Back to Economic Basics

There are sane voices among economic writers, some even participate in Tweet-sanity: Click Here and you’ll see this:

Businesses Hire Tweet

Bingo! And, now we’re back to reality and that old favorite First Law of Rational Human Relations — There is no reason to ever hire anyone to do anything unless present staffing levels cannot provide an acceptable level of customer service.  Or –

“As another former CEO, Nick Hanauer, says: “Everyone who’s ever run a business knows, hiring more people is a course of last resort for capitalists. It’s what we do if and only if rising consumer demand requires it.” [Angry Bear]

But, but, but sputter the corporate apologists, if corporations make higher profits they’ll hire more people.  Once more, back to our Sane Tweeter:

“Repeat after Mike. And keep repeating it to anyone who will listen. The “higher-corporate-profits = jobs” meme is perhaps the most pernicious falsehood in political economics. [Angry Bear]

Sankowski supplies a real world example of how a highly profitable company decided to generate more profit and eschew getting bigger.   So, why doesn’t that falsehood fade away and disintegrate in a quiet corner of a landfill?  It isn’t even supported by some old classic concepts like “Marginal Revenue Product.”

“Marginal revenue product is an economic theory that helps a company determine the amount of money or value earned from producing an additional unit. Economically speaking, companies will set their production output where marginal revenue equals marginal cost. Past this point, the company will lose money on producing additional units. This theory also helps companies calculate the best use of limited economic resources. Using too many resources to produce units indicates high economic waste, driving down the marginal revenue product for goods produced.” [WiseGeek]

Simplified version: If you hire too many people production costs will go up and eventually become problematic when there isn’t enough demand for those “additional units” (widgets, tricycles, paper plates…whatever) being produced.  And yet the myth remains.

If we’d just let the rich (especially rich corporations) get richer then we’ll all be better off?  If this were true what would we infer from the following graph of after tax corporate profits?

Corporate Profits to 2013If corporate profitability were the prime mover in hiring more employees there should be few individuals attending job fairs these days.

Unemployment 1960 to 2013What do we have here?  Corporate profits are at record highs, but the unemployment rate is still at 7.3% and we are nowhere near the rates before the Housing Bubble collapsed, rates of 4.6% to 5% during 2007. [BLS]  While the graphs offer a superficial inverse relationship between unemployment and corporate profits, the problem with that over-simplified correlation is that we have to factor in elements like consumer confidence, aggregate demand, and household indebtedness into the mixture.  In short, we have to take DEMAND into consideration.

But, but, but what about the shareholders! Another sputtering point among corporate apologists.   The profit = hiring myth slides into the sanctimony of shareholders mythology espoused by the corner office crowd.  Hey, we have to have those high profits for our esteemed shareholders!  As is shareholders were the only “units” having a stake in the system.

Naked Capitalism explains this phenomena:

“Today, however, the dominant ideology is that a corporation should “maximize shareholder value.” At the most basic level, the rationale for this ideology is that shareholders own the company’s assets, and therefore have exclusive claim on its profits. A more sophisticated argument is that that among all stakeholders in the business corporation only shareholders bear the risk of getting a positive return from the firm, while all other participants receive guaranteed returns for their productive contributions. If society wants risk-bearing, so the argument goes, firms need to return value to shareholders.”

And then provides a succinct rejoinder:

This argument sounds logical – until you question its fundamental assumption. Innovation, defined as the process that generates goods or services that are higher quality and/or lower cost than those previously available, is an inherently uncertain process. Anyone who invests their labor or their capital in the innovation process is taking a risk that the investment may not generate a higher quality, lower cost product. Once you understand the collective and cumulative character of the innovation process, you can easily see that the assumption that shareholders are the only participants in the business enterprise who make investments in productive resources without a guaranteed return is just plain false.

In order to justify the “shareholders only” mythology one would have to assume a static economy, one without the innovation which by definition requires the efforts of an educated, or at least well informed labor force, with a stake in the action.  Speaking of innovation — there’s a looming problem for U.S. based research and development that’s related to the sequestration of federal funding given a full treatment by Brad Plumer in WaPo.

If we truly want free market capitalism to work, then cavalierly dismissing the underpinning of the structure — aggregate demand, and twisting the concept of investor risk into the pretzel logic of financialism is a counter-productive exercise.

So, let’s get back to basics — “Businesses hire when they are swamped with demand, not when they have high profits.”

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