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Unemployment-Smoothing, Krugman, and Quackery

Commenting on this post, Daniel Kuehn suggests that when Paul Krugman advocates European-style labor-market restrictions and subsidies, he (Krugman) does so not as a means of increasing employment today – in the midst of a recession – but, rather, as a means of keeping employment from falling as dramatically from its boom-time highs.  As Daniel puts it, “Krugman was clearly advocating an unemployment-smoothing strategy across the business cycle, which would increase unemployment in boom times but reduce it in busts.”

Having re-read Krugman’s column several times, I disagree with Daniel regarding Krugman’s intent.  Krugman might well believe that such labor-market policies are desirable in part because they are “unemployment-smoothing.”  But in his column he talks about what can and ought to be done now to reduce America’s current double-digit unemployment rate.

But for the sake of argument let me grant, during the remainder of this post, that Daniel’s interpretation of Krugman is correct.  Alas, such a generous reading of the Princeton professor does little to save him from being justly accused of having infused the column in question with questionable economics.

Below, as reported by the OECD, are annual unemployment rates for Germany and the U.S. for the ten-year periord 1998 through 2007.  (I chose this period because I want reliable comparable data for both countries — so I use the OECD’s reported data for both countries, and 2007 is the most-recent year for which the OECD provides annual unemployment rates for each of these countries.)

Year        Germany               U.S.

1998        9.0%                    4.5%

1999        8.3%                    4.2%

2000       7.5%                    4.0%

2001        7.6%                    4.7%

2002       8.4%                    5.8%

2003       9.3%                    6.0%

2004       9.8%                    5.5%

2005      10.6%                   5.1%

2006       9.8%                   4.6%

2007       8.4%                   4.6%

While it’s true that Germany’s unemployment rate today of 7.7% is lower than America’s current rate of 10.2%, it’s very difficult to look at the above numbers on unemployment rates over recent years and conclude that European-style labor-market restrictions are good policies for people seeking gainful employment.  The average rate of unemployment for Germany over the 1998-2007 period was 8.9% while that for the U.S. was 4.9%.

So if these restrictions “smooth” unemployment, they seem to do so by keeping unemployment perpetually high.

(BTW, I italicize “if” because, at least during the downturn at the beginning of 2000s, it’s not at all clear that changes in Germany’s unemployment rates were significantly smoother than were those in the U.S. — but perhaps such “smoothing” is meant to kick in only for really big downturns, such as the one that began in late 2007, in which case there is added force to what I’ll say now as I return to the main line of my argument.)

If high rates of unemployment are undesirable (and they certainly are), what’s the advantage to having “smoother” unemployment over time if that “smoother” unemployment is at levels chronically higher than would exist in the absence of the policies aimed at “smoothing” unemployment?

If a quack physician continually injects substances into your body that keep you feeling ill, year in year out, you’ll not be much comforted knowing that the change in the way you feel when you really get sick is less than is the change in the way that people not subject to the quack physician feel when those people really get sick.  Induced long-term illness is no cure for illness; nor is it a method of making the patient healthy over the long-run.