State expansion today is the government’s desire to have more and more leverage in all large spheres of social processes, especially in the economy. Such statism is presented primarily under the guise of the need to take even greater care of its citizens, as we have seen most clearly in recent times during the Covid pandemic. However, we must not forget that everything has to be paid for, and so does “free” money: the state gives a cent, but it will always end up taking a dollar, as Henry Hazlitt said.
We can see the fairness of all this today by looking at the red-hot labor market relative to the deteriorating state of the economy as a whole. We will also soon be able to see the corresponding negative consequences of this disconnect, no matter what the guys in government and the Fed say. And this next distortion of the market and the economy, as a consequence of government expansionism, has a high probability of leading to extremely negative consequences.
So, employment is on the rise. The total number of paid jobs increased by 315,000 in August, an increase of 5.8 million over the past 12 months. Total employment is now 240,000 higher than its pre-pandemic level in February 2020.
A labor shortage with a strong demand for labor generates higher wages. Accordingly, to meet their needs, employers compete for labor resources by raising wages. It is clear that against this background, the number of unemployed people looking for work is falling – the demand from employers and attractive wages quickly select the available workforce. By now, the number of unemployed people looking for work varies around the 215 thousand mark, which is a multi-year low. And this is against the backdrop of a technical recession, i.e. a decline in GDP for two quarters in a row, and an extremely high rate of inflation, also pushing to multi-year highs.
The reasons for this divergence between the labor market and all other economic factors lie in several aspects.
First of all, the labor market – employment and unemployment – are lagging indicators because labor and its financing have low elasticity. This means that employers need to be sure that conditions have changed and that they need to squeeze production, and thus reduce labor costs. They have to wait to be sure of the long-term nature of what is happening in the economy. They cannot afford rapid rapid adaptation and change – their transaction costs of production are too high, especially in terms of labor – often hiring or firing employees. For example, those who were laid off had special skills, which means the new employees will have to be trained in those skills. In addition, employers have to pay for those who are fired and those who will be hired later – in the first case, a considerable severance pay, in the second case, recruiters.
Another very important factor in the divergence between the state of the labor market and the rest of the economy is the gap between productivity and employment.
First, productivity is falling because of the new paradigm of telecommuting – the worker is not as concentrated as he or she could be while in the workplace in a corporate competitive environment. Previous measurement results, at the height of the pandemic, when the efficiency of employees working from home was on the rise, compared to the normal office setting, were due to the fear of uncertainty, layoffs and the actual increased competition then. Now it has become apparent that working from home for almost two years has reduced efficiency, while the habits of working with incomplete concentration and regular distractions from the work process have remained.
Second, the labor shortage seen in the labor market is giving rise to less motivation for efficiency in employees who realize that the ball is now in their court.
Third, excessive government social spending reduces motivation for employment in general, which also reduces competition, and thus efficiency and quality, up and down the chain, from worker to product.
Thus, labor productivity declined by 4.1 percent annually in the second quarter of 2022, and compared to the second quarter of 2021, the decline was 2.4 percent, the largest since the late 1940s of the 20th century. This is a result of the fact that output fell by 2.1% and labor hours rose by 2.7%, which means the need for employers to have more workers to maintain the same output.
What does this distortion lead to? That production inflation is rising in no small part because of the labor factor, because labor costs are rising with the same volume of production. And these costs are not only related to the number of employees, but also to the higher cost of labor. For example, labor costs – United Labor Cost – rose 12.7% in the second quarter, which, as we can see, significantly outpaced inflation.
We all understand what high manufacturing inflation leads to: it reduces margins and profits, encourages cost-cutting and production cutbacks, and ultimately causes layoffs. And layoffs are the inevitable decline in consumer demand. In the end, welcome to the recession.
Left-Keynesian government expansion – tax tightening and monetary loosening, regulation, expansion of the redistributive mandate of government inevitably turns into government domination, which distorts all market processes and leads to abnormal and increasing volatility in economic – and therefore social – cycles.
Of course, companies will pursue their own interests and adjust to the environment and circumstances by acting in the most rational way. In particular, the reduction of labor force and its replacement with technological components in production is probably the only positive externalities in such a situation. However, it should be understood that the development and introduction of technology into the production process in conditions of constant technological acceleration is an expensive and not quick thing.
Thus, the negative effect of today’s abnormally hot labor market with accelerating inflation is actually an inevitable recession and high unemployment in the foreseeable future. And all the talk of a soft landing thanks to strong retail sales and the best labor market in modern history is either nonsense or manipulation in the political interest.
The second seems, to put it mildly, more likely.