Like you say, if the actual *value* of that work has gone up, that would imply a profit or arbitrage opportunity.

Likewise, there’s physical vs value productivity. If you can make 3x as many bell-bottom pants per hour as you did in the 70s, you shouldn’t expect to make 3x as much … either in real or nominal terms. More realistically, if you can add numbers three times as fast, well, sorry, your value productivity didn’t go up because a computer was widened the margin by which it can outperform you.

Fortunately, for my part, my personal per-hour earning power increased by an average of 12%/year since ’97, the first year the SSA was monitoring me. So I’ve kept up. What happens when you look at the same cohort over that period?

• Daniel Kuehn says:

re: “The governing assumption seems to be that if they output is worth more, it must be due to the worker being more productive. But it could be due to capital or the inputs of other workers.”

You really need to acquaint yourself with the people who do this work, the sorts of things available, and the claims they make for their statistics before you go around accusing people of being “sloppy”. If you are interested in capital productivity why don’t you look at the multifactor productivity statistics.

I’ve known people in every department of BLS, including the productivity division. They do great work, and they don’t deserve idiots like you mouthing off at them.

• Silas Barta says:

Their conclusions imply massive arbitrage opportunities, and *I’m* the idiot?

• Daniel Kuehn says:

No they don’t imply massive arbitrage opportunities.

Output divided by labor is not the marginal product of labor.

• Silas Barta says:

Output divided by labor is not labor productivity either. Labor productivity is value of labor output per unit time. Not final output — the output of the labor itself, as differentiated from the value of the final output it feeds.

Apportioning the value added from the various factors is tricky, which is why it’s so important to look at the market price of the labor — and why significant deviation of the two tends not to happen without some force preventing equilibrium.

And this is also why you’re confusing the issue by expressing labor productivity as Y/L. If GDP increases, that doesn’t mean the labor got more productive; it could be that capital, land, or entrepreneurship got more productive.

Workers can add numbers in their heads 40% faster than 30 years ago. If you think that means a 40% increase in value productivity (as would seem to follow from your general method of thinking about labor productivity), you’re on crack.

• Daniel Kuehn says:

re: “And this is also why you’re confusing the issue by expressing labor productivity as Y/L. If GDP increases, that doesn’t mean the labor got more productive; it could be that capital, land, or entrepreneurship got more productive.”

That’s been my whole point Silas.

Jesus, it’s useless to talk with you – without fail.

• Silas Barta says:

Your whole point all along is that the higher general productivity (Y) doesn’t imply that labor has become more productive? Gosh, I wonder why no one else read that message out of your posts! Maybe when you realize your time machine isn’t working, and your past posts aren’t actually being changed, it will start to make sense why people think your arguments are so ridiculous!

8. Stupid guy says:

We are so productive that we have a half trillion dollar trade deficit every year, and we have more people in government jobs than manufacturing. I’m sure warren and her comrades in dc are all earning their marginal product.

9. william a. pauwels,sr. says:

Hayek is absolutely correct that the minimum wage Inhibits employment of unskilled and youth workers.

The minimum wage should be discontinued and replaced by a government subsidized minimum compensation strategy.

Yielding to Pres. Obama’s nine dollar per hour State of the Union figure – that would set the minimum compensation level at \$18,740 per year for a 40 hour, 52-week employee.

Under this scheme, employers could staff their operations at affordable levels of compensation. The government would make-up any difference between the \$18,740 level and the low-skilled employees compensation level.

This strategy should minimize America’s ridiculous unemployment compensation program – lasting over 90 months in some cases – for non workers. Paying people for not working only produces more non-workers.

A subsidize compensation strategy would produce more workers and contribute to the collective productivity of our economy. It should also reduce the government’s expenditures for unemployment compensation, food stamps, et cetera.

As you know, paying people to work produces more workers and a more productive economy. Paying people to not work produces more non-workers and a less productive economy. Economics 101.

Feel free to open this idea up for discussion vifa your excellent emailings.

William A. Pauwels, Sr.
3/22/13

Sent from my iPhone

On Mar 22, 2013, at 7:11 AM, Cafe Hayek wrote:

The Latest from Cafe Hayek

Quotation of the Day…
Posted: 21 Mar 2013 04:56 AM PDT
… is from page 302 of the 2007 collection of some of Joseph Epstein’s essays, In a Cardboard Belt!; specifically, it’s from Epstein’s 2000 essay, in Commentary, entitled “Intellectuals, Public and Otherwise”:

Even when they have not lent their energies to promoting schemes for human betterment that depend on the mass coercion of real human beings, the intellectuals’ overdependence on ideas, and their consequent detachment from reality, have often turned them into little demons of ignorant subtlety.

One of the many instances of intellectuals acting like little demons of ignorant subtlety occurs in the modern debate over the legislated minimum wage.

Run-of-the-mill intellectuals who are innocent of any economics typically do not practice such subtlety in matters economic. They simply assume that government-inflicted coercion can rather easily mold economic or social reality into whatever forms they fancy. For these intellectuals, the chief constraint upon such happy molding efforts are evil or ignorant (or both) political opponents who block government from transforming intellectuals’ good intentions into actual outcomes. Lots of ignorance here, but no subtlety.

For intellectuals with some familiarity with economics more is needed to justify legislating a minimum wage. Here is where the subtlety enters. For these intellectuals the ‘more’ that is required to justify legislating a minimum wage is some passable explanation for why the law of demand for low-skilled workers – contrary to the law of demand for almost every other good or service or input imaginable – is non-operable over whatever range of change in the minimum wage happens today to be on politicians’ agenda. These economically familiar intellectuals (some of whom are actual certified economists) today turn to textbooks stories of monopsony power to create the subtle justification for their faith that minimum-wage legislation will cause little or no reduction in the employment opportunities of low-skilled workers.

But as discussed here and elsewhere, the assertion that monopsony power exists in the market for low-skilled workers – and, more, that this power exists in a form that can easily be exploited by wise legislators to improve the lot of low-skilled workers – doesn’t pass the smell test. (Or, rather, it doesn’t pass my smell test, and – being an economically informed intellectual – I’m sufficiently arrogant to trust my sniffer on this one.)

…..

Bob Murphy is a very good economist as well as an exceptionally fine expositor of the economic way of thinking. He doesn’t mistake clever subtlety for wisdom. Central to that way of thinking is a keen eye for – and a correspondingly deep suspicion of – arguments that are premised on the proposition that some economic entities, without the benefit of any special privileges or protections granted to them by government, rake in, have raked in for a while, and will continue (in the absence of corrective government action) to rake in for the indefinite future, ‘surplus’ gains.

One odd fact about most of the folks who fall for such arguments (about the alleged reality of the lasting existence of unwarranted surpluses) is that these folks do not doubt that the world is full of grasping, greedy, clever, materialistic capitalist scoundrels who will single-mindedly and heartlessly do anything for a buck. Indeed, the existence of these surpluses – such as the alleged difference between the value of workers’ marginal products to their employers and the lower wages that these employers pay to their low-skilled workers – is often ‘explained’ by the assumed greed and heartlessness of the surplus-fattened exploiters.

I leave it to the reader to figure out why I describe this fact as “odd” – so odd that economically informed intellectuals, such as Alan Krueger, talk themselves into denying foundational economic principles in order to accept and lend credence to unsubtle man-in-the-street myths about the power of government diktats to uplift and improve society.

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