Who are the job creators?

JDN 2456956 PDT 11:30.

For about 20 years now, conservatives have opposed any economic measures that might redistribute wealth from the rich as hurting “job creators” and thereby damaging the economy. This has become so common that the phrase “job creator” has become a euphemism for “rich person”; indeed, when Paul Ryan was asked to define “rich” he stumbled over himself and ended up with “job creators”. A few years ago, John Boehner gave a speech saying that ‘the job creators are on strike’. During his presidential campaign, Mitt Romney said Obama was ‘waging war on job creators’.

If you get the impression that the “job creator” narrative is used more often now than ever, you’re not imagining things; the term was used almost as many times in a single month of Obama’s presidency than it was in George W. Bush’s entire second term.

This narrative is not just wrong; it’s utterly ludicrous. The vision seems to be something like this: Out there somewhere, beyond the view of ordinary mortals, there lives a race of beings known as Job Creators. Ours is not to judge them, not to influence them; ours is only to appease them so that they might look upon us with favor and bestow upon us our much-needed Jobs. Without these Jobs, we will surely die, and so all other concerns are secondary: We must appease the Job Creators.

Businesses don’t create jobs because they feel like it, or because they love us, or because we have gone through the appropriate appeasement rituals. They don’t create jobs because their taxes are low or because they have extra money lying around. They create jobs because they see profit in it. They create jobs because the marginal revenue of hiring an additional worker exceeds the marginal cost.

And of course they’ll gladly destroy jobs for the exact same reasons; if they think the marginal cost exceeds the marginal revenue, out come the pink slips. If demand for the product has fallen, if the raw materials have become more expensive, or if new technology has allowed some of the labor to be cheaply automated, workers will be laid off in the interests of the company. In fact, sometimes it won’t even be in the interests of the company; corporate executives are lately in the habit of using layoffs and stock buybacks to artificially boost the value of their stock options so they can exercise them, pocket the money, and run away as the company comes crashing to the ground. Because of market deregulation and the ridiculous theory of “shareholder value” (as though shareholders are the only ones who matter!), our stock market has changed from a system of value creation to a system of value extraction.

What actually creates jobs? Demand. If the demand for their product exceeds the company’s capacity to produce it, they will hire more people in order to produce more of the product. The marginal revenue has to go up, or companies will have no reason to hire new workers. (The marginal cost could also go down, but then you get low-paying jobs, which isn’t really what we’re aiming for.) They will continue hiring more people up until the point at which it costs more to hire someone than they’d make from selling the products that person could make for them.

What if they don’t have enough money? They’ll borrow it. As long as they know they are going to make a profit from that worker, they will gladly borrow money in order to hire them. Indeed, corporations do this sort of thing all the time. If banks stop lending, that’s a big problem—it’s called a credit crunchand it’s a major part of just about any financial crisis. But that isn’t because rich people don’t have enough money, it’s because our banking system is fundamentally defective and corrupt. Yes, fixing the banking system would create jobs in a number of different ways. (The biggest three I can think of: There would be more credit for real businesses to fund investment, more credit for individuals to increase demand, and labor effort that is currently wasted on useless financial speculation would be once again returned to real production.) But that’s not what Paul Ryan and his ilk are talking about—indeed, Paul Ryan seems to think that we should undo the meager reforms we’ve already made. Unless we fundamentally change the financial system, the way to create jobs would be to create demand.

And what decides demand? Well, a lot of things I suppose; preferences, technologies, cultural norms, fads, advertising, and so on. But when you’re looking at short-run changes like the business cycle, the driving factor in most cases is actually quite simple: How much money does the middle class have to spend? The middle class is where most of the consumer spending comes from, and if the middle class has money to spend we will buy products. If we don’t have money to spend—we’re out of work, or we have too much debt to pay—then we won’t buy products. It’s not that we suddenly stopped wanting products; the utility value of those products to us is unchanged. The problem is that we simply can’t afford them anymore. This is what happens in a recession: After some sort of shock to the economy, the middle class stops being able to spend, which reduces demand. That causes corporations to lay off workers, which creates unemployment, which reduces demand even further. To correct for the lost demand, prices are supposed to go down (deflation); but this doesn’t actually work, for two reasons.

First, people absolutely hate seeing their wages go down; even if there is a legitimate economic reason, people still have a sense that they are being exploited by their employers (and sometimes they are). This is called downward nominal wage rigidity.

Second, when prices go down, the real value of debt doesn’t go down; it goes up. Your loans are denominated in dollars, not apples; so reducing the price of apples means that you actually owe more apples than you did before. Since debt is usually one of the big things holding back spending by the middle class in the first place, deflation doesn’t correct the imbalance; it makes it worse. This is called debt deflation. Maybe we shouldn’t call it that, since the problem isn’t the prices, it’s the debt. In 2008, the first thing that happened wasn’t that prices in general went down, which is what we normally mean by “deflation”; it was that housing prices went down, and so suddenly people owed vastly more on their mortgages than they had before, and many of them couldn’t afford to pay. It wasn’t a drop in prices so much as a rise in the real value of debt. (I actually think one of the reasons there is no successful comprehensive theory of the cause of business cycles is that there isn’t a single comprehensive cause of business cycles. It’s usually some form of financial crisis followed by debt deflation—and these are the ones to be worried about, 1929 and 2008—but that isn’t always what happens. In 2001, we actually had an unanticipated negative real economic shock—the 9/11 attacks. In 1973 we had a different kind of real economic shock when OPEC raised oil prices at the same time as the US hit peak oil. We should probably be distinguishing between financial recession and real recession.)

Notice how in this entire discussion of what drives aggregate demand, I have never mentioned rich people getting free money; I haven’t even mentioned tax rates. If you have the simplistic view “taxes are bad” (or the totally insane, yet still common, view “taxation is slavery”), then you’re going to look for excuses to lower taxes whenever you can. If you specifically love rich people more than poor people, you’re going to look for excuses to lower taxes on the rich and raise them on the poor (and there is really no other way to interpret Mitt Romney’s infamous “47%” comments). But none of this has anything to do with aggregate demand and job creation. It is pure ideology and has no basis in economics.

Indeed, there’s little reason to think that a tax on corporate profits or capital income would change hiring decisions at all. When we talk about the potential distortions of income taxes, we really have to be talking about labor income, because labor can actually be disincentivized. Say you’re making $15 an hour and not paying any taxes, but your tax rate is suddenly raised to 40%. You can see that after taxes your real wage is now only $9, and maybe you’ll decide that it’s just not worth it to work those hours. This is because you pay a real cost to work—it’s hard, it’s stressful, it’s frustrating, it takes up time.

Capital income can’t be disincentivized. You can have relative incentives, if you tax certain kinds of capital more than others. But if you tax all capital income at the same rate, the incentives remain exactly as they were before: Seek the highest return on investment. Your only costs were financial, and your only benefits are financial. Yes, you’ll be unhappy that your after-tax return on investment has gone down; but it won’t change your investment decisions. If you previously had the choice between investment A yielding 5% return and investment B yielding a 10% return, you’d choose B. Now you pay a 40% tax on capital income; you now have a choice between a 3% real return on A and a 6% real return on B—you’re still going to choose B. That’s probably why high marginal tax rates on income don’t reduce job growth—because most high incomes are capital incomes of one form or another; even when a CEO reports ordinary income it’s really a due to profits and stock options, it’s not like he was paid a wage for work he did.

To be fair, it does get more complicated when you include borrowing and interest rates (now you have the option of lending your money at interest or borrowing more from someone else, which may be taxed differently), and because it’s so easy to move money across borders you can have a relative incentive even when tax rates within a given nation are all the same. Don’t take this literally as saying that you can do whatever you want with taxes on capital income. But in fact you can do quite a lot, because you can change the real rate of return and have no incentive effect as long as you don’t change the relative rate of return. That’s different from wages, for which the real value of the wage can have a direct effect on employers and employees. (The only way to have the same effect on workers would be to somehow lower the real cost of working—make working easier or more fun—which actually sounds like a great idea if you can do it.) The people who are constantly telling us that workers need to tighten their belts but we mustn’t dare tax the “job creators” have the whole situation exactly backwards.

There’s something else I should bring up as well. In everything I’ve said above, I have taken as given the assumption that we need jobs. For many people, probably most Americans in fact, this is an unquestioned assumption, seemingly so obvious as to be self-evident; of course we need jobs, right? But no, actually, we don’t; what we need is production and distribution of wealth. We need to make food and clothing and houses—those are truly basic needs. We could even say we “need” (or at least want) to make televisions and computers and cars. As individuals and as a society we benefit from having these goods. And in our present capitalist economy, the way that we produce and distribute goods is through a system of jobs—you are paid to make goods, and then you can use that money to buy other goods. Don’t get me wrong; this system works pretty well, and for the most part I want to make small adjustments and reforms around the edges rather than throw the whole thing out. Thus far, other systems have not worked as well; when we have attempted to centrally plan production and distribution, the best-case scenario has been inefficiency and the worst-case scenario has been mass starvation.

But we should also be open to the possibility of other systems that are better than capitalism. We should be open to the possibility of a culture like, well, The Culture (and if you haven’t read any Iain Banks novels you should; I’d probably start with Player of Games), in which artificial intelligence and automation allows central planning to finally achieve efficient production and distribution. We should be open to the possibility of a culture like the Federation (and don’t tell me you haven’t seen Star Trek!), in which resources are so plentiful that anyone can have whatever they want, and people work not because they have to, but because they want to—it gives them meaning and purpose in their lives. Fanciful? Perhaps. But lightspeed worldwide communication and landing robots on other planets would have seemed pretty fanciful a century ago.
Capitalism is really an Industrial Era system. It was designed in, and for, a world in which the most important determinants of production are machines, raw materials, and labor hours. But we don’t live in that world anymore. The most important determinants of production are now ideas; software, research, patents, copyrights. Microsoft, Google, and Amazon don’t make things at all, they make ideas; Sony, IBM, Apple, and Toshiba make things, but those things are primarily for the production and dissemination of ideas. Ideas are just as valuable as things—if not more so—but they obey different rules.

Capitalism was designed for a world of rival, excludable goods with increasing marginal cost. Rival, meaning that if one person has it, someone else can’t have it anymore. We speak of piracy as “stealing”, but that’s totally wrong; if you steal something I have, I don’t have it anymore. If you pirate something I have, I still have it. If I gave you my computer, I wouldn’t have it anymore; but I can give you the ideas in this blog post and then we’ll both have them. Excludable, meaning that there is a way to prevent someone else from getting it if you don’t want them to. And increasing marginal cost, meaning that the more you make, the more it costs to make each one. Under these conditions, you get a very nice equilibrium that is efficient under competition.

But ideas are nonrival, they have nearly zero marginal cost, and we are increasingly finding that they aren’t even very excludable; DRM is astonishingly ineffective. Under these conditions, your nice efficient equilibrium completely evaporates. There can be many different equilibria, or no equilibrium at all; and the results are almost always inefficient. We have shoehorned capitalism onto an economy that it was not designed to deal with. Capitalism was designed for the Industrial Era; but we are now in the Information Era.

Indeed, you can see this in all our neoclassical growth models: K is physical capital—machines—and L is labor, and sometimes it is augmented with N—natural resources. But these typically only explain about 50% of the variation in economic output, so we add an extra term, A, which goes by many names: “productivity”, “efficiency”, “technology”; I think the most informative one is actually “the Solow residual”. It’s the residual; it’s the part we can’t explain, dare I say, the part capitalism isn’t designed to explain. It is, in short, made of ideas. One of my thesis papers is actually about this “total factor productivity”, and how a major component of it is made up of one class of ideas in particular: Corruption. Corruption isn’t a thing, some object in space. It’s a cultural norm, a systemic idea that permeates the thoughts and actions of the whole society. It affects what we do, whom we trust, how the rules are made, and how well we follow those rules. You can even think of capitalism as an idea, a system, a culture—and a good part of “productivity” can be accounted for by “market orientation”, which is to say how capitalist a nation is. I would like to see someday a new model that actually includes these factors as terms in the equation, instead of throwing them all together in the mysterious A that we don’t understand.

With this in mind, we should be asking ourselves whether we need jobs at all, because jobs are a system designed for the production of physical goods in the Industrial Era. Now that we live in the Information Era and most of our production is in the form of ideas, do we still need jobs? Does everyone need a job? If you’re trying to make cars for a million people, it may not take a million people to do it, but it’s going to take thousands. But if you’re trying to design a car for a million people, or make a computer game about cars for a million people to play, that can be done with a lot fewer people. Ideas can be made by a few and then disseminated to the world. General Motors has 200,000 employees (and used to have about twice as many in the 1970s); Blizzard Entertainment has less than 5,000. It’s not because they produce for fewer people; GM sells about 3 million cars a year, and Starcraft sold over 11 million copies. Starcraft came out in 1998, so I added up how many cars GM sold in the US since 1998: 61 million. That’s still 3.28 employees per thousand cars sold, but only 0.45 employees per thousand computer games sold.

Still, I don’t have a detailed account of what this new jobless economic system might look like. For now, it’s probably best if people have jobs. But if we really want to create jobs, we need to increase aggregate demand. That most likely means either reducing debt or giving more money to consumers. It certainly doesn’t have anything to do with tax cuts for the rich.

And really, this is pretty obvious; if you stop and think for a minute about why businesses create jobs, you realize that it has to do with demand for products, not how nice the government treats them or how much extra cash they have laying around. I actually have trouble believing that the people who say “job creators” unironically actually believe the words they are saying. Do they honestly think that rich people create jobs out of sheer brilliance and benevolence, but are constrained by how much money they have and “go on strike” if the government doesn’t kowtow to them?

The only way I can see that they could actually believe this sort of thing would be if they read so much Ayn Rand that it totally infested their brains and rendered them incapable of thinking outside that framework. Perhaps Krugman is right, and Rand Paul really does believe that he is John Galt. Maybe they really do honestly believe that this is how economics works—in which case it’s no wonder that our economy is in trouble. Indeed, the marvel is that it works at all.

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