Mankiw’s Principles of Economics Part 8: A Country’s Standard of Living Depends on Its Ability to Produce Goods and Services
The introduction to this series is here.
Part 1 is here.
Part 2 is here.
Part 3 is here.
Part 4 is here.
Part 5 is here.
Part 6 is here.
Part 7 is here.
Mankiw’s eighth principle of economics is: a country’s standard of living depends on its ability to produce goods and services. He points out that there are vast differences between the average incomes of different countries. In the US, average income has increased about 2% per year adjusted for increases in the cost of living, he says, and doubles about every 35 years. The explanation for this change is productivity, defined as “the amount of goods and services produced from each unit of labor time.” The growth rate of a nation’s productivity determines the growth rate of its average income, he asserts. He dismisses other explanations, such as the prevalence of labor unions and minimum wage laws. He claims that US productivity dropped in the 1970s which accounts for the slow growth of average wages over that period. He concludes with this claim:
To boost living standards, policymakers need to raise productivity by ensuring that workers are well-educated, have the tools needed to produce goods and services, and have access to the best available technology.
This principle supports Philip Mirowski’s Sixth Commandment of Neoliberalism: Thou Shalt Become the Manager of Thyself. “Human beings [are reduced] to an arbitrary bundle of “investments,” skill sets, temporary alliances (family, sex, race), and fungible body parts.” The goal of the entrepreneur of you is to find some way to make yourself valuable enough to fill a slot in some corporate entity that will pay off on your investments. It also supports the Ninth Commandment, Thou Shalt Know that Inequality is Natural, because it tells the entrepreneur of you that if you fail, it’s your fault for being insufficiently productive. The problem is always the workers; and never the owners of capital for they can do no wrong. That comes from the Tenth Commandment, Thou Shalt Not Blame Corporations and Monopolies, especially for investing their capital in foreign countries so jobs are created there instead of in the US. After all, the free flow of capital is critical in Capitalism, as we learn in Mirowski’s discussion of Commandment 8: Thou Shalt Keep Thy Cronyism Cosmopolitan.
Mankiw’s explanation is intellectually dishonest. He only talks about average incomes, not median incomes, and not the incomes of the working people of the US. That enables him to paint a false picture of the economy, and of the role of productivity in increasing standards of living. The leading work on this issue was done by Larry Mishel at the Economic Policy Institute. His April 2012 paper, The Wedges Between Productivity And Median Compensation Growth is the seminal work on this issue. Here’s an updated chart showing the disparity between wages and productivity. For a discussion of the productivity measurement, see this 2014 Bureau of Labor Statistics paper. It’s important to note that Mishel is using the median wage growth for production/non-supervisory workers, not total labor compensation. With this statistic, we look at the actual experience of approximately 80% of workers.
According to Mishel, the gap in the chart from 2000 to 2011 is the result of three factors (see Table 1):
1. Income inequality increased, with the great gains going to the top few percentiles and the rest stagnant or falling, accounting for 39% of the gap.
2. Income shifted from labor to capital, accounting for 45% of the gap.
3. Output prices diverged from consumer prices, accounting for 16% of the gap.
Dave Dayen discusses Mishel’s paper here, focusing on efforts of conservatives to discredit Mishel’s work. The only consideration that seems even questionable is 3, and Dayen’s discussion seems fair. He concludes with this:
If you believe the Lawrence/Yglesias argument, policies that raise wages are secondary to policies that raise productivity more generally. If you believe the Mishel argument, reconnecting wages to productivity becomes central. Rather than stressing the need to acquire more education and skills, you would support increasing the minimum wage and allowing for more union organizing to put leverage in the hands of labor over capital. You would support proper use of overtime laws to reduce wage theft, and paid family and medical leave to keep wages strong during times of family stress.
But if productivity gains just leak out to the wealthy through financial engineering, all the growth in the world won’t benefit the typical worker.
Mankiw doesn’t acknowledge the problems with his principle, problems which have been evident for a long time as the chart shows. The source of this principle is the neoclassical argument of William Stanley Jevons and John Bates Clark which I discuss in detail here and here. Mankiw is preaching from the Natural Law Bible without mentioning it. This is a perfect example of Keynes’ dismissive statement on these writers: “We have not read these authors; we should consider their arguments preposterous if they were to fall into our hands.“ Certainly this principle is preposterous both factually and theoretically.
Sad to say, this week the New York Review of Books gave not-the-Nobel-Prize winning economist Edmund Phelps a platform for an anti-Mishel piece
(without actually mentioning Mishel by name). Phelps repeatedly refers to “the slowdown in productivity ” as a cause of our current woes, totally ignoring the statistics showing the decoupling of productivity from wage growth for most people. Mankiw would doubtless approve.
http://www.nybooks.com/articles/archives/2015/aug/13/what-wrong-wests-economies/
I saw that article, and I wondered what Phelps was talking about. The figures on productivity show general increases steadily since the initial report, as my chart shows. There has been some recent softening in productivity growth, which I’d guess is driven by weak CapEx in the wake of the Great Crash, but I haven’t seen anything to suggest that productivity has fallen.
The author of this comment was warned that comments based on AEI “studies” are not allowed on my posts. This comment, which related to alleged loss of restaurant jobs in Seattle in the wake of recent increases in the minimum wage, arises from a “report” by that hack operation, without a link. I won’t post the link either.
Next time the author will be barred from posting.
Ed Walker
[citation needed]
Because every place that’s raised the minimum wage has seen the local economy improve as more people have money to spend.
rising wages create rising demand; your prejudices don’t change that.
firing people because the boss doesn’t want to pay them a certain wage simply lowers demand in the community, including demand for the boss’ product.
you’ve told nobody anything of use, merely made clear what you value most – low, stable wages.
in fact, if one imagines a city where many bosses fire their fast food employees due to a higher wage these employers choose not to pay,
and one imagines some mankiwian invisible hand is at work in the collective result of the thought processes and actions of these bosses, then one has an example of the invisible hand creating a damaging economic situation for the city rather than a socially beneficial one.
Good article, good analysis, thank you.
How exactly is productivity measured? I’ve never quite grasped that. In principle, if people are paid by productivity and productivity is measureable it could be very obvious whether workers or managers or CEOs are or are not in fact productive.
Moreover, it would be obvious which societies are non-productive for what reasons.
The theoretical concept and formula is clear social physics. It’s getting from the data in the real world to there that never seems to make it.
What the above diagram does is compare two conventional wisdom narratives about what is going on and then asks why the purported relationship does not show up. The narrative that is Occam’s Razor of an explanation is the obvious one that the boss is screwing you. Well, gee. One doesn’t need Econ 101 to figure that out.
A country’s standard of living is dependent on its ability to command goods and services. That means that there is a power relationship hidden in the transactions somewhere.
The BLS link in the post offers an explanation of their calculation. It’s not particularly sophisticated.
This?
So we have the growth rate of the dollar value of output; then we subtract the growth rate in total hours of labor. And that is the productivity, which then can be attributed to capital investments in technology and training and distributed to the owner of the capital. Wages and salaries flat; labor contributes nothing to productivity growth. Is not that the accounting logic that appears in the above chart? Is that not the logic behind the theft that occurs with the manipulation of the demand for labor. “Tight labor market” is the oligarchy’s signal for a recession, er cutting costs. Which is why recessions do not become the investment opportunity for changes in equipment and upgrades in training when the operation pace is slower.
This is a fundamental feature of neoliberalism. I believe the notion originally appears in Foucault’s lectures on The Birth of Biopolitics. In Chapter 9 he discusses homo economicus being an “entrepreneur of himself”. This in in the context of his discussion of American neoliberalism. and continues into the following chapters. He’s particularly interested in the ideas of Gary Becker and they way non-economic behaviors become conceptualized as economic i.e. economics becomes totalizing.
It seems to me that compensation should include SS, pensions and health care. Those are significant costs, whether paid by the corporation or by the individual. When an employee is hired, the corporation pays SS and other benefits like health care and pensions to or on behalf of the employee. That is a cost that is not going to the corporations bottom line profits. So if, as you say, that chart tallies only wages it misses a lot of labor cost. So what am I missing?
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My sense is there would still be a gap but perhaps not as large. However, health care costs for the individual with large deductibles is increasing.
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Is it correct to assume that if productiivty becomes stagnant or contracts and compensation increases, we should expect inflation and a recession? Or if compensation simply outpaces productiivty the same thing would happen? That would lead the neoliberals to oppose increases in the minimum wage or of any other factor of compensation. To avoid inflation or recession, profits would also have to fall.
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Recent productivity numbers are not terribly encouraging. There is a lot to process here.
From the linked Dayen article:
The problem is that the entitled thugs that run big corporations aren’t taking pay cuts and their shareholders who have been sucking up whatever the corporate thugs can’t take for themselves won’t agree to lower returns. Generally that’s the case with all capitalists, regardless of the size o the business. Corporate profits are higher than ever, and the corporate share is eating up the labor share. How does that change? Maybe HRC has some ideas. Personally I like taxing the bloody hell out of all of them. That will discourage them from taking all the money in the first place, maybe. Yes, that’s Bernie Sanders’ plan.
Non wage benefits need to be included. It would make no sense if, say, wages remained the same but benefits increased significantly. It is paid for the benefit of the worker.
I think we need a catch up in compensation. An increase in the minimum wage will help with that as will single payer health care. A catch up won’t result in compensation exceeding productivity. I know Bernie is pushing for that. Problem is his chances of winning are probably slim and none. I believe Clinton is on board with the wage increase.
Taxing them sounds good but that starts the class war big time. Benefit changes, including education, could level the playing field. Capitalists will always be looking for growth. We need to be sure that labor shares in that growth. That graph shows that has not been the case for some long time now. Catch up time.
“taxing them sounds good but that starts the class war big time.”
don’t worry about “class warfare”. it’s just a big “boooo!”, a rhetorical device used by the republican supporters of the rich an corporate rich to scare timid liberals away from well-merited criticism and well-merited political and legislative action.
intensely, persistently challenge the reality behind the term (the rich corrupt politics for their benefit and attempt to beggar their fellow citizens) and watch its use dissappear like the grin on the cheshire cat.
Yes, you are right. My thought though had to do with my desire to secure some improvement for the working person first, like an increase in the minimum wage and improvements in education and health care. I suspect that talking about raising taxes on the rich ( well deserved though it may be) will suck the oxygen out of the air as we “debate” the merits of raising taxes in shouting matches. However, I also have this thought that some of the inequality we see will be fixed by improvements in the economic well being of the middle class.
i understand that desire. alas from my pov :), the temptation to raise a fuss, e.g., challenging the specious use in contemporary american politics of “class warfare”, can derail more productive political activity.
The other thing to point out on Ed’s paragraph on Mankiw’s 8th principle being in accordance with Mirowski’s 6th, 9th and 10th commandments of neoliberalism is that these commandments are all inconsistent with classical liberalism of Adam Smith. The term neoliberal is a misnomer. There is nothing liberal about it at all. It has much more in common with a style of authoritarian thinking that developed in Europe in the period between the World Wars. But it’s politically more expedient to portray oneself as the inheritor of the traditions of the Scottish Enlightenment rather than those of anti-liberal thinkers of Carl Schmitt’s ilk. Mirowski makes this point as well but read Scheuerman’s book for the detailed argument. This is where Ed’s posts collide with Marci’s. The surveillance state and neoliberalism are two-sides of the same coin (Foucault was already onto this in the 1970s and I imagine some of this ground will be covered further in Harcourt’s new book).
i have come to think of “neoliberalism” as simply the economic cover, the exoskeleton, of a generalized political approach to ruling. ew’s recent column on syria, assad, and selected syrian weathy provided the extension from the euro-american democracies. keep the wealthy and corporate wealthy happy and you are a much more secure ruler.
in a way, this is just a version of fascism in which government and private power collude to achieve and maintain control, which rapidly devolves into the rich and corporate rich seeking out and rewarding the politically willing and capable. the recent development of powerful electronic surveillance methods with an extremely generalized reach makes the maintenance of power by whoever controls that surveillance apparti much easier.
Related to the increasing wage-productivity gap is the associated loss of social ties between economic elites and any individual society – be it in Cleveland, OH, North Carolina, the US, or the industrialized world. That has economic and political as well as social effects.
The gap is expressed in such things as severing of corporate management from the locations in which a corporation manufactures and/or sells its goods or services. This is true at the plant and divisional level as well as the corporate level. The epitome is found in companies such as Nike, which outsources virtually everything.
Henry Ford became famous for “overpaying” his workers, paying them more than the then prevailing wage in Detroit so that they could afford to buy the products they made – Ford’s cars. There’s not much of that behavior today. Wal-Mart, for example, can underpay its workers – forcing many to live on government assistance, even while taxpayers subsidize the building a Wal-Mart (or Target or Cabela) store – so long as someone’s employees earn enough to shop at Wal-Mart. For Wal-Mart, in fact, the lower an area’s wages (an immediate effect of opening a Wal-Mart), the more its inhabitants are forced to shop at its stores.
Concentrated wealth is the objective of the neoliberal thought collective. The NTC would see the wage-productivity gap as a feature, not a bug.
Mankiw’s rule must be taken as a necessary condition, not a sufficient one.
please stop ad hominem academics..
This is your first comment on this site. Let me explain the rules.
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1. This post is full of links. It’s one of a series that followed another long series on Kuhn that motivated this series. You haven’t read any of that material, so you have no idea what I’m talking about. If you want to comment, you have to have a clear idea of what’s happening. If you can’t manage that, you will not be allowed to post here. For an example, see comment 2.
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3. Substantively you are wrong. Mankiw says these 10 principles are common among economists. If he intended to convey the idea that this was a necessary but not sufficient condition, he would have said so. Remember, this is a very old textbook, and he’s had plenty of time to correct such a basic error. More important, it’s easy to think of counterexamples. I leave that as an exercise for you.
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4. There is nothing ad hominem in this post. The statement that this principle is preposterous is directed at the principle, not at Mankiw. Here’s a bit of ad hominem: Mankiw is a conservative hack who sold his tiny stock of intellectual honesty to the billionaire class for a few dollars; therefore, his ideas are worthless to decent people.