Gene Epstein: Murray Rothbard’s Mixed Legacy

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@LivingWageUK documents the Achilles heel of the #livingwage

Research publicised by a Living Wage UK highlighted the Achilles heel of any living wage proposal. This Achilles heel applies to the voluntary adoption of the living wage and a living wage mandated through minimum wage laws.

The critique to follow accepts pretty much everything claimed by the living wage movement about the benefits of the living wage but simply traces out the consequence of this one promised benefit.

Source: New evidence of business case for adopting Living Wage   Living Wage Foundation.

The living wage is substantially above the minimum wage. Offering the living wage will change the composition of the recruitment pool of low-wage employers. This is the Achilles heel of the living wage which Living Wage UK documents in its study it tweeted about and from which I have taken the above snapshot.

Jobseekers would not have considered vacancies by these employers will now apply because of the living wage increase. These better calibre applicants will win those jobs ahead of the jobseekers whose current productivity levels are less than that to justify the cost of the living wage.

Central to the living wage rhetoric is that somehow employees will be more productive because of the adoption of the living wage.

The simplest way of doing that for an employer is to hire more qualified, more productive employers are no longer a hire the type of people you currently hire. They will be unemployed or pushed into the non-living wage sector of the low-wage market.

A living wage is an exclusionary policy where ordinary workers, often with families who are not productive enough to produce $19.25 per hour living wage plus overheads will never be interviewed.

The workers with the type of skills that currently win those jobs covered by a living wage increase will not be shortlisted because the quality of the recruitment pool will increase because of the living wage.

There will be an influx of more skilled workers attracted by the higher wages for living wage jobs. They will go to the head of the queue and displaced workers who currently apply for and win these jobs before the adoption of the living wage.

Any extra labour productivity from paying a living wage increase is in doubt because low skilled service sectors are notorious for their low potential for productivity gains. They are the bread-and-butter of Baumol’s disease.

The modern theories of the firm focus, in part or in full on reducing opportunistic behaviour, cheating and fraud in employment relationships. The cost of discovering prices and making and enforcing contracts and getting what you pay for are central to Coase’s theory of the firm put forward in 1937.

The profits of entrepreneurs for running a firm is directly linked from their successful policing of the efforts of employees and sub-contractors to ensure the team and each member perform as promised and individual rewards matched individual contributions (Alchian and Demsetz 1972; Barzel 1987). Alchian and Demsetz’s (1972) theory of the firm focused on moral hazard in team production. As they explain:

Two key demands are placed on an economic organization-metering input productivity and metering rewards.

The main rationale in personnel economics from everything ranging from employer funding of retirement pensions to the structure of promotions and executive pay including stock options is around better rewarding self-motivating employees who strive harder and reducing the costs of monitoring employee effort.

At bottom, the efficiency wage hypothesis is entrepreneurs are unaware of the higher quality and greater self-motivation of better paid recruits for vacancies but wise bureaucrats and farsighted politicians notice these gaps in the market. Bureaucrats and politicians notice these gaps in the market before those who gain from superior entrepreneur alertness to hitherto untapped opportunities for profit do so and instead leave that money on the table.

It’s kicking the living wage movement when it is down to mention that low paid workers with families will lose a considerable part of the living wage increase because of reductions in family tax credits and in-kind assistance from the government that are linked to their pay.

Their jobs are put at risk because of a large increase in the cost of employing them to their employers. Their take-home pay after taxes, family tax credits and other government assistance increases by much less. This is a pointless gamble with job security because of the much small increase in the take-home pay of many breadwinners on the living wage.

At least 20% of New Zealand workers are subject to occupational regulation

There are at least 98 regulated occupations in New Zealand covering about 20% of the workforce. In 2011, this amounts to 440,371 workers. The skills that are regulated range across all skill sets and many occupations:

  • 49% of regulation is in the form of a licence;
  • 18% of regulated work is in the form of licensing of tasks;
  • 31% of regulated workers require a certificate; and
  • 4% of regulated workers require registration.

There are 32 different governing Acts that regulated occupations in New Zealand with 55% of the workers subject to occupational regulation are employed in just five occupations:

  • 98,000 teachers;
  • 48,500 nurses;
  • 42,730 bar managers;
  • 32,733 chartered accountants; and
  • 22,749 electricians.

The Health Practitioners Competency Assurance Act 2003 regulates 22 occupations and a total of 89,807 workers. The next best is the 10 occupations regulated by the Health and Safety in Employment Act 2002 which regulates an unknown number of occupations. The Civil Aviation Act 1990 regulates eight occupations and 19,095 workers, the Building Act 2004 regulates seven occupations and 21,101 workers and the Maritime Transport Act 1994 regulates six occupations and 20,500 workers. 12 of the regulated occupations are regulated under laws passed since 2007.

The purpose of occupational regulation is to protect buyers from quacks and lemons – to overcome asymmetric information about the quality of the provider of the service.

Adverse selection occurs when  the seller knows more than the buyer about the true quality of the product or service on offer. This can make it difficult for the two people to do business together. Buyers cannot tell the good from the bad products on offer so many they do not buy to all and withdraw from the market.

Goods and services divide into inspection, experience and credence goods.

  • Inspection goods are goods or services was quality can be determined before purchase price inspecting them;
  • Experience goods are goods whose quality is determined after  purchase in the course of consuming them; and
  • Credence goods are goods  whose quality may never be known for sure  as to whether the good or service actually worked – was that car repair or medical procedure really necessary?

The problem of adverse selection over experience and credence goods present many potentially profitable but as yet unconsummated wealth-creating transactions because of the uncertainty about quality and reliability.

Buyers are reluctant to buy if they are unsure of quality, but if such assurances can be given in a credible manner, a significant increase in demand is possible.

Any entrepreneur who finds ways of providing credible assurances of the quality of this service or work stands to profit handsomely. Brand names and warranties are examples of market generated institutions that overcome these information gaps through screening and signalling.

Screening is the less informed party’s effort, usually the buyer, to learn the information that the more informed party has. Successful screens have the characteristic that it is unprofitable for bad types of sellers to mimic the behaviour of good types.

Signalling is an informed party’s effort, usually the seller, to communicate information to the less informed party.

The main issue with quacks in the labour market is whether there are a large cost of less than average quality service, and is there a sub-market who will buy less than average quality products in the presence of competing sellers competing on the basis of quality assurance. This demand for assurance creates opportunities for entrepreneurs to profit by providing assurance.

David Friedman wrote a paper about contract enforcement in cyberspace where the buyer and seller is in different countries so conventional mechanisms such as the courts are futile in cases where the quality of the good is not as promised or there is a failure to deliver at all:

Public enforcement of contracts between parties in different countries is more costly and uncertain than public enforcement within a single jurisdiction.

Furthermore, in a world where geographical lines are invisible, parties to publicly enforced contracts will frequently not know what law those contracts are likely to fall under. Hence public enforcement, while still possible for future online contracts, will be less workable than for the realspace contracts of the past.

A second and perhaps more serious problem may arise in the future as a result of technological developments that already exist and are now going into common use. These technologies, of which the most fundamental is public key encryption, make possible an online world where many people do business anonymously, with reputations attached to their cyberspace, not their realspace, identities

Online auction and sales sites address adverse selection with authentication and escrow services, insurance, and on-line reputations through the rating of sellers by buyers.

E-commerce is flourishing despite been supposedly plagued by adverse selection and weak contract enforcement against overseas venders.

In the labour market, screening and signalling take the form of probationary periods,  promotion ladders, promotion tournaments, incentive pay and the back loading of pay in the form of pension investing and other prizes and bonds for good performance over a long period.

In the case of the labour force, there are good arguments that a major reason for investments in education is as a to signal quality, reliability, diligence as well as investment in a credential that is of no value the case of misconduct or incompetence. Lower quality workers will find it very difficult if not impossible to fake quality and reliability in this way – through investing in higher education.

In the case of teacher registration, for example, does a teacher registration system screen out any more low quality candidates for recruitment than do proper reference checks and a police check for a criminal record.

Mostly disciplinary investigations and deregistrations under the auspices of occupational regulation is for gross misconduct  and criminal convictions rather than just shading of quality.

Much of personnel  and organisational economics is about the screening and sorting of applicants, recruits and workers by quality and the assurance of performance.

Alert entrepreneurs have every incentive to find more profitable ways to manage the quality of their workforce and sort their recruitment pools.

Baron and Kreps (1999) developed the recruitment taxonomy made up of stars, guardians and foot-soldiers.

Stars hold jobs with limited downside risk but high performance is very good for the firm – the costs of hiring errors for stars such as an R&D worker are small: mostly their salary. Foot-soldiers are employees with narrow ranges of good and bad possible outcomes.

Guardians have jobs where bad performance can be a calamity but good job performance is only slightly better than an average performance.

Airline pilots and safety, compliance, finance and controller jobs are all examples of guardian jobs where risk is all downside. Bad performance of these jobs can  bring the company down. Dual control is common in guardian jobs.

The employer’s focus when recruiting and supervising guardians is low job performance and not associating rewards and promotions with risky behaviours. Employers will closely screen applicants for guardian jobs, impose long apprenticeships and may limit recruiting to port-of-entry jobs.

The private sector has ample experience in handling risk in recruitment for guardian jobs. Firms and entrepreneurs are subject to a hard budget constraints that apply immediately if they hire quacks and duds.

Blackboard economics says that governments may be able to improve on market performance but as Coase warned that actually implement regulatory changes in real life is another matter:

The policy under consideration is one which is implemented on the blackboard.

All the information needed is assumed to be available and the teacher plays all the parts. He fixes prices, imposes taxes, and distributes subsidies (on the blackboard) to promote the general welfare.

But there is no counterpart to the teacher within the real economic system

Occupational regulation  comes with the real risk of the regulation turning into an anti-competitive barrier to entry as Milton Friedman (1962) warned:

The most obvious social cost is that any one of these measures, whether it be registration, certification, or licensure, almost inevitably becomes a tool in the hands of a special producer group to obtain a monopoly position at the expense of the rest of the public.

There is no way to avoid this result. One can devise one or another set of procedural controls designed to avert this outcome, but none is likely to overcome the problem that arises out of the greater concentration of producer than of consumer interest.

The people who are most concerned with any such arrangement, who will press most for its enforcement and be most concerned with its administration, will be the people in the particular occupation or trade involved.

They will inevitably press for the extension of registration to certification and of certification to licensure. Once licensure is attained, the people who might develop an interest in undermining the regulations are kept from exerting their influence. They don’t get a license, must therefore go into other occupations, and will lose interest.

The result is invariably control over entry by members of the occupation itself and hence the establishment of a monopoly position.

Friedman’s PhD was published in 1945 as Income from Independent Professional Practice. With co-author Simon Kuznets, he argued that licensing procedures limited entry into the medical profession allowing doctors to charge higher fees than if competition were more open.

Data Source: Martin Jenkins 2012, Review of Occupational Regulation, released by the Ministry of Business, Innovation and Employment under the Official Information Act.

Neoclassical economists think the economy is freestanding and ignore institutions!

The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel 1991 was awarded to Ronald H. Coase:

for his discovery and clarification of the significance of transaction costs and property rights for the institutional structure and functioning of the economy

The Royal Swedish Academy of Sciences has decided to award The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel for 2009 to

Elinor Ostrom “for her analysis of economic governance, especially the commons” and Oliver E. Williamson “for his analysis of economic governance, especially the boundaries of the firm”

The Royal Swedish Academy of Sciences has decided to award the Bank of Sweden Prize in Economic Sciences in Memory of Alfred Nobel for 1993 jointly to Robert W. Fogel and Douglass C. North

for having renewed research in economic history by applying economic theory and quantitative methods in order to explain economic and institutional change.

The Royal Swedish Academy of Sciences has decided to award the1986 Alfred Nobel Memorial Prize in Economic Sciences to Professor James McGill Buchanan for

his development of the contractual and constitutional bases for the theory of economic and political decision-making.

The best of the online materials by and about Ronald Coase

Ronald Coase

Obituaries

The Telegraph

The Guardian

Financial Times

Independent

New York Times

Economist

University of Chicago on the announcement of his death

University of Chicago Ronald H. Coase, Founding Scholar in Law and Economics, 1910-2013

Steve Medema

Recent interviews and op-eds:

1997 Interview Interview in Reason Magazine

2001 A conversation with Ronald H. Coase

2002 Why Economics Will Change Speech on why economics will and ought to change

2003 Coase Centennial Speech (video) Speech at the University of Chicago Law School

2002 Ronald H. Coase, The Intellectual Portrait Series: A Conversation with Ronald H. Coase 

2010 Interview on 100th Birthday Interview on Ronald Coase’s 100th birthday

2012 Coase on Externalities, the Firm, and the State of Economics

2012 WSJ Opinion Article, with Ning Wang Opinion article by Ronald Coase and Ning Wang concerning the development of modern China, in the Wall Street Journal, April 6, 2012.

2012 Harvard Business Review Article Article by Ronald Coase concerning the need to reengage modern economics with the economy, in the Harvard Business Review, December 2012.

2013 Cato Policy Report Article, with Ning Wang Article by Ronald Coase and Ning Wang summarizing the work of their book on China, in the Cato Policy Report, January/February 2013.

2012 Small Business Economics Interview on 102nd Birthday Interview conducted by Siri Terjesen and Ning Wang.

2013 Interview Interview with Ronald Coase, conducted by Ning Wang. (Some material is in Chinese.)

About Ronald Coase

Nobel award 1991 Bank of Sweden Prize in Economic Sciences in memory of Alfred Nobel

Coase’s work in perspective Nobel Foundation, on the 1991 prize in economics

Essay on Coase’s work The Swedes Get It Right, by David Friedman

Richard Posner on Coase and his methodology 

Don Boudreaux on Coase

Ronald H. Coase. Biography. Concise Encyclopedia of Economics.

Ronald Coase—The Nature of Firms and Their Costs by Robert L. Formaini and Thomas F. Siems

Best of his papers

2013 How China Became Capitalist Cato Policy report with Ning Wang

2013 Saving Economics from Economists Havard Business Review

2000 The Acquisition of Fisher Body by General Motors Journal of Law and Economics, Vol. 43, No. 1 (April 2000), pp. 15-31. pdf

1996 Law and Economics and A. W. Brian Simpson Journal of Legal Studies, Vol. 25, No. 1 (January 1996), pp. 103-119.

1993 Law and Economics at Chicago Journal of Law and Economics, Vol. 36, No. 1, Part 2 (April 1993), pp. 239-254.

1992 The Institutional Structure of Production The American Economic Review, Vol. 82, No. 4 (September 1992), pp. 713-719. pdf

1988 Blackmail Virginia Law Review, Vol. 74, No. 4 (May 1988), pp. 655-676. pdf

1988 The Nature of the Firm: Origin Journal of Law, Economics, & Organization, Vol. 4, No. 1 (Spring 1988), pp. 3-17. pdf

1988 The Nature of the Firm: Meaning Journal of Law, Economics, & Organization, Vol. 4, No. 1 (Spring 1988), pp. 19-32.

1988 The Nature of the Firm: Influence Journal of Law, Economics, & Organization, Vol. 4, No. 1 (Spring 1988), pp. 33-47.

1979 Payola in Radio and Television Broadcasting Journal of Law and Economics, Vol. 22, No. 2 (October 1979), pp. 269-328.

1978 Economics and Contiguous Disciplines The Journal of Legal Studies, Vol. 7, No. 2 (June 1978), pp. 201-211.

1977 Advertising and Free Speech The Journal of Legal Studies, Vol. 6, No. 1 (January 1977), pp. 1-34.

1976 Adam Smith’s View of Man Journal of Law and Economics, Vol. 19, No. 3 (October 1976), pp. 529-546. pdf

1975 Marshall on Method Journal of Law and Economics, Vol. 18, No. 1 (April 1975), pp. 25-31.

1974 The Lighthouse in Economics Journal of Law and Economics, Vol. 17, No. 2 (October 1974), pp. 357-376.

1974 The Choice of the Institutional Framework: A Comment Journal of Law and Economics, Vol. 17, No. 2 (October 1974), pp. 493-496.

1974 The Market for Goods and the Market for Ideas (in The Economics of the First Amendment) The American Economic Review

1972 The Appointment of Pigou as Marshall’s Successor Journal of Law and Economics, Vol. 15, No. 2 (October 1972), pp. 473-485.

1972 Durability and Monopoly Journal of Law and Economics, Vol. 15, No. 1 (April 1972), pp. 143-149.

1972 Industrial Organization: A Proposal for Research, Economic Research: Retrospect and Prospect Vol 3: Policy Issues and Research Opportunities in Industrial Organization

1970 The Theory of Public Utility Pricing and Its Application The Bell Journal of Economics and Management Science, Vol. 1, No. 1 (Spring 1970), pp. 113-128.

1966 The Economics of Broadcasting and Government Policy (in The Economics of Broadcasting and Advertising) The American Economic Review, Vol. 56, No. 1/2 (March 1966), pp.440-447.

1960 The Problem of Social Cost Journal of Law and Economics Vol. 3 (October 1960), pp. 1-44 pdf

 1959 The Federal Communications Commission Journal of Law and Economics Vol. 2 (October 1959), pp. 1-40 pdf

1946 The Marginal Cost Controversy Economica, New Series, Vol. 13, No. 51 (August 1946), pp. 169-182.

1937 The Nature of the Firm Economica, New Series, Vol. 4, No. 16 (November 1937), pp. 386-405 pdf

Reviews of Others’ Work

1977 Reviewed Work: Selected Economic Essays and Addresses by Arnold Plant Journal of Economic Literature, Vo.. 15, No. 1 (Mar. 1977), pp. 86-88.

some via http://www.coase.org/coaseonline.htm

Chicago Unbound | 60+ years of University of Chicago Law Online, mostly ungated

Chicago Unbound contains 60+ years of scholarship, most of it ungated online, of the members of University of Chicago Law School

Faculty_scholarship

Law School Publications

Working_papers

Coase_Sandor_institute

via Chicago Unbound | University of Chicago Law School Research.