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My recent article that began with a discussion of Prof. Paul Krugman's diagnosis of the U.S. economy's fundamental ailment as a lack of demand stirred up a heated discussion among commenters. However, few of the commenters seem to have paid attention to the fundamental question that I asked: Is the current unemployment situation due to (A) structural forces that can be remedied, (B) technology and global competition, as suggested by the secular decline in labor's share of income since about 1970, or (C) cyclical factors. The applicable remedies, if any, should flow from the diagnosis. If a patient has gout (which is caused by a high level of uric acid) and you treat him with an antibiotic for an infection, the patient will not get better.

Demand Deficiency-No Quick Fix

My diagnosis, as I explained in the referenced article and have explained elsewhere, is that we have a deficiency of demand/excess of capacity due to technology and global competition. As a consequence of this diagnosis, I do not see any short-term solutions. Prof. Krugman also diagnosed the problem as a lack of demand, but he said that stimulus is needed to promote demand. I do not believe that government spending can cure a lack of private demand/excess of private capacity to produce. Stimulus can temporarily make unemployment go down, but it will not change the fundamental problem, which would reappear when the stimulus was reduced. This has been true of each of the stimulus-type governmental programs that the Obama administration has tried. Such programs perhaps work in cyclical downturns (which some people insist is what we have), but I do not believe that is what we have-and apparently neither does Prof. Krugman.

Neither will programs designed to spur private investment provide a solution. This is because we already have a surplus of capacity. Additional investment would increase capacity. And, I would bet, no matter how free business is or how low taxes or interest rates go, businesses will not invest unless they see the possibility of demand for their products and services.

I do not like my conclusion about what has caused the current level of unemployment and the current growing economic inequality. I do not like it because it leads to no short-term treatment. But if we advocate policies to solve problems that we do not have, that will not be productive.

Treatment Follows Diagnosis

Put Aside Your Left and Right Biases

I often disagree with Prof. Krugman because I believe he is a victim of his own wishful thinking-that governmental actions can cure any problem-as are many of my friends on the left. My friends on the right fall prey to a similar-though opposite-form of wishful thinking: to wit, that everything would be hunky dory if government would stop meddling in people's affairs. If my conclusion regarding causes is correct, reducing the size of government will not help any more than the wishful thinking on the left.

The problems that humanity faces change over time as technology changes. To design policy that benefits the public, we have to learn where we are in that process of technological change and what its effects are. Then we have to adapt to it. Both the public sector and the private sector have roles in such adaptation. The private sector often adjusts more rapidly, as can be seen by the steadily declining labor share of private sector revenues since 1970 as technology and global competition have changed the nature and location of production. But public sector adjustment is needed as well because, over the long term, people and infrastructure have to be prepared to take advantage of technological change rather than being victimized by it. The private sector does not provide education, roads, police and fire protection, courts, and many other forms of infrastructure.

Unemployment and Growing Inequality Are Corrosive Problems

The under-utilization of a significant part of our potential workforce is a serious problem. If we could fix it, we would gain many benefits, not the least of which are that governmental budgets could balance and social security could be paid for. Growing inequality also is a serious problem because (1) a large segment of Americans gets left behind economically, (2) it is self-perpetuating, and (3) it can lead to unproductive political backlash. The inequality problem will not be cured by telling people to pull up their socks or by giving them a handout. Nor will it be cured by taxing the rich to pay the poor; that probably would make the problem worse over the long term. Only an education revolution can make significant progress toward lowering unemployment and reversing the inequality trend.

What Would an Education Revolution Look Like?

An education revolution would begin before children are born by working with the parents. It would continue intensively with children and parents from birth through all of schooling. It would be a system that would not allow for excuses-by administrators, teachers, parents or students. It would embrace technology, competition and hard work. It would be a system designed to compensate for the current malaise of single-parent households.

At the post-secondary level, the revolutionized educational system would have to be less expensive than college is today. It would have to be funded some way other than by saddling young people with massive loans. See Mark Cuban's screed on SA. I do not have all the answers as to how to do this. But if we had a national consensus on direction, the details would be ironed out, albeit with political difficulty.

Conclusion

Human labor has been growing less valuable for over 40 years-perhaps for longer, but the data I have been looking at suggest that about 1970 was the watershed. That process will continue. Human brains, however, have not become less valuable-at least not yet. For the next 40 years at least, I would bet on human brainpower continuing to have value. After that, some other form of making a living may become necessary.

Until we have a successful education revolution, we should expect a fairly stagnant economy, no matter who is in charge (unless another credit bubble inflates-then of course deflates). That does not mean that no one does well economically or that companies cannot make money and flourish or that investors cannot make money in equities. But it does suggest that average investment returns will remain fairly low. Investors had better buy low and sell high.

However you invest, please advocate the education revolution: No excuses, technology, competition, and hard work-for administrators, teachers, parents and students. No kidding. No matter what country you live in, maybe unless it is Finland.

Source: Prognosis: Economic Stagnation--Stimulus Is Not The Answer