Friday, August 13, 2010

Tossing the Lemon; Finding A Better Way

America’s ruling class has failed us. Its caché is the ability to make things work by putting the meritocracy (itself) in charge. But the elite’s bright, shiny, large, well-oiled, pricy machine, it turns out, can’t deliver the horsepower our economy needs. It’s a clunker, and America seems ready to junk it.

We need to replace the big government model with policies that free business to do what it does best—invest, create jobs, generate wealth. While the right way forward seems simple, obvious, easily understood, we are now discovering intellectually refined justifications for the common-sense transformation America needs.

One find comes from Michael Barone: an article by economist Arnold Kling that advocates treating labor as capital. In Barone’s words:
Kling argues that the collapse of the housing market and the financial crisis disrupted what had been "a sustainable pattern of specialization and trade" and that we need to let the market economy develop a new one. Instead [of] propping up the old order -- holding up housing prices and the mortgage market, keeping the Detroit auto companies in place, maintaining the lush standard of living of public employee union members [-- we need a] trial-and-error process of private investment that creates new jobs and patterns of production that will be sustainable.

Kling says job creation today involves investing in labor as if labor is capital. Spending for the sake of spending doesn’t work anymore. It’s all about investment:
we have lost the [old] connection between spending and employment. Firms can vary their output with little or no variation in employment. This explains how we can have a “jobless recovery,” meaning a large percentage increase in output without a comparable percentage increase in employment. For firms in today's economy, labor represents an investment. Firms hire workers in order to develop capabilities that will eventually produce output more efficiently. The return on an investment in workers may take . . . longer to realize [than] return on investment [on] a machine [and] may be at least as uncertain.

For the sake of American workers, Kling says, we must start investing now:
The market needs to undertake a recalculation in order to deploy workers in a new, sustainable pattern of specialization and trade. The process involves . . .trial and error. Firms need to be launched by entrepreneurs, who will make risky investments in employees. The failure rate will be high, but eventually the successes will have a cumulative effect that brings about more economic activity.

How much better this new economy sounds. It works when entrepreneurs invest in labor. Government moves its old “spend, spend, spend” model out of the way.

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