Economic Ideas, On and Off the Table

Fringe theories get a hearing as textbook solutions are shunned

moneyEconomics has traditionally been the media's favorite academic discipline. In normal times, the "consensus" of the economics profession (or at least what passes for consensus) tends to weigh heavily in the way reporters and editors cover political subjects--assuming that less-regulated trade is always beneficial, for example. But since the onset of the economic crisis, journalists have increasingly abandoned their habit of deferring to the views of mainstream economics.

As economist and New York Times columnist Paul Krugman often argues (e.g., 5/7/11), the answers to our economic problems that come from ordinary textbook economics have come to be seen as radical and unorthodox, while ideas that once would have been considered eccentric or unorthodox are now given a respectful hearing. The result is that some rather far-fetched "solutions" to our economic troubles are being seriously entertained by the media, while more obvious, even conventional, solutions are dismissed or ignored.

One of the most jarring recent trends in media economics discourse is the sudden visibility granted to proponents of that crank's standby, the gold standard. The United States, along with practically every other advanced economy, left the pure gold standard in the 1930s, never to return.

A country on the gold standard agrees to exchange its currency for gold at a specified ratio; this limits the growth of its money supply to the growth of its gold supply. There is a reason no rich country maintains such a policy: Without the ability to control its money supply, a country loses all control over interest rates and thereby gives up one of the main tools used to combat recessions. Nevertheless, a certain fringe on the right has always been enamored of the system, since it places the burden of economic adjustment on workers--whose nominal wages must fall in the event the country runs a gold-draining trade deficit--and tends to put downward pressure on government spending.

Thus the Washington Post (7/8/11) lent its op-ed page to conservative financial writer James Grant, who urged that the U.S. cut up its "credit card" (our paper money system) in favor of gold. Under the gold standard, he explained, a country with a trade deficit is denied the possibility of devaluing its currency to regain balance; instead, "by making the necessary economic adjustments, a deficit country can certainly restore its competitive position in the world." By "necessary economic adjustments," Grant means serious cuts in real wages--a solution being attempted right now, without particular signs of success, in European Union countries like Ireland, Portugal and Spain.

The Associated Press (5/20/11) gave Grant a platform to flog his views in an exclusive interview. He "would be easy to dismiss as an entertaining but irrelevant throwback if he hadn't been proven so right so often," AP business reporter Bernard Condon enthused.

So what is causing the crisis, and how can it be brought to an end? Economists disagree on many things, but virtually all would agree at least on this: When unemployment is high, the cause must either be a shortfall of aggregate demand or some "structural" problem in the labor market restricting the supply of workers who are able and willing to take the specific jobs on offer. (Or a combination of both.)

If the problem is one of demand--fueled, say, by a collapsing housing bubble removing $8 trillion in wealth from the economy (CEPR, 9/10)--the answer is some form of demand stimulus, either through monetary policy--lowering interest rates--or deficit spending. With the interest rates controlled by the Federal Reserve already at zero, that would leave deficit spending as the leading solution.

On the other hand, if unemployment is "structural," demand stimulus would have no effect on unemployment; since the problem in this scenario is a lack of ready and able workers, employers would be unable to hire the unemployed no matter how high the demand for their products.

The answer is clear, according to the bulk of economic reporting and commentary. "The loss of 8 million jobs reflects problems that are largely structural, not cyclical, which means they won't be brought back by fiddling with a magic dial in Washington that controls how much the government spends," wrote Washington Post economics columnist Steven Pearlstein (9/8/10).

CNBC reporter Brian Schactman (7/3/10) explained a weak jobs report by highlighting what "economists call structural unemployment. If you lose your job as an auto mechanic, the odds are you're not going to get as good a job as an auto mechanic. Maybe it's as a computer technician. And Americans right now need to retrain themselves to compete for those jobs."

"There's a major hurdle to the U.S. economy's recovery," explained an article on (1/8/10): "the mismatch between the skills held by the millions of people who are losing jobs and the expertise needed for the few jobs that are being created." "The mismatch is there," writer Allison Linn quoted a business economist. "People with certain kinds of skills that may not be readily transferable to other parts of the economy...continue to be hit really hard in this downturn."


But nearly every measure one would expect to see if unemployment were largely structural is absent from the data. Rarely has such a widely touted economic theory been so overwhelmingly rejected by the available evidence. If employers in some sector of the economy were desperate to find qualified workers but couldn't, they would be working their existing workforce longer hours; yet in virtually every industry, hours worked per employee was the same or lower in 2010 compared to 2007, before the recession started (CEPR Blog, 2/2/11).

If high unemployment were caused by workers' failure to keep up as new economic sectors rise and decline, you would expect to see those workers who were displaced from the industries hardest hit by the bust--construction is the leading example--having an exceptionally difficult time finding reemployment. Instead, construction workers laid off in the recession were slightly more likely to have found new work by early 2010 than the workers in the rest of the economy (CEPR, "Deconstructing Structural Unemployment," 3/11).

The most striking test of the structural unemployment theory is the simplest: If employers couldn't find the workers they needed, they would say so when asked in surveys; yet in the monthly survey of small businesses carried out by the National Federation of Independent Business, the percentage of firms citing either "labor quality" or "labor cost" as their most important problem fell significantly since 2007--while the share citing poor "sales"--i.e., inadequate demand--soared (Ezra Klein blog, 7/22/10).

Of all the ideas put forward since the recession started, maybe the simplest and most sensible is job-sharing, an idea championed by the economist Dean Baker of the Center of Economic and Policy Research (6/11). Instead of laying off workers, the government would encourage employers to cut their hours, with the workers on short time being paid unemployment insurance to make up for most of the lost wages.

The policy was implemented by the conservative government in Germany and was so successful that the unemployment rate there actually fell during the recession, despite the fact that Germany, like the U.S., experienced a decline in GDP. A few conservative economists in the U.S. have even embraced the idea, including Kevin Hassett of the American Enterprise Institute (L.A. Times, 4/5/10).

But apparently it's an idea that's too sensible for the corporate media. While explanations based on structural unemployment abound in economic news stories, mentions of job-sharing are a rarity.

Finally, the one policy solution that comes straight from textbook economics--greater fiscal stimulus--has been definitively taken off the table by both politicians and the media. As L.A. Times political columnist Doyle McManus wrote (7/28/11):

[Republicans have] won the debate over whether we need to focus immediately on reducing the deficit and the debt. They've won the debate over whether a deficit fix should include tax increases for high-income earners.... They are slowly winning the debate over putting cuts in future Medicare and Social Security benefits on the table. (Even Obama agreed to that, infuriating many of his liberal supporters.)

The scale of the Republican success could be measured in the doleful statement that former Speaker Nancy Pelosi issued Monday. "It is clear we must enter an era of austerity, to reduce the deficit through shared sacrifice," she said.

Taking their cues from the "winners" of the political debate, the media have made its message clear: There is no alternative.