Category Archives: Economic Policy

Manufacturing employment and the prime-age male LFP rate: What’s the relationship?

Recently I wrote about the decline in the U.S. prime-age male labor force participation (LFP) rate and discussed some of the factors that may have caused it. One of the demand-side factors that many people think played a role is the decline in manufacturing employment in the United States.

Manufacturing has typically been a male-dominated industry, especially for males with less formal education, but increases in automation and productivity have resulted in fewer manufacturing jobs in the United States over time. As manufacturing jobs disappeared, the story goes, so did a lot of economic opportunities for working-age men. The result has been men leaving the labor force.

However, the same decline in manufacturing employment occurred in other countries as well, yet many of them experienced much smaller declines in their prime-age male LFP rates. The table below shows the percent of employment in manufacturing in 1990 and 2012 for 10 OECD countries, as well as their 25 to 54 male LFP rates in 1990 and 2012. The manufacturing data come from the FRED website and the LFP data are from the OECD data site. The ten countries included here were chosen based on data availability and I think they provide a sample that can be reasonably compared to the United States.

country 25-54 LFP rate, manuf table

As shown in the table, all of the countries experienced a decline in manufacturing employment and labor force participation over this time period. Thus America was not unique in this regard.

But when changes in both variables are plotted on the same graph, the story that the decline in manufacturing employment caused the drop in male LFP rate doesn’t really hold up.

country 25-54 LFP rate, manuf scatter plot

The percentage point change in manufacturing employment is across the top on the x-axis and the percentage point change in the prime-age male LFP rate is on the y-axis. As shown in the graph the relationship between the two is negative in this sample, and the change in manufacturing employment explains almost 36% of the variation in LFP rate declines (the coefficient on the decline in manufacturing employment is -0.322 and the p-value is 0.08).

In other words, the countries that experienced the biggest drops in manufacturing employment experienced the smallest drops in their LFP rate, which is the opposite of what we would expect if the decline in manufacturing employment played a big role in the decline of the LFP rate across countries.

Of course, correlation does not mean causation and I find it hard to believe that declines in manufacturing employment actually improved LFP rates, all else equal. But I also think the less manufacturing, less labor force participation story is too simple, and this data supports that view.

America and Italy experienced similar declines in their male LFP rates but neither experienced the largest declines in manufacturing employment over this time period. What else is going on in America that caused its LFP decline to more closely resemble Italy’s than that of Canada, Australia and the UK, which are more similar to America along many dimensions?

Whatever the exact reasons are, it appears that American working-age males responded differently to the decline in manufacturing employment over the last 20 + years than similar males in similar countries. This could be due to our higher incarceration rate, the way our social safety net is constructed, differences between education systems, the strength of the economy overall or a number of other factors. But attributing the bulk of the blame to the decline of manufacturing employment doesn’t seem appropriate.

Many working-age males aren’t working: What should be done?

The steady disappearance of prime-age males (age 25-54) from the labor force has been occurring for decades and has recently become popular in policy circles. The prime-age male labor force participation rate began falling in the 1950s, and since January 1980 the percent of prime-age males not in the labor force has increased from 5.5% to 12.3%. In fact, since the economy started recovering from our latest recession in June 2009 the rate has increased by 1.3 percentage points.

The 12.3% of prime-age males not in the labor force nationwide masks substantial variation at the state level. The figure below shows the percentage of prime-age males not in the labor force—neither working nor looking for a job—by state in 2016 according to data from the Current Population Survey.

25-54 males NILF by state 2016

The lowest percentage was in Wyoming, where only 6.3% of prime males were out of the labor force. On the other end of the spectrum, over 20% of prime males were out of the labor force in West Virginia and Mississippi, a shocking number. Remember, prime-age males are generally not of school age and too young to retire, so the fact that one out of every five is not working or even looking for a job in some states is hard to fathom.

Several researchers have investigated the absence of these men from the labor force and there is some agreement on the cause. First, demand side factors play a role. The decline of manufacturing, traditionally a male dominated industry, reduced the demand for their labor. In a state like West Virginia, the decline of coal mining—another male dominated industry—has contributed as well.

Some of the most recent decline is due to less educated men dropping out as the demand for their skills continues to fall. Geographic mobility has also declined, so even when an adjacent state has a stronger labor market according to the figure above—for example West Virginia and Maryland—people aren’t moving to take advantage of it.

Of course, people lose jobs all the time yet most find another one. Moreover, if someone isn’t working, how do they support themselves? The long-term increase in female labor force participation has allowed some men to rely on their spouse for income. Other family members and friends may also help. There is also evidence that men are increasingly relying on government aid, such as disability insurance, to support themselves.

These last two reasons, relying on a family member’s income or government aid, are supply-side reasons, since they affect a person’s willingness to accept a job rather than the demand for a person’s labor. A report by Obama’s Council of Economic Advisors argued that supply-side reasons were only a small part of the decline in the prime-age male labor force participation rate and that the lack of demand was the real culprit:

“Reductions in labor supply—in other words, prime-age men choosing not to work for a given set of labor market conditions—explain relatively little of the long-run trend…In contrast, reductions in the demand for labor, especially for lower-skilled men, appear to be an important component of the decline in prime-age male labor force participation.”

Other researchers, however, are less convinced. For example, AEI’s Nicholas Eberstadt thinks that supply-side factors play a larger role than the CEA acknowledges and he discusses these in his book Men Without Work. One piece of evidence he notes is the different not-in-labor-force (NILF) rates of native born and foreign born prime-age males: Since one would think that structural demand shocks would affect both native and foreign-born alike, the difference indicates that some other factor may be at work.

In the figure below, I subtract the foreign born not-in-labor-force rate from the native born rate by state. A positive number means that native prime-age males are less likely to be in the labor force than foreign-born prime age males. (Note: Foreign born only means a person was born in a country other than the U.S.: It does not mean that the person is not a citizen at the time the data was collected.)

25-54 native, foreign NILF diff

As shown in the figure, natives are less likely to be in the labor force (positive bar) in 34 of the 51 areas (DC included). For example, in Texas the percent of native prime-age men not in the labor force is 12.9% and the percentage of foreign-born not in the labor force is 5.9%, a 7 percentage point gap, which is what’s displayed in the figure above.

The difference in the NILF rate between the two groups is also striking when broken down by education, as shown in the next figure.

25-54 native, foreign males NILF by educ

In 2016, natives with less than a high school degree were four times more likely to be out of the labor force than foreign born, while natives with a high school degree were twice as likely to be out of the labor force. The NILF rates for some college or a bachelor’s or more are similar.

Mr. Eberstadt attributes some of this difference to the increase in incarceration rates since the 1970s. The U.S. imprisons a higher percentage of its population than almost any other country and it is very difficult to find a job with an arrest record or a conviction.

There aren’t much data combining employment and criminal history so it is hard to know exactly how much of a role crime plays in the difference between the NILF rates by education. Mr. Eberstadt provides some evidence in his book that shows that men with an arrest or conviction are much more likely to be out of the labor force than similar men without, but it is not perfectly comparable to the usual BLS data. That being said, it is reasonable to think that the mass incarceration of native prime-age males, primarily those with little formal education, has created a large group of unemployable, and thus unemployed, men.

Is incarceration a supply or demand side issue? On one hand, people with a criminal record are not really in demand, so in that sense it’s a demand issue. On the other hand, crime is a choice in many instances—people may choose a life of crime over other, non-criminal professions because it pays a higher wage than other available options or it somehow provides them with a more fulfilling life (e.g. Tony Soprano). In this sense crime and any subsequent incarceration is the result of a supply-side choice. Drug use that results in incarceration could also be thought of this way. I will let the reader decide which is more relevant to the NILF rates of prime-age males.

Criminal justice reform in the sense of fewer arrests and incarcerations would likely improve the prime-age male LFP rate, but the results would take years to show up in the data since such reforms don’t help the many men who have already served their time and want to work but are unable to find a job. Reforms that make it easier for convicted felons to find work would offer more immediate help, and there has been some efforts in this area. How successful they will be remains to be seen.

Other state reforms such as less occupational licensing would make it easier for people— including those with criminal convictions—to enter certain professions. There are also several ideas floating around that would make it easier for people to move to areas with better labor markets, such as making it easier to transfer unemployment benefits across state lines.

More economic growth would alleviate much of the demand side issues, and tax reform and reducing regulation would help on this front.

But has something fundamentally changed the way some men view work? Would some, especially the younger ones, rather just live with their parents and play video games, as economist Erik Hurst argues? For those wanting to learn more about this issue, Mr. Eberstadt’s book is a good place to start.

Mutant Capitalism rears its ugly head in Arlington

Confectionery-giant Nestlé plans to move its U.S. headquarters from California to 1812 North Moore in the Rosslyn area of Arlington in the next few years. This should be great news for the people of Arlington—a world-famous company has decided that Arlington County is the best place to be in the U.S. This must be due to our educated workforce and high quality of life, right?

Maybe. The real attraction might also be the $6 million of state handouts to Nestlé, along with an additional $6 million from Arlington County. Government handouts like these have become a way of life in the U.S. even though the results are often underwhelming.

Federal programs such as the New Markets Tax Credit Program have had at best small effects on economic development, and there is a good chance they just reallocate economic activity from one place to another rather than generate new economic activity. Local programs like Tax Increment Financing appear to largely reallocate economic activity as well. These programs might be good for the neighborhood or city that gets the handout, but it doesn’t help the residents of nearby places who are forced to contribute via their tax dollars.

In the Nestlé case, all of Virginia’s taxpayers are paying for Nestlé to locate in Arlington, which already has a relatively strong economy and is one of the wealthiest counties in Virginia. Why should taxpayers in struggling counties such as Buchanan or Dickenson County be forced to subsidize a company in Arlington? Government handouts to firms are often regressive since companies rarely want to locate in areas with a low-skill—and thus low-income—workforce. Everyone pays, but the most economically successful areas get the benefits.

Government officials often praise the jobs that these deals create and the Nestlé deal is no different: According to the performance agreement, Nestlé must create and maintain 748 new full-time jobs. And even if we ignore the fact that jobs are an economic cost, not a benefit, a closer look reveals that projections and reality usually diverge. For example, Buffalo awarded hundreds of millions of dollars to SolarCity, which promised to create 5,000 jobs. They have since revised that number down to 1,460. There are numerous other examples where the cost per job turned out to be higher than initially projected.

The grant performance agreement also estimates that Nestlé will provide $18.2 million in taxes to the county over the next 10 years, more than enough to offset the grant expenditure. But this doesn’t take into account what would have happened absent the handout. Perhaps some other company would have relocated here for free. Or a local company, or collection of companies, would have eventually rented out the space.

Government grants may also distort the real estate market: There’s a good chance no company had occupied 1812 North Moore because the rent was too high. If so, part of this grant is a handout to the owners of the building, Monday Properties, since now it does not have to lower its rent to attract a tenant. This may lead other property companies to lobby for and expect government handouts to help them find tenants.

Government grants often distort the economy by treating out-of-state companies differently than in-state companies. They encourage relocation by subsidizing it, which discourages expansion. A better strategy is to create a simple, non-intrusive business environment that treats all businesses equally.

Government grants are a characteristic of what my colleague Chris Koopman calls Mutant Capitalism and are antithetical to real capitalism and free enterprise. Capitalism involves businesses competing for consumers on an even playing field—there is no room for government favors that tilt the playing field towards one business or another.

Government Spending and Economic Growth in Nebraska since 1997

Mercatus recently released a study that examines Nebraska’s budget, budgetary rules and economy. As the study points out, Nebraska, like many other states, consistently faces budgeting problems. State officials are confronted by a variety of competing interests looking for more state funding—schools, health services and public pensions to name a few—and attempts to placate each of them often leave officials scrambling to avoid budget shortfalls in the short term.

Money spent by state and local governments is collected from taxpayers who earn money in the labor market and through investments. The money earned by taxpayers is the result of producing goods and services that people want and the total is essentially captured in a state’s Gross Domestic Product (GSP).

State GSP is a good measure of the amount of money available for a state to tax, and if state and local government spending is growing faster than GSP, state and local governments will be controlling a larger and larger portion of their state’s output over time. This is unsustainable in the long run, and in the short run more state and local government spending can reduce the dynamism of a state’s economy as resources are taken from risk-taking entrepreneurs in the private sector and given to government bureaucrats.

The charts below use data from the BEA to depict the growth of state and local government spending and private industry GSP in Nebraska (click on charts to enlarge). The first shows the annual growth rates in private industry GSP and state and local government GSP from 1997 to 2014. The data is adjusted for inflation (2009 dollars) and the year depicted is the ending year (e.g. 1998 is growth from 1997 – 1998).

NE GSP annual growth rates 1997-14

In Nebraska, real private industry GSP growth has been positive every year except for 2012. There is some volatility consistent with the business cycles over this time period, but Nebraska’s economy has regularly grown over this period.

On the other hand, state and local GSP growth was negative 10 of the 17 years depicted. It grew rapidly during recession periods (2000 – 2002 and 2009 – 2010), but it appears that state and local officials were somewhat successful in reducing spending once economic conditions improved.

The next chart shows how much private industry and state and local GSP grew over the entire period for both Nebraska and the U.S. as a whole. The 1997 value of each category is used as the base year and the yearly ratio is plotted in the figure. The data is adjusted for inflation (2009 dollars).

NE, US GSP growth since 1997

In 2014, Nebraska’s private industry GSP (red line) was nearly 1.6 times larger than its value in 1997. On the other hand, state and local spending (light red line) was only about 1.1 times larger. Nebraska’s private industry GSP grew more than the country’s as a whole over this period (57% vs 46%) while its state and local government spending grew less (11% vs. 15%).

State and local government spending in Nebraska spiked from 2009 to 2010 but has come down slightly since then. Meanwhile, the state’s private sector has experienced relatively strong growth since 2009 compared to the country as a whole, though it was lagging the country prior to the recession.

Compared to the country overall, Nebraska’s private sector economy has been doing well since 2008 and state and local spending, while growing, appears to be largely under control. If you would like to learn more about Nebraska’s economy and the policies responsible for the information presented here, I encourage you to read Governing Nebraska’s Fiscal Commons: Addressing the Budgetary Squeeze, by Creighton University Professor Michael Thomas.

Economic policies and institutions matter

Economists often talk about the important role institutions and policies play in generating economic growth. A new paper that examines the role of urban governance and city-level productivity provides some additional, indirect evidence that institutions and policies impact economic productivity at the local level. (The focus of the paper is how administrative fragmentation affects city-level productivity, not what I present here, but I thought the following was interesting nonetheless.)

The authors graph the correlation between city population and city productivity for five different countries. There is a positive relationship between population and productivity in all of the countries, which is consistent with other studies that find a similar relationship. This relationship is largely due to agglomeration economies and the greater degree of specialization within large cities.

One of the figures from the study—for the U.S.—is shown below. City productivity is measured on the y-axis and the natural log of city population is on the x-axis. (Technical note for those interested: city productivity is measured as the coefficient on a city dummy variable in an individual-level log hourly wage/earnings regression that also controls for gender, age, age squared, education and occupation. This strips away observable characteristics of the population that may affect city productivity.)

US city productivity

Source: Ahrend, Rudiger, et al. “What makes cities more productive? Evidence from five OECD countries on the role of urban governance.” Journal of Regional Science 2017

 

As shown in the graph there is a relatively tight, positive relationship between size and productivity. The two noticeable outlies are El Paso and McAllen, TX, both of which are on the border with Mexico.

The next figure depicts the same information but for cities in Germany.

german city size, product graph

What’s interesting about this figure is that there is a cluster of outliers in the bottom left, which weakens the overall relationship. The cities in this cluster are less productive than one would expect based on their population. These cities also have another thing in common: They are located in or near what was East Germany. The authors comment on this:

“In Germany, the most noteworthy feature is probably the strong east-west divide, with city productivity premiums in eastern German cities being, on the whole, significantly below the levels found in western German cities of comparable size. In line with this finding, the city productivity premium in Berlin lies in between the trends in eastern and western Germany.”

The data used to construct these figures are from 2007, 17 years after the unification of Germany. After WWII and until 1990, East Germany was under communist control and had a centrally planned economy, complete with price controls and production quotas, while West Germany had a democratic government and market economy.

Since 1990, both areas have operated under the same country-level rules and institutions, but as shown above the productivity difference between the two regions persisted. This is evidence that it can take a considerable amount of time for an area to overcome damaging economic policies.

Why the lack of labor mobility in the U.S. is a problem and how we can fix it

Many researchers have found evidence that mobility in the U.S. is declining. More specifically, it doesn’t appear that people move from places with weaker economies to places with stronger economies as consistently as they did in the past. Two sets of figures from a paper by Peter Ganong and Daniel Shoag succinctly show this decline over time.

The first, shown below, has log income per capita by state on the x-axis for two different years, 1940 (left) and 1990 (right). On the vertical axis of each graph is the annual population growth rate by state for two periods, 1940 – 1960 (left) and 1990 – 2010 (right).

directed migration ganong, shoag

In the 1940 – 1960 period, the graph depicts a strong positive relationship: States with higher per capita incomes in 1940 experienced more population growth over the next 20 years than states with lower per capita incomes. This relationship disappears and actually reverses in the 1990 – 2010 period: States with higher per capita incomes actually grew slower on average. So in general people became less likely to move to states with higher incomes between the middle and end of the 20th century. Other researchers have also found that people are not moving to areas with better economies.

This had an effect on income convergence, as shown in the next set of figures. In the 1940 – 1960 period (left), states with higher per capita incomes experienced less income growth than states with lower per capita incomes, as shown by the negative relationship. This negative relationship existed in the 1990 – 2010 period as well, but it was much weaker.

income convergence ganong, shoag

We would expect income convergence when workers leave low income states for high income states, since that increases the labor supply in high-income states and pushes down wages. Meanwhile, the labor supply decreases in low-income states which increases wages. Overall, this leads to per capita incomes converging across states.

Why labor mobility matters

As law professor David Schleicher points out in a recent paper, the current lack of labor mobility can reduce the ability of the federal government to manage the U.S. economy. In the U.S. we have a common currency—every state uses the U.S. dollar. This means that if a state is hit by an economic shock, e.g. low energy prices harm Texas, Alaska and North Dakota but help other states, that state’s currency cannot adjust to cushion the blow.

For example, if the UK goes into a recession, the Bank of England can print more money so that the pound will depreciate relative to other currencies, making goods produced in the UK relatively cheap. This will decrease the UK’s imports and increase economic activity and exports, which will help it emerge from the recession. If the U.S. as a whole suffered a negative economic shock, a similar process would take place.

However, within a country this adjustment mechanism is unavailable: Texas can’t devalue its dollar relative to Ohio’s dollar. There is no within-country monetary policy that can help particular states or regions. Instead, the movement of capital and labor from weak areas to strong areas is the primary mechanism available for restoring full employment within the U.S. If capital and labor mobility are low it will take longer for the U.S. to recover from area-specific negative economic shocks.

State or area-specific economic shocks are more likely in large countries like the U.S. that have very diverse local economies. This makes labor and capital mobility more important in the U.S. than in smaller, less economically diverse countries such as Denmark or Switzerland, since those countries are less susceptible to area-specific economic shocks.

Why labor mobility is low

There is some consensus about policies that can increase labor mobility. Many people, including former President Barack Obama, my colleagues at the Mercatus Center and others, have pointed out that state occupational licensing makes it harder for workers in licensed professions to move across state borders. There is similar agreement that land-use regulations increase housing prices which makes it harder for people to move to areas with the strongest economies.

Reducing occupational licensing and land-use regulations would increase labor mobility, but actually doing these things is not easy. Occupational licensing and land-use regulations are controlled at the state and local level, so currently there is little that the federal government can do.

Moreover, as Mr. Schleicher points out in his paper, state and local governments created these regulations for a reason and it’s not clear that they have any incentive to change them. Like all politicians, state and local ones care about being re-elected and that means, at least to some extent, listening to their constituents. These residents usually value stability, so politicians who advocate too strongly for growth may find themselves out of office. Mr. Schleicher also notes that incumbent politicians often prefer a stable, immobile electorate because it means that the voters who elected them in the first place will be there next election cycle.

Occupational licensing and land-use regulations make it harder for people to enter thriving local economies, but other policies make it harder to leave areas with poor economies. Nearly 13% of Americans work for state and local governments and 92% of them have a defined-benefit pension plan. Defined-benefit plans have long vesting periods and benefits can be significantly smaller if employees split their career between multiple employers rather than remain at one employer. Thus over 10% of the workforce has a strong retirement-based incentive to stay where they are.

Eligibility standards for public benefits and their amounts also vary by state, and this discourages people who receive benefits such as Temporary Assistance for Needy Families (TANF) from moving to states that may have a stronger economy but less benefits. Even when eligibility standards and benefits are similar, the paperwork and time burden of enrolling in a new state can discourage mobility.

The federal government subsidizes home ownership as well, and homeownership is correlated with less labor mobility over time. Place-based subsidies to declining cities also artificially support areas that should have less people. As long as state and federal governments subsidize government services in cities like Atlantic City and Detroit people will be less inclined to leave them. People-based subsidies that incentivize people to move to thriving areas are an alternative that is likely better for the taxpayer, the recipient and the country in the long run.

How to increase labor mobility

Since state and local governments are unlikely to directly address the impediments to labor mobility that they have created, Mr. Schleicher argues for more federal involvement. Some of his suggestions don’t interfere with local control, such as a federal clearinghouse for coordinated occupational-licensing rules across states. This is not a bad idea but I am not sure how effective it would be.

Other suggestions are more intrusive and range from complete federal preemption of state and local rules to federal grants that encourage more housing construction or suspension of the mortgage-interest deduction in places that restrict housing construction.

Local control is important due to the presence of local knowledge and the beneficial effects that arise from interjurisdictional competition, so I don’t support complete federal preemption of local rules. Economist William Fischel also thinks the mortgage interest deduction is largely responsible for excessive local land-use regulation, so eliminating it altogether or suspending it in places that don’t allow enough new housing seems like a good idea.

I also support more people-based subsidies that incentivize moving to areas with better economies and less place-based subsidies. These subsidies could target people living in specific places and the amounts could be based on the economic characteristics of the destination, with larger amounts given to people who are willing to move to areas with the most employment opportunities and/or highest wages.

Making it easier for people to retain any state-based government benefits across state lines would also help improve labor mobility. I support reforms that reduce the paperwork and time requirements for transferring benefits or for simply understanding what steps need to be taken to do so.

Several policy changes will need to occur before we can expect to see significant changes in labor mobility. There is broad agreement around some of them, such as occupational licensing and land-use regulation reform, but bringing them to fruition will take time. As for the less popular ideas, it will be interesting to see which, if any, are tried.

Today’s public policies exacerbate our differences

The evidence that land-use regulations harm potential migrants keeps piling up. A recent paper in the Journal of Urban Economics finds that young workers (age 22 – 26) of average ability who enter the labor force in a large city (metropolitan areas with a population > 1.5 million) earn a wage premium equal 22.9% after 5 years.

The author also finds that high-ability workers experience additional wage growth in large cities but not in small cities or rural areas. This leads to high-ability workers sorting themselves into large cities and contributes an additional 3.2% to the urban wage-growth premium.

These findings are consistent with several other papers that have analyzed the urban wage premium. Potential causes of the wage premium are faster human capital accumulation in denser, more populated places due to knowledge spillovers and more efficient labor markets that better match employers and employees.

The high cost of housing in San Francisco, D.C., New York and dozens of other cities is preventing many young people from earning more money and improving their lives. City officials and residents need to strike a better balance between maintaining the “charm” of their neighborhoods and affordability. This means less regulation and more building.

City vs. rural is only one of the many dichotomies pundits have been discussing since the 2016 election. Some of the other versions of “two Americas” are educated vs. non-educated, white collar vs. blue collar, and rich vs. poor. We can debate how much these differences matter, but to the extent that they are an issue for the country our public policies have reinforced the barriers that allow them to persist.

Occupational licensing makes it more difficult for blue-collar manufacturing workers to transition to middle-class service sector jobs. Federal loan subsidies have made four-year colleges artificially cheap to the detriment of people with only a high school education. Restrictive zoning has made it too expensive for many people to move to places with the best labor markets. And once you’re in a city, unless you’re in one of the best neighborhoods your fellow citizens often keep employers and providers of much needed consumer staples like Wal-Mart out, while using eminent domain to build their next playground.

Over time people have sorted themselves into different groups and then erected barriers to keep others out. Communities do it with land-use regulations, occupations do it with licensing and established firms do it with regulatory capture. If we want a more prosperous America that de-emphasizes our differences and provides people of all backgrounds with opportunity we need more “live and let live” and less “my way or the highway”.

More labor market freedom means more labor force participation

The U.S. labor force participation (LFP) rate has yet to bounce back to its pre-recession level. Some of the decline is due to retiring baby-boomers but even the prime-age LFP rate, which only counts people age 25 – 54 and thus less affected by retirement, has not recovered.

Economists and government officials are concerned about the weak recovery in labor force participation. A high LFP rate is usually a sign of a strong economy—people are either working or optimistic about their chances of finding a job. A low LFP rate is often a sign of little economic opportunity or disappointment with the employment options available.

The U.S. is a large, diverse country so the national LFP rate obscures substantial state variation in LFP rates. The figure below shows the age 16 and up LFP rates for the 50 states and the U.S. as a whole (black bar) in 2014. (data)

2014-state-lfp-rates

The rates range from a high of 72.6% in North Dakota to a low of 53.1% in West Virginia. The U.S. rate was 62.9%. Several of the states with relatively low rates are in the south, including Mississippi, Alabama and Arkansas. Florida and Arizona also had relatively low labor force participation, which is not surprising considering their reputations as retirement destinations.

There are several reasons why some states have more labor force participation than others. Demographics is one: states with a higher percentage of people over age 65 and between 16 and 22 will have lower rates on average since people in these age groups are often retired or in school full time. States also have different economies made up of different industries and at any given time some industries are thriving while others are struggling.

Federal and state regulation also play a role. Federal regulation disparately impacts different states because of the different industrial compositions of state economies. For example, states with large energy industries tend to be more affected by federal regulation than other states.

States also tax and regulate their labor markets differently. States have different occupational licensing standards, different minimum wages and different levels of payroll and income taxes among other things. Each of these things alters the incentive for businesses to hire or for people to join the labor market and thus affects states’ LFP rates.

We can see the relationship between labor market freedom and labor force participation in the figure below. The figure shows the relationship between the Economic Freedom of North America’s 2013 labor market freedom score (x-axis) and the 2014 labor force participation rate for each state (y-axis).

lab-mkt-freed-and-lfp-rate

As shown in the figure there is a positive relationship—more labor market freedom is associated with a higher LFP rate on average. States with lower freedom scores such as Mississippi, Kentucky and Alabama also had low LFP rates while states with higher freedom scores such as North Dakota, South Dakota and Virginia had higher LFP rates.

This is not an all-else-equal analysis and other variables—such as demographics and industry composition which I mentioned earlier—also play a role. That being said, state officials concerned about their state’s labor market should think about what they can do to increase labor market freedom—and economic freedom more broadly—in their state.

What else can the government do for America’s poor?

This year marks the 20th anniversary of the 1996 welfare reforms, which has generated some discussion about poverty in the U.S. I recently spoke to a group of high school students on this topic and about what reforms, if any, should be made to our means-tested welfare programs.

After reading several papers (e.g. here, here and here), the book Hillbilly Elegy, and reflecting on my own experiences I am not convinced the government is capable of doing much more.

History

President Lyndon Johnson declared “War on Poverty” in his 1964 state of the union address. Over the last 50 years there has been some progress but there are still approximately 43 million Americans living in poverty as defined by the U.S. Census Bureau.

Early on it looked as if poverty would be eradicated fairly quickly. In 1964, prior to the “War on Poverty”, the official poverty rate was 20%. It declined rapidly from 1965 to 1972, especially for the most impoverished groups as shown in the figure below (data from Table 1 in Haveman et al. , 2015). (Click to enlarge)

poverty-rate-1965-72

Since 1972 the poverty rate has remained fairly constant. It reached its lowest point in 1973—11.1%—but has since fluctuated between roughly 11% and 15%, largely in accordance with the business cycle. The number of people in poverty has increased, but that is unsurprising considering the relatively flat poverty rate coupled with a growing population.

census-poverty-rate-time-series-2015

Meanwhile, an alternative measure called the supplemental poverty measure (SPM) has declined, but it was still over 15% as of 2013, as shown below.

poverty-rate-time-series

The official poverty measure (OPM) only includes cash and cash benefits in its measure of a person’s resources, while the SPM includes tax credits and non-cash transfers (e.g. food stamps) as part of someone’s resources when determining their poverty status. The SPM also makes adjustments for local cost of living.

For example, the official poverty threshold for a single person under the age of 65 was $12,331 in 2015. But $12,331 can buy more in rural South Carolina than it can in Manhattan, primarily because of housing costs. The SPM takes these differences into account, although I am not sure it should for reasons I won’t get into here.

Regardless of the measure we look at, poverty is still higher than most people would probably expect considering the time and resources that have been expended trying to reduce it. This is especially true in high-poverty areas where poverty rates still exceed 33%.

A county-level map from the Census that uses the official poverty measure shows the distribution of poverty across the 48 contiguous states in 2014. White represents the least amount of poverty (3.2% to 11.4%) and dark pink the most (32.7% to 52.2%).

us-county-poverty-map

The most impoverished counties are in the south, Appalachia and rural west, though there are pockets of high-poverty counties in the plains states, central Michigan and northern Maine.

Why haven’t we made more progress on poverty? And is there more that government can do? I think these questions are intertwined. My answer to the first is it’s complicated and to the second I don’t think so.

Past efforts

The inability to reduce the official poverty rate below 10% doesn’t appear to be due to a lack of money. The figure below shows real per capita expenditures—sum of federal, state and local—on the top 84 (top line) and the top 10 (bottom line) means-tested welfare poverty programs since 1970. It is from Haveman et al. (2015).

real-expend-per-capita-on-poverty-programs

There has been substantial growth in both since the largest drop in poverty occurred in the late 1960s. If money was the primary issue one would expect better results over time.

So if the amount of money is not the issue what is? It could be that even though we are spending money, we aren’t spending it on the right things. The chart below shows real per capita spending on several different programs and is also from Haveman et al. (2015).

expend-per-cap-non-medicaid-pov-programs

Spending on direct cash-assistance programs—Aid for Families with Dependent Children (AFDC) and Temporary Assistance for Needy Families (TANF)—has fallen over time, while spending on programs designed to encourage work—Earned Income Tax Credit (EITC)—and on non-cash benefits like food stamps and housing aid increased.

In the mid-1970s welfare programs began shifting from primarily cash aid (AFDC, TANF) to work-based aid (EITC). Today the EITC and food stamps are the core programs of the anti-poverty effort.

It’s impossible to know whether this shift has resulted in more or less poverty than what would have occurred without it. We cannot reconstruct the counterfactual without going back in time. But many people think that more direct cash aid, in the spirit of AFDC, is what’s needed.

The difference today is that instead of means-tested direct cash aid, many are calling for a universal basic income or UBI. A UBI would provide each citizen, from Bill Gates to the poorest single mother, with a monthly cash payment, no strings attached. Prominent supporters of a UBI include libertarian-leaning Charles Murray and people on the left such as Matt Bruenig and Elizabeth Stoker.

Universal Basic Income?

The details of each UBI plan vary, but the basic appeal is the same: It would reduce the welfare bureaucracy, simplify the process for receiving aid, increase the incentive to work at the margin since it doesn’t phase out, treat low-income people like adults capable of making their own decisions and mechanically decrease poverty by giving people extra cash.

A similar proposal is a negative income tax (NIT), first popularized by Milton Friedman. The current EITC is a negative income tax conditional on work, since it is refundable i.e. eligible people receive the difference between their EITC and the taxes they owe. The NIT has its own problems, discussed in the link above, but it still has its supporters.

In theory I like a UBI. Economists in general tend to favor cash benefits over in-kind programs like vouchers and food stamps due to their simplicity and larger effects on recipient satisfaction or utility. In reality, however, a UBI of even $5,000 is very expensive and there are public choice considerations that many UBI supporters ignore, or at least downplay, that are real problems.

The political process can quickly turn an affordable UBI into an unaffordable one. It seems reasonable to expect that politicians trying to win elections will make UBI increases part of their platform, with each trying to outdo the other. There is little that can be done, short of a constitutional amendment (and even those can be changed), to ensure that political forces don’t alter the amount, recipient criteria or add additional programs on top of the UBI.

I think the history of the income tax demonstrates that a relatively low, simple UBI would quickly morph into a monstrosity. In 1913 there were 7 income tax brackets that applied to all taxpayers, and a worker needed to make more than $20K (equivalent to $487,733 in 2016) before he reached the second bracket of 2% (!). By 1927 there were 23 brackets and the second one, at 3%, kicked in at $4K ($55,500 in 2016) instead of $20K. And of course we are all aware of the current tax code’s problems. To chart a different course for the UBI is, in my opinion, a work of fantasy.

Final thoughts

Because of politics, I think an increase in the EITC (and reducing its error rate), for both working parents and single adults, coupled with criminal justice reform that reduces the number of non-violent felons—who have a hard time finding employment upon release—are preferable to a UBI.

I also support the abolition of the minimum wage, which harms the job prospects of low-skilled workers. If we are going to tie anti-poverty programs to work in order to encourage movement towards self-sufficiency, then we should make it as easy as possible to obtain paid employment. Eliminating the minimum wage and subsidizing income through the EITC is a fairer, more efficient way to reduce poverty.

Additionally, if a minimum standard of living is something that is supported by society than all of society should share the burden via tax-funded welfare programs. It is not philanthropic to force business owners to help the poor on behalf of the rest of us.

More economic growth would also help. Capitalism is responsible for lifting billions of people out of dire poverty in developing countries and the poverty rate in the U.S. falls during economic expansions (see previous poverty rate figures). Unfortunately, growth has been slow over the last 8 years and neither presidential candidate’s policies inspire much hope.

In fact, a good way for the government to help the poor is to reduce regulation and lower the corporate tax rate, which would help economic growth and increase wages.

Despite the relatively high official poverty rate in the U.S., poor people here live better than just about anywhere else in the world. Extreme poverty—think Haiti—doesn’t exist in the U.S. On a consumption rather than income basis, there’s evidence that the absolute poverty rate has fallen to about 4%.

Given the way government functions I don’t think there is much left for it to do. Its lack of local knowledge and resulting blunt, one size fits all solutions, coupled with its general inefficiency, makes it incapable of helping the unique cases that fall through the current social safety net.

Any additional progress will need to come from the bottom up and I will discuss this more in a future post.

Women are driving recent increase in age 25-54 labor force participation

Josh Zumbrun from the WSJ posted some interesting labor market charts that use data from today’s September jobs report. The one that jumped out at me was the one below, which shows the prime-age (age 25-54) employment and labor force participation (LFP) rate.

wsj-prime-age-sept-16-prime-age-lfp

In a related tweet he notes that the 25 – 54 LFP rate is up nearly 1 percentage point in the last year. The exact number is 0.9 from Sept. 2015 to Sept. 2016, and in the figure above you can clearly see an increase in the blue line at the end. So does this mean we are finally seeing a recovery in the prime age LFP rate? Yes and no.

I dug a little deeper and females appear to be driving most of the trend. The figure below shows the prime age male and female LFP rates from Jan. 2006 to the Sept. 2016. (Female data series LNS11300062 and male series LNS11300061)

oct-female-male-lfp-rate-1-06-9-16

As shown in the figure, the female LFP rate (orange line) appears to be steadily increasing since September of last year while the male LFP rate (blue line) is flatter. To get a better look, the following figure zooms in on the period January 2015 to September 2016 and adds a linear trend line.

oct-male-female-lfp-rate-1-15-9-16

The female LFP rate does appear to be trending up since the beginning of last year, but the male line is essentially flat.

Much has been made about the short-term and long-term decline of the prime-age male LFP rate. President Obama’s Council of Economic Advisors wrote an entire report about it, and economists such as Larry Summers have recently said that figuring out why males are dropping out of the labor force and what to do about it is “vital to our future”.

The recent uptick in the overall prime-age LFP rate is a good sign, but it appears to be largely driven by women. I think it’s still too early to say that the LFP rate of prime-age men has started to improve, and what this means for the future is still unknown.