What is labour hoarding?
16 Dec 2014 Leave a comment
in business cycles, labour economics, macroeconomics, unemployment Tags: business cycles, labour hoarding
The fall and rebound in employment growth usually lags a few quarters behind the fall and later recovery in output growth in any recession because of labour hoarding. Hamermesh (1993) defined labour hoarding as
a less than proportionate decrease in worker hours in response to a negative demand shock
Firms may hoard or retain under-utilised employees despite falls in demand because of demand uncertainty.
Becker (1975) and Oi (1962) both refer to the fixed costs of employment as an incentive to retain experienced workers with firm-specific human capital during lulls in demand.
The fixed costs of employment are the costs of recruiting and training workers. These fixed costs meant that the demand for labour does not adjust instantly to changes in demand for the firm’s product:
The cyclical behaviour of labour markets reveals a number of puzzling features for which there are no truly satisfying explanations . . .
I believe that the major impediment to rational explanations for these findings lies in the classical treatment of labour as a purely variable factor (Oi 1962).
Hirings and layoffs are costly. Hiring costs include advertising vacancies, the time spent finding and screening applicants and training. Layoff costs include redundancy payments, legal procedures and, importantly, the capital loss of losing access to experienced employees with firm-specific training and then later having to train their replacements.
To reduce these current and capital costs early in recessions, employers will first adjust hours worked and rely on natural attrition of staff to defer laying off their more experienced employees. Only once these options have been exhausted, and demand for the firm’s product is still slack, the capital loss of laying off a worker may become necessary.
Labour hoarding is a speculative investment based on forecasts of demand. The decline in product demand must be seen as short. There will be more layoffs if the recession is expected to be deep or long.
If there is a quick recovery, unnecessary layoffs and the cost of training replacements are both avoided.
Entrepreneurship and sectoral mismatches in labour supply and labour demand
15 Dec 2014 1 Comment
in business cycles, entrepreneurship, job search and matching, macroeconomics Tags: business cycles, Fischer black, mismatch unemployment, sectoral unemployment
An important factor behind business fluctuations arises not from the balance between aggregate output and aggregate consumption, but from the accuracy of entrepreneurial matching of the individual patterns of output with the pattern of actual consumer demand in individual sectors (Black 1987, 1995).
Fluctuations in the match between resource deployment to different sectors and product demand across sectors can create major fluctuations in output and employment because moving resources from one sector into another is costly and time consuming.
What consumers will want and what can be produced in the future is uncertain. A plethora of sectors produce highly differentiated products with increasingly specialised inputs to serve consumers. Modern economic growth is built on ever greater product differentiation, ever greater product variety and ever increasing product quality produced by ever more specialised workers, firms and sectors. This explosion in specialisation is increasing the vulnerability of the business cycle to technology and taste shocks (Black 1987, 1995; Mehrling 2005).
Mismatches in the sectoral pattern of installed production capacity with actual consumer demand will arise because investments are driven by entrepreneurial forecasts of what will be wanted by consumers in the future. The capacity to produce output requires prior investments based on speculations about future consumer tastes, resource availabilities and technology progress. Part of the volatility in output and employment growth is from these investments depending on the uncertain details of the future.
Entrepreneurial errors in forecasting consumer wants will lead to inevitable mismatches of the production capacity with unfolding consumer demand. If future consumer tastes and upcoming technologies were better known now, employment would grow and be reallocated more smoothly to new uses than otherwise (Black 1987, 1995; Mehrling 2005).
When the match between forecasted and realised demand is good, there is a boom. Resources are where consumers want them. When the match is poorer, there is a recession. If events unfold in a markedly unanticipated direction, existing plans, investments and contracts require revision (Black 1987, 1995).
The existing matches between consumer desires, resource allocations by sector and production technologies can deteriorate. While a reallocation occurs, resources are diverted from production and are scrapped or are unemployed while searching for new uses (Black 1987, 1995).
Fixing a deteriorating match requires the structure of production to shift more into line with the structure of consumer demand. This takes time and consumes resources because human and other capital is highly specialised. It takes time for the new investments consistent with the latest entrepreneurial forecasts of consumer demand to be planned, built and start producing (Black 1987, 1995).
What can appear to be cyclical unemployment comes from alternations between periods of above and below average accuracy on entrepreneurial forecasting and better and worse matches in actual consumer demand and actual capacity to supply at the sector level (Black 1987, 1995; Mehrling 2005).
This type of cyclical unemployment is not a product of monetary, fiscal or other policy shocks. Resources need to be reallocated into a better alignment with consumer tastes and technological and resource possibilities. Preventing these sectoral reallocations will keep resources from moving from lower to higher value uses.
After longer booms, more human capital is more specialised to specific sectors, firms and jobs. This increased specialisation that helped underpin the prior economic boom can slow the recovery of employment at the end of the recession.
Job seekers will take longer to find good new job matches if they have more distinct backgrounds and specialised human capital. Job seekers have an incentive to search for longer to find these higher-paid job matches.
Employers will take longer to fill vacancies. The applicant pool is more diverse because of the high degree of specialisation of labour that is a legacy of the long prior boom. This accumulation of specific human capital over the course of longer booms will mean the length of the burden will affect the depth of the subsequent recession.More highly specialised workers have to be re-matched with new occupations and new sectors. More workers than usual will be putting off the day of having to face up to scrapping a significant part of their old human capital.
The Schumpeterian view of business cycles
26 Jun 2014 Leave a comment
in business cycles, macroeconomics Tags: business cycles, David Andolfatto, Schumpeter
David Andolfatto argues for the Schumpeterian view of economic development where the distinction between growth and business cycles is artificial. Everyone agrees that long-run growth is the product of technological advancement. The Keynesian school views trend growth as being stable with new technologies unfolding at a smooth rate.
In the Schumpeterian view, there is no reason to believe that the process of technological advancement is smooth. It is more reasonable to suppose that new technologies appear in clusters.
There will be incremental innovations, and from time to time, grand innovations that transformed the entire economy. These grand innovations require the economy to slow down while it invests in a whole range of secondary innovations to make the most of these great new technologies. Writing workable software for new computers is an example.
These technology shocks may cause fluctuations in the growth rate through what Schumpeter called a process of creative destruction. Innovations cluster in specific industries and this generates the boom. When the cluster of innovation comes to an end in a particular sector, there is a generally increased risk of failure as old and new firms and entrepreneurs and investors adapt themselves to the new situation.
If business cycles come from innovation, they are an essential feature of economic development. They cannot be eliminated without harming innovation so we should not be too quick to smooth out the business cycle.
Technological advancements that ultimately lead to higher productivity may, in the short run, induce cyclical adjustments as the economy restructures: resources flow out from declining sectors to the expanding sectors, and people retrain and learn the next technologies and invest in the secondary innovations to make, for example, new computers to be of practical application. The first innovators will find the job a difficult one, later innovators will find things very easy, and the last to adopt the innovation will find not much to do. Faster or slower adoption of new technologies will have important implications for production, investment and consumption.
There is no guarantee that all new technologies will work out as planned. What may have looked promising may turn out to be a disappointment.
This leads to the role in news on the business cycle. Obviously, people form expectations about future technologies and invest and consume in the expectation of better or worse times ahead. They will adjust investor and consumer expectations as new information of varying and conflicting quality becomes available about technological prospects and the success of technological developments to date.
Output and employment will go up and down on the basis of these shifting expectations. These shifts in expectations are perfectly rational and are made on the basis of new information about the prospects and performance of new and existing technologies. Of course, some of these forecasts will turn out to be a disappointment and there will be a slowdown in the economy as people regroup.
The problem is not a lack of accurate forecasting by both the old and new firms. If technologies come in clusters, and are clustered in industries, there will be an above and below average number of forecasting errors with resulting consequences for business failures and new investment.
The productivity slowdown in the 1970s is attributed by some to a doubling of technology adoption costs because of the ICT revolution. This doubling in the cost of adopting new technologies was not measured as investment in the national accounts when constructing GDP data.
Boyan Jovanovic argues that the share market crash in the early 1970s may have been driven by an expectation by investors that a lot of existing capital had become obsolete because of the ICT revolution. investors wrote down the value of the companies with the soon-to-be obsolete capital and the stock-market incumbents of the day which were not ready to implement it. Product-market entry of new firms and new capital takes time, and their stock-market entry takes even longer. In the meantime, the stock market declines.
Why do people assume the trend growth is stable? Economic growth is no more than a random collection of innovations that are adopted across the economy each year.
Utopia, you are standing in it! 
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