The Winners and Losers of the Jobs Report, Economic Theories of the Recession Edition

Here’s an interesting response to the pretty good job numbers from Friday.  Tyler Cowen at marginalrevolution: “The ‘big loser’ here?: Old Keynesianism.  You really can get a recovery when the real shocks are moderately positive.  You will note, as we have been told many many times by many many sources, fiscal and monetary policy have not been extremely pro-active in recent times; in fact the stimulus has been trickling to a close.  The big winners, apart from the American public?: real business cycle theory. ”

I’m very confused about why RBC theory is the winner here and as someone who tries to keep up on the arguments different people put forward on the recession I hope it gets spelled out further.  Krugman, Ryan Avent  and others are all confused by it as well.

Here’s one thing I noticed.  The fourth quarter 2011 GDP growth, annualized, was 2.8%.  The average unemployment rate in third quarter 2011 was about 9.1% and the average unemployment rate in fourth quarter 2011 was about 8.7%, for a drop of 0.4%.  Wait, I think I see something – it’s like there’s a relationship where unemployment drops half of the GDP growth over 2%.  I should declare this Konczal’s Law, become famous and let the money roll right in….

Boo.  According to Google this guy named Arthur Okun came up with this a long time ago.  So is this Arthur Okun a real business cycle theorist?  Do RBC people think of the economy this way?  Because it seems like a really good way of understanding the current recession.

Several people emailed me after Cowen posted that to say that the real loser theory isn’t Keynesianism but all the Structural Unemployment arguments from the past two years.  Here’s Tyler Cowen in January 2011 with “10 Percent Unemployment Forever.”  A strong version of this argument, though not atypical, was from Zachary Karabell, whom I was counter-pointed to on a PBS Newshour segment on structural unemployment, who argued on TV: “irrespective of whether or not GDP growth is three percent one quarter or negative-two percent another…economic growth doesn’t then lead to substantial hiring.”   Growth is fundamentally delinked from employment.

There was never any evidence of this, and 2011 played this out.  In July 2011 Arin Dube  projected Okun’s Law into our Great Recession and found “that growth has been anemic, and that this anemic growth can more than explain the unemployment trajectory during the ‘expansion.'”  For fun, Dube also found “that based on a historical Okun’s Law and actual GDP growth, at least as of 2011q1, both the initial rise in unemployment and the subsequent reduction had been more amplified.”  It also makes the negative GDP growth from contracting government budgets in 2011 all the more devastating.

As Josh Mason noted when he looked at employment and GDP growth in a similar Okun’s Law relationship, “there’s nothing exceptional, in these pictures, about the most recent recession…In terms of the labor market, in other words, the Great Recession was qualitatively no different from other postwar recessions; it was just much deeper.  I understand the intellectual temptation to look for a more interesting story…But if you want to know the proximate reason why unemployment is so high today, there’s a recession on still looks like a sufficiently good working hypothesis.”

There isn’t a grand lesson to learn here – no special culprit in the form of China or a financial crisis or American education levels – just plain old weak aggregate demand.  The simplest and most straight-forward explanation why unemployment is so high is because the economy is struggling.  This is what Yglesias was getting at in his The Crisis We Should Have Had argument.  Why demand is weak is important is study, but it isn’t relevant for getting us to full employment.  As Mason also noted, which is hard to get people to understand, “it’s important to understand why demand fell, but from a policy standpoint, no actually it isn’t. As the saying goes, you don’t refill a flat tire through the hole.”