Three economists in wonderland

Three economists in wonderland: unemployment is high because workers’ bargaining power is so strong

1. Unemployment is very high in Europe and the US as a result of the crisis. Agreed.
2. It has remain so for several years after the crisis peaked. Indeed.
3. Last year’s Nobel Prize Winners in economics produced models in which firms’ hiring depends on the wage paid to newly recruited workers and this depends on firm’s capital structure (how much debt they have). Yes, I know.
4. Firms are sitting on piles of cash. Yes, I know that, too. So what?

So obviously the way to explain high and persistent unemployment is to take the Nobel-winning model as a basis, add some algebra, note that corporate debts are low, and conclude that workers, seeing this, are placed in a strong bargaining position, demand excessive wages, and this is why firms are not hiring. So unemployment is high and persistent. QED.

You don’t believe me? Then take a look for yourself. Welcome to the wonderland of Monacelli, Quadrini and Trigari, professors at one of Europe’s premier economics departments, members of one of its premier research networks, and enjoying, it appears, privileged access to its premier academia-to-policymakers conduit (Bucconi, CEPR and vox-eu, respectively).

You might have thought, given the seriousness of the issue, that it might be sensible to ask whether other explanations for facts 1, 2 and 4 exist. You know, something embarrassingly simple like: unemployment is very high because of the crisis. It remains so because of a lack of demand that macro policy is failing to resolve. Because of the lack of demand firms are not investing, perpetuating the lack of demand. Because they are not investing, and because they have aggressively shed labour, firms are sitting on piles of cash rather than aggressively taking on debt.

But of course if you do that you miss that vital fact 3, which gives you the opportunity to work on a complex mathematical model designed by Nobel prize winners, and thus the chance to advance one’s career as an academic economist.

You might also have thought that, even if you just want to play with one model, you would want to see some evidence of the supposed causal link working in the real world, in other words some evidence that wages (specifically wages of newly hired workers) are rising to such an extent that firms are unwilling to hire.

But that would require you to spend ten minutes on the web downloading real-world wage data. Not much academic kudos to be earned there either. Hey, even Andrew Watt can download quarterly ECB data on negotiated wages (annualised rates of change):

You see how after the crisis peaks, firms’ bargaining power weakens while the growing bargaining strength of workers is pushing up wage growth and depressing hiring.

Welcome to wonderland.