Does Monetary Policy Explain The British Jobs Recovery?

by: Scott Sumner

There's been a lot of discussion of the disconnect between British output (which has done poorly over the past 6 years), and total employment, which is reaching new records, and is even at near record levels as a percentage of the population. After discussing the strong UK jobs growth, Matt Yglesias presents data on the weak RGDP performance, and then comments:

This is a very long time for GDP to recover to its pre-crisis point, and GDP per person is at an almost shockingly low level. This is far worse than the US has done.

There are some different possible interpretations of this. North Sea fossil fuel production is down. Banking has taken a hit everywhere, and it's a huge share of the British economy. Or perhaps the Keynesian story is right - Cameron and Nick Clegg have kept government spending lower and taxes higher than they should have been, depressing output.

What's most interesting, however, is not the dispute but two things that look indisputable. One is that something (or perhaps several things) have gone badly wrong for the British economy. The other is that the Bank of England has managed to get the country to weather that bad stuff without endless mass unemployment. Monetary policy doesn't solve all problems. But the very fact that the UK economy has so many problems, underscores the reality that monetary policy is extremely potent in fighting the particular scourge of unemployment. Here in the USA, productivity and total output have gone much better, but monetary policy has been less aggressive and joblessness is a bigger problem despite a better overall economy.

There are some concepts lurking in the background here, such as nominal GDP and sticky nominal wages. Yglesias sometimes presents quasi-MM arguments, but couched in more theoretically neutral language. In any case, I like the way he described the importance of monetary policy in the final paragraph. I like it a lot. Good monetary policy will keep the labor market in equilibrium, even if RGDP is being battered by real problems.

But no matter how much I like his conclusions, I must in good conscience point out that he's slightly oversold his case here. I had exactly the same view until I looked at the data. I'm going to argue that he's right, but for the UK/eurozone comparison, not the UK/US comparison. Here are NGDP growth rates (total) between 2008:1 and 2014:1:

Eurozone +4.68%

France +6.62%

Britain +12.43%

USA +15.97%

I separated out France, as it's the European economy most similar to Britain. They have almost identical populations, GDPs and GDPs per capita. I think the more expansionary monetary policy does explain why Britain has done better than France and the eurozone, or at least it's part of the story. But I see no evidence that UK monetary policy has been any more stimulative than in the US, at least in the sense that would be of importance to market monetarists-NGDP growth. So why has Britain done better on the jobs front? Very simple, their wage growth has been significantly more restrained. Why? I have no idea. But in an accounting sense, that's the explanation. It might be viewed as a bit of an embarrassment to MMs, as we don't have an explanation. But the Keynesians don't either, and even worse, the left wing of Keynesianism says wage restraint is contractionary. At least we say it's expansionary.

Britain is a weird country with one really, really positive supply side fundamental-flexible labor markets. And one really, really negative supply-side fundamental-horrible worker productivity. And it nets out to pretty decent job creation and poor output growth.

If you use the MM model to compare countries, you sort of implicitly assume similar labor markets. Then the country with the faster NGDP growth will have more job creation. But of course labor markets are not all equal, and some of the inter-country differences in employment will be due to wages, and only a portion will be due to NGDP growth differentials. Interestingly, none of the labor mystery is explained by productivity. But when you turn to real GDP, then you look at productivity and employment.

Britmouse has a related post:

There is an interesting asymmetry in how people read the macro data.

For a given increase in aggregate nominal spending (income) I think it would be generally agreed that "what we want to see" is a higher volume of output and not much inflation. Does anybody disagree? Anybody out there who would prefer the trade-off shifts towards higher inflation and lower output growth? No?

OK. For a given increase in aggregate nominal income (spending) we can consider the same trade-off between employment and wages. I had taken it as given that we had a depressed labour market and so "what we want to see" is that increases in aggregate income will translate primarily into higher employment.

Then he presents data on flat hourly wages and discusses how virtually all of the nominal income growth is feeding into jobs, jobs, jobs. But the reaction from the left puzzles him:

Yet this is seen somehow as a bad thing, see, for example the Guardian here, which puzzles me. Do you have a sticky wage model of the labour market, in which AD shocks can raise/lower employment, or not? Is higher employment in 2014 a good thing, or not? These questions have simple answers for this simpleton blogger.

I can never figure liberals out. They say unemployment is far worse than inflation. It destroys a man's spirit. It's just plain psychologically devastating in all sorts of ways, even with unemployment compensation programs. Then I suggest replacing the minimum wage and welfare with jobs for everyone and big hourly wage subsidies, and liberals respond; "But isn't it punitive to make people work? If the workers aren't very productive, why not just left them enjoy leisure time with a guaranteed annual income?"

So like Britmouse I'm confused; is unemployment horrible, or isn't it?

PS. If someone told you about that 6 year eurozone NGDP growth total of 4.68% back in early 2008, they either would have thought you were crazy, or that the eurozone was about to go into a depression. But the eurozone VSPs insist that monetary policy has nothing to do with the actual depression that did occur. I'm speechless.

PPS. And now Lars Christensen is telling us that the ECB wants employers to raise wages. Yeah, that'll create lots of jobs in a eurozone that has seen 4.68% NGDP growth in 6 years. In honor of Lars' newest post, I'm going to invoke Godwin's law: even the Nazis had a better monetary policy.