Workers and Economists: The Global Economy Has Left Keynes in Its Train

In fact, MIT's Robert Solow won a Nobel Prize in economics in large part for making it very clear why technological progress and capital accumulation are not at all the same -- and how to measure the difference. Since his work, in literally thousands of empirical studies of economic change, the distinction between technology and capital has played a crucial role. (My own article in the November/December 1994 Foreign Affairs, "The Myth of Asia's Miracle," was motivated by this very distinction.)

But Kapstein is quite right that technology need not in principle reduce the wages of the unskilled. Whether it does so depends on the bias of the technological change -- whether it is sufficiently biased toward skilled and against unskilled workers. But the claim of many economists that technological change is a major factor in recent wage trends is not based on a priori reasoning; it is an empirical proposition, based on facts. Nearly all industries (including those not exposed to international competition) have been increasing the average skill level of their work force by hiring relatively more skilled workers, despite the lower wages of unskilled workers. That indicates that recent technological change has been strongly skill-biased.

The conventional view that international trade is only a secondary source of the growth in unemployment and inequality is also an empirical proposition, and one not arrived at lightly. This is an ongoing debate, driven by technical issues rather than ideology. It is risky for nonspecialists to put their faith in an economist merely because they like the sound of what the economist says. For example, Adrian Wood's work, approvingly cited by Kapstein, has been subjected to devastating criticism; Wood's own numbers do not support his strong claims, and he arrives at large estimates of trade's effect only by finessing a basic calculation that indicates the opposite conclusion.ffi

Does the distinction between internal and international causes matter? Yes, it does. Although Kapstein forswears protectionism, it is not at all clear why. After all, if international trade is the main cause of the problem, why not use import restrictions as one line of defense? But if international trade is only 10 or 20 percent of the problem, a protectionist response will bring a whole new set of problems without resolving the ones we already have.

WHAT TO DO

Suppose the middle-of-the-road position on unemployment and inequality is correct: the main source of these problems is a structural, not cyclical, decline in the internal demand for less-skilled labor within advanced countries. One may then conclude that neither a simple policy of overall demand expansion nor one of protectionism against Third World imports is the answer. What, then, can be done?

This is actually not such a hard question. In the United States, which has managed to maintain relatively full employment but has experienced rising inequality, the incomes of low-wage workers need support; but that must be done, so far as possible, without raising the cost to employers of hiring those workers. The obvious answer is something like a much bigger version of the earned income tax credit -- an income supplement for workers with low earnings that falls off as a worker's earnings rise, but not so rapidly as to negate pay increases and discourage work. Such a program would be subject to some abuse, but so are all government programs.

Europe has nearly the opposite problem. The poor receive relatively generous support, but not enough people are employed. What Europe needs to do is reduce the cost of employing the less skilled, so that the private sector will offer them more jobs. But it must do so without, so far as possible, reducing their incomes. In this case reducing or removing the tax burden associated with hiring low-wage labor, and possibly providing some employment subsidies, are the obvious answers.

The important point -- on which I agree with Kapstein -- is that it should be possible to make a large difference to the incomes of low-wage workers (in the United States) or to their prospects of employment (in Europe) without devastating effects on the budget. In the United States, the crucial thing to remember is just how poor the poor are and how rich the country is. If the United States were willing to devote, say, two percent of GDP to income supplements for the working poor, the effect would be dramatic.

So why hasn't the United States tried this policy? Surely it is not because economists have quarreled over whether trade explains 10 or 30 percent of the increase in wage disparities. A better target for Kapstein's ire might be influential figures who insist that the only way to help the poor in America is to cut taxes on the rich. But Kapstein at least seems to place most of the blame on those with what he regards as a misguided, indeed mystical, concern over budget deficits.

FEAR IS NOT THE ONLY DANGER

Kapstein implies that the economic difficulties of the West are due to its governments' obsession with deficit reduction. Let me repeat that the West's economic problems have been building steadily for more than 20 years, while serious budget-cutting has begun only within the last two or three. The term "Eurosclerosis" dates not from the 1990s but from the late 1970s; European unemployment had already risen to double digits by 1985, when budget difficulties were rarely discussed. The Reagan administration took a remarkably relaxed view of unprecedented peacetime deficits during the 1980s, but that fiscal expansion did not prevent inequality in the United States from soaring.