Sunday, August 14, 2011

The Krugman/Mulligan debate: a possible resolution

Over at the New York Times, Paul Krugman and Casey Mulligan have been having a debate. Mulligan says that seasonal variation in teen employment shows that labor supply, not labor demand, is behind high unemployment. Krugman responds that since firms make employment decisions way ahead of time, we can still see teens get hired in the summer based on prior commitments.

I have a different potential explanation for the pattern. First (in a shameless plug for the University of Michigan) I will link to this 2007 AER paper by Robert Barsky, Christopher House, and Miles Kimball. The paper is a two-sector New Keynesian sticky-price model of the economy. The sectors are the durable goods sector and the nondurable goods sector. Business cycles are driven by demand shocks, which act through sticky prices.

The key result of the model is that business cycles are entirely caused by demand shocks to the durable goods sector. It's not that hard to explain the intuition. Since durable goods (buildings, vehicles, machines) last a long time, it's very easy for firms and consumers to change the timing of their purchases of durable goods; if prices are too high, just wait to buy (and if everyone does this, it's a recession). But nondurable goods are things we need a constant stream of (think food, gas, electricity). We can't delay our purchases of those, so we smooth our consumption of them, buying about the same amount in recessions and booms.

This effect would explain why teens get hired in the summer even when full-time workers can't find a job. The reason is that teens work almost exclusively in the nondurables sector - food preparation, hospitality, grocery stores, etc. Since nondurables demand holds up in a recession, you'd expect to see the normal seasonal employment pattern hold up for teens. But there can still be a deficiency in demand for durables sector employment, which is why full-time workers can't find jobs.

(Side note: this two-sector model also gives a good reason for using core inflation, not headline inflation, as a barometer of business cycles, since things like food and energy are nondurables.)

Anyway, I think this two-sector model resolves the "Mulligan puzzle" in a fairly simple manner. A two-sector explanation would allow the seasonal pattern of teen employment to persist even over a very long period of low demand. No labor supply shocks are needed.


  1. Anonymous10:08 AM

    Good show! I can't believe such a thing was overlooked by so many, myself included. Keep up the good work :)

  2. Anonymous10:40 AM

    Even in the durables sector, companies tend to hire a consistent number of summer students year in and year out; boom or bust. This is to maintain a level-loading of labour in the summer months when vacation absences rise. My employer, a manufacturer in the auto sector, hired just as many students in the summer of '09 as it had in the summer of '06.

  3. 2nd Anon:

    Interesting! How has the overall level of employment changed at your company? Did teenagers increase as a percentage of total employees in summer '09 compared to summer '06?

  4. Anonymous11:33 AM


    Due to a fortunate mix of product and business added thanks to transfers from liquidated competitors, employment was relatively stable through the very difficult 2009. Customer demand is slower in July when regular maintainance and re-tool shut-downs occur and we encourage vacations during this time but we still expect around 10% of the hourly staff to be away at any given time during the summer. This year's temp staffing was complicated by uncertain customer demand due to Japan disaster related production cuts. The students were brought in a little later than usual but still in roughly the same number as previous years.

  5. Ah, OK. Thanks.

    The "Mulligan puzzle" is related to why the percent of teenagers in the employed pool varies over the business cycle.

    Sounds like at your company, demand (small d) remained strong even in the recession, and the percent of teenagers in your workforce also remained flat. That is to be expected.

    If durables-sector companies were laying off full-time workers and then hiring teenagers to do their jobs, that would be a real puzzle.

  6. How does this factor in: About 5 years ago during the summer, I had lunch in a restaurant a block off the boardwalk in Ocean City, NJ. The entire wait staff was Eastern-European college age kids, imported for the summer.

    Three weeks ago in Macinaw City, MI, the popcorn store was fully staffed with college-age girls from Romania.

    It looks like there is an actual shortage of U.S. teens who are willing to spend their summers working - at least in these jobs. Can these vacation-spot anecdotes reflect a greater reality?


  7. CM: "the Keynesian claim that supply suddenly stops mattering during recessions and “liquidity traps.” "

    Excuse me, but I don't recall Keynes making any such claims about sectoral labor markets, or about the composition of employment. What Keynesian theory was about, is money and the macroeconomic aggregates of the circular flow as measured in the national accounts. Moving Keynesian claims from propositions about money, interest rates, their effects on effective aggregate demand to propositions about sectoral labor markets seems a bit ripe, even if one is prepared to admit such curiosities at the latter-day Paradox of Toil, to the canon.

    I suspect I know where Mulligan is going with this: he aims at the classical claim that markets clear at a money price, and, therefore, [big wave of hands] eventually, individual markets, with flexible prices, will "naturally" restore full-employment in the best possible way (i.e., with the rich and powerful, much richer). And, the only sensible interventions, in the face of high unemployment, are policies that make labor markets more "competitive" and "flexible" (aka drive down wages).

    Noah's two-sector model is not exactly novel. Observers of the business cycle have long noted the importance of housing and autos, as well as the inventory cycle, in driving the acceleration and deceleration of the business cycle. The reasoning ought to be congenial to the intuitions of an RBC nut like Mulligan, but it is of limited usefulness, here, because it is not about money or aggregates or "liquidity traps". As long as the demand for auto-transporation services is met from a stock of autos, demand for new autos will tend to be cyclical; why shouldn't employment building autos be cyclical, too, if there are structural aspects to auto building employment (location, skills, etc)*? Why is the government intervening?

    In short, Noah's favored model is nice, but irrelevant.

    Mulligan is saying, look, "the market" continues to function, coordinating the diverse desires and purposes of millions. Implicitly, Says Law applies: supply creates its own demand; people show up to work, they work, and there's enough demand.

    The Keynesian claim must be that the price-matrix coordinating the market economy is askew, out-of-whack, dysfunctional, and monetary and/or fiscal policy is necessary to correct the problem.

    Mulligan is challenging New Keynesians to say how the money dysfunction shows up in individual labor markets. If it doesn't show up as labor markets unresponsive to shifting supply and demand, then how does it show up? What's the Keynesian hypothesis?

    The Paradox of Toil? Krugman's planning or habit? Consumer durables?

    Here's how a liquidity trap shows up in a sectoral labor market as a dysfunction: inadequate demand in the aggregate puts downward pressure on wages, while nominal financial rates preclude taking up real investment opportunities, which would have a net present value in the presence of normal, "natural" rate spreads. (Yes, I said, "natural": that was snark.)

    Rising average productivity should be raising wages, but wages are equal to marginal productivity, and an excess supply of labor is driving down marginal productivity, while the capital stock is shrinking under disinvestment.

    Sound familiar?

    *It might be interesting to ask why prices for autos have to be somewhat sticky? See Chandler, Alfred for some clues.

  8. Anonymous10:49 PM

    Jazzbumpa, I experienced the same thing at an Atlanta-suburb Chick-fil-a and most of the gas stations in northern Vermont this summer. In the case of the Chick-fil-a I thought them russian girls but they said they were from Ukraine on a work program, while in northern Vermont they were Bulgaria/Romania.

    Upon questioning some locals (in Vermont) I was told by frustrated local teens that they couldn't get jobs because "all those J-1 girls get shipped in" (referring to a visa classification). The frustration was that the labor was shipped in ostensibly under a student work program, but according to these locals, the imported labor (mostly girls) don't attend any local schools.

    This is all anecdotal of course, I'm not making any grand statements.

  9. Recessions are caused by the interaction of compulsory speculation, financial markets and highly predictable human behavior, as exposited by one Hyman Minsky, empirical evidence too vast and overwhelming to detail here. But I digress.

    Krugman is onto something though I would describe it differently. Human behavior adapts slowly to changing circumstances. Lessons learned like rules of thumb tend to outlive their usefulness. So, for example, Walmart will, as a rule, look to China for its suppliers. That's going to change far after China ceases to be the lowest cost provider.

    Another good example is the way in which CEO's by and large respond when trying to affect a turnaround of a company (or even just move the price of a stock). They boost margins by cutting way back, most often by dining on seed corn.

    Whether this works or not regarding market psychology (and my own experience argues for the latter), it is rarely an approach that results in increased enterprise value if by that you mean the underlying vitality of the business model. Yet another example is pension funds whose asset allocation decisions tend to be prompted by market trends but are affected at a pace that is woefully unsuited to the pace of the trends (see e.g. commodities).

    In this case, it's not simply that teenagers work in less affected industries, (though that sounds convincing, so far as it goes), but that organizations are slow moving animals, typically very slow to recognize changing dynamics.

  10. "Anyway, I think this two-sector model resolves the "Mulligan puzzle" in a fairly simple manner. A two-sector explanation would allow the seasonal pattern of teen employment to persist even over a very long period of low demand. No labor supply shocks are needed. "

    Shorter version: "Casey Mulligan is always wrong".

    This model is not exactly exotic; it's basic (summer leads to a demand for short-term, low skill work in a lot of seasonal jobs, and workers who will return to school would be preferred because they will lay themselves off).

  11. Jazzbumpa: "It looks like there is an actual shortage of U.S. teens who are willing to spend their summers working - at least in these jobs. Can these vacation-spot anecdotes reflect a greater reality?"

    An acquaintance's son worked at a regional amusement park for a summer. They treated the workers like crap, and fired some when they didn't agree to work full-time through the end of September.

  12. Is the picture at the top from that horrible Summer Vacation movie that keeps coming back to the guy who claims to have played with Lou Reed one night?

    (The rest of the discussion has dealt with substance.)

  13. @ Ken - If by that you mean Adventureland, then yes. That is pretty much the only helpful contribution I can make to this discussion. :-)

  14. Jesse Eisenberg’s character in Adventureland worked the summer after college before grad school. He was most likely not a teen.

  15. Guan: You found me out. I've never seen that movie. I got the pic from a random Google Image search.

    I assumed it was the prequel to "The Social Network," in which Mark Zuckerberg ditches the hard-driving corporate lifestyle to pursue his childhood dream of working at an amusement park. Rosebud!!!


  16. ezra abrams9:29 AM

    alternatly, if you are stretched for cash, like we are, you hire interns and pray; they are a lot cheaper and no committment, and with training you can get a lot of useful work out of them.
    I find it amusing that you offer some complex model, while the yale guy who did the book on his interviews with hiring managers shows a better way to do economics (eg real science as opposed to math), and, the Quiggin books chapter on Dynamic stochastic whatever is, in summary, for the 80 odd years since Keynes, math minded econs have promotoed one fancy model, without data after another; each model lasts a few years till swept away
    You would think that at some point, economists might say, hey, maybe fancy math models are not a good idea; we need to do economics in an alternate fashion..