The Next Problem
Courtesy of James Kwak at The Baseline Scenario
p>There has been a lot of talk about the financial crisis over the past year and a half, and I obviously think that will remain an important subject, at least until we have a truly reformed financial system. Preventing the next financial crisis should be high on our society’s priority list. But as the months and years wear on, I suspect we will see more articles like Don Peck’s recent 8,000-word article in The Atlantic, “How a New Jobless Era Will Transform America.”
Peck’s article is not about what caused the recent crash and recession, but what its societal consequences will be. And the article is almost unremittingly bleak. Even before 2008, we had already lived through a decade of stagnant median income and sluggish job growth; the recession pushed some unemployment levels, such as the underemployment rate (people out of work, working part-time for economic reasons, or too discouraged to look for work) to levels not seen since the Great Depression. It’s not particularly clear where growth will come from, as manufacturing remains in decline, services are becoming increasingly outsourceable, and other countries take the lead in the most plausible major new industry (alternative energy). According to Nobel laureate Edmund Phelps, “the new floor for unemployment is likely to be between 6.5 percent and 7.5 percent (for several reasons, including “a financial industry that for a generation has focused its talent and resources not on funding business innovation, but on proprietary trading, regulatory arbitrage, and arcane financial engineering”).
The societal implications that Peck sees are worse than the mere numbers would imply. Young people who graduate into recessions never catch up with cohorts around them that graduate into better economic conditions, partly due to risk aversion, partly because they move up more slowly and get tagged as underperformers. Unemployment also changes people:
“Krysia Mossakowski, a sociologist at the University of Miami, has found that in young adults, long bouts of unemployment provoke long-lasting changes in behavior and mental health. ‘Some people say, “Oh, well, they’re young, they’re in and out of the workforce, so unemployment shouldn’t matter much psychologically,”‘Mossakowski told me. ‘But that isn’t true.’”
The effects of unemployment go beyond, and last longer than, not having money.
“Andrew Oswald, an economist at the University of Warwick, in the U.K., and a pioneer in the field of happiness studies, says no other circumstance produces a larger decline in mental health and well-being than being involuntarily out of work for six months or more. . . . Only a small fraction of the decline can be tied directly to losing a paycheck, Oswald says; most of it appears to be the result of a tarnished identity and a loss of self-worth.”
Some of the results show up quickly: “Last March, the National Domestic Violence Hotline received almost half again as many calls as it had one year earlier; as was the case in the Depression, unemployed men are vastly more likely to beat their wives or children.”
I think this means that we need to think of employment not merely as a determinant of GDP, but as an independent good in itself. Furthermore, there are sound economic reasons why we should care not just about the overall unemployment level, but about unemployment levels in specific sub-groups (such as men in inner cities), since unemployment has obvious negative externalities.
The recession may also be reinforcing the long-term trend toward inequality in American society. Recessions typically reduce income inequality in the short term, since the rich gain much of their income from investments, which drop faster than wages in a market crash. But the tougher labor market could increase the advantage that people have coming from the upper class: “Princeton’s 2009 graduating class found more jobs in financial services than in any other industry,” Peck reports.
My initial thought was that the financial crisis and recession might have a salutary effect because the middle class, faced with serious economic insecurity, might start worrying more about economic security (and identifying more with the poor and working class), instead of thinking that individual initiative alone would make them rich. I still think this is possible. Unfortunately, it seems to be unlikely. Peck cites economic historian Benjamin Friedman, who “argues that both inside and outside the U.S., lengthy periods of economic stagnation or decline have almost always left society more mean-spirited and less inclusive, and have usually stopped or reversed the advance of rights and freedoms.” The mechanism for this is simple: although some people may react to economic insecurity by realizing that their interests lie with labor rather than capital, other people will react by blaming their misfortune on immigrants, or minorities, or Jews, or gays, or — this being America — the government.
The only solution, says Peck, is a making “the return to a more normal jobs environment an unflagging national priority.” A more normal jobs environment seems like the bare minimum of a solution to me, and he would probably agree. But even that represents a shift from our current political center of gravity, where people think the medium-term deficit is a bigger problem than jobs.
By James Kwak
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James Kwak is a former McKinsey consultant, a co-founder of a successful software company, and currently a student at the Yale Law School. He is not, never has been, and never will be a member of the Yale Law Journal. However, on December 11, 2009, he was named Grand Heresiarch of the Ancient, Hermetic, and Occult Order of the Shrill by Brad DeLong. He is a co-founder of The Baseline Scenario and co-author of the book "13 Bankers" with Simon Johnson.
