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Testing Uncertainty

Steven Davis, economics professor at the University of Chicago, writes in Bloomberg why he thinks “Employers Are Slow to Fill Jobs.” Davis goes through a number of different theories and all probably play some role, but this paragraph caught my attention.

Another part of the explanation involves broader economic conditions. The same concerns about weak sales and an uncertain economic outlook that depress job creation also undercut the desire to fill openings. We live in a time of extraordinary uncertainty about government policy with respect to taxes, health care, financial regulation, monetary issues, environmental regulation, and other areas. The political impasse over the federal debt ceiling further muddles the outlook. Policy uncertainty discourages investment, job creation and hiring.

As I’ve discussed, most of the evidence seems to point to “weak sales” as the most direct reason businesses aren’t hiring more workers. But, we keep seeing this focus on “policy uncertainty” from right of center commentators – a topic I’ve discussed frequently. Tying political uncertainty to the debt ceiling is interesting for this ongoing argument for a number of reasons.

  • It provides a seemingly clear and dramatic case of policy uncertainty, but if the debt ceiling is raised we’ll have a distinct before-and-after. Are proponents of the political uncertainty argument willing to predict how big an effect this will have on job creation? I’m not willing to say it’s zero, but if I had to guess it’s probably very low at best. If they’re not willing to forecast a noticeable upward shift in the trend of hiring after this uncertainty is resolved, why do they continue to devote so much energy to the argument?
  • It demonstrates the emptiness of Republican lawmakers that pushed the “policy uncertainty” theory. If they really believed their claim, why would they be so willing to create more uncertainty?
  • I realize I may be contradicting my first point a bit, but what counts as evidence for policy uncertainty? Proponents of this theory love to claim that employers are deterred by uncertainty, but the bond markets haven’t even begun showing signs of concern. If investors aren’t changing their activity much, what makes anyone think employers are?

It’d be easy for me to use Davis’s argument to hammer the GOP as harming job creation by causing uncertainty over the debt ceiling, but I don’t see any evidence for it. The real danger is what happens if the debt ceiling isn’t raised, when policy uncertainty turns into market panic. Once that happens we won’t be talking about why business are slow to fill jobs, but how stupid we were to push ourselves back into recession.

  1. Finn
    July 18, 2011 at 8:16 pm

    Steve Wynn (among many others) disagrees with you.


    Obama’s push to raise already prohibitive taxes on all (big, small, medium) businesses and his continued push to regulate the word free out of “free market” (REF: the despotic attempt to keep Boeing from moving its operation to a more friendly tax state) and its easy to understand that political uncertainty is a huge drag on the economy.

    Business owners are truly spooked about a number of things (the possibility of higher taxes, the possible implementation of QE3 further weaken the dollar and leading to crippling inflation, etc.) Debt is out of control. The size and reach of government way to big. The bigger the government grows the more it encroaches on the private economy. Until the American people make the decision about what they want America to be (smaller government, freer market vs. larger government, control/restricted economy) we will be at this impasse. Why spend money to expand while the possibility of the government taking (a lot) more of what you is a very real possibility.


    70% tax rates. 70%!! why grow (or better yet, why keep) your business in America.

    • July 18, 2011 at 9:46 pm

      I understand the theory as to why “policy uncertainty” causes businesses not to hire, but what I don’t see from proponents of that theory is how we measure it. Can you point to some empirical evidence that it is “policy uncertainty” that is majorly dampening the recovery? In a number of my previous posts (linked earlier) I go through some of your examples.

      Also, you need to distinguish between “policy” and “policy uncertainty.” I’m not arguing that policy doesn’t matter – surely tax rates and regulations effect the economy – but how much does the prospect of taxes and regulations changing matter? And if it is a large factor, how do we know it is larger than usual? Are you willing to forecast the effect on hiring once (assuming we do) the debt ceiling is raised?

  2. Jack
    July 20, 2011 at 5:53 pm

    Business owner are uncertain about one thing. Who will buy their products? Demand is the issue here, which we have somehow forgotten since the 1930’s. Taxes are historically quite low and wealth the most concentrated since the depression. With Interest rates so low the Gov is not crowding out the private sector. Again the issue here is DEMAND.

    • July 20, 2011 at 6:10 pm

      Agreed, Jack. The Wall Street Journal did a recent poll of economists and 65% agreed that “demand” was the main reason for slow hiring.

      Furthermore Finn, the 2nd link you provided had some questionable claims. Michael Boskin writes, “The lower marginal tax rates in the 1980s led to the best quarter-century of economic performance in American history.” But I doesn’t substantiate it. If you look at growth rates, Boskins’ claim is wrong. As with the story with “policy uncertainty” it may seem credible until you actually look for empirical support.

  3. Finn
    July 20, 2011 at 8:42 pm

    Hey, actually didn’t check back here until you sent me the facebook message. My internet time comes and goes as I spend most of my time chasing Colin around.

    Anyway, other than taking Wynn at his word (and I do) that

    “this administration is the greatest wet blanket to business, and progress and job creation in my lifetime. And I can prove it and I could spend the next 3 hours giving you examples of all of us in this market place that are frightened to death about all the new regulations, our healthcare costs escalate, regulations coming from left and right. A President that seems, that keeps using that word redistribution. Well, my customers and the companies that provide the vitality for the hospitality and restaurant industry, in the United States of America, they are frightened of this administration. And it makes you slow down and not invest your money”

    I’m not quite sure there is a way to measure it. It’s hard to assign numbers to numbers to something that is just “intuitive” business sense. I suppose a statical poll of business owners and would be entrepreneurs similar to those used for voters could be used in this instance.

    Also, I didn’t read your other posts so maybe this has been covered, but this problem has been considered before. Take a look at permanent income and permanent production theory (Milton Friedman). It’s been awhile since college economics so I’ll steal wikipedia’s explanation that “In its simplest form, the hypothesis states that the choices made by consumers regarding their consumption patterns are determined not by current income but by their longer-term income expectations.” and “that the choices made by producers regarding their production patterns are determined not by their present term capital cost but by their longer-term capital cost expectations”

    So its an issue that has been around for a while and i think we agree that long term factors directly relate to short term decisions.

    On hiring: The debt ceiling isn’t the only issue. i believe that “Political uncertainty” will exist in the eyes of business until Obama leaves office (whether that be in 1 or 5 more years). I truly believe that the spector of taxes, regulations, or legal action directed against business will limit growth. Will hiring take off if the Tea Party holds strong and wins the current dispute? I think probably not. Do I think it will get worse if a settlement favorable to President Obama wins, yes I do. (disclaimer, made a mid 5 figure bet on this issue by selling off all my stocks after the gang of 6 talks came out yesterday. Decided to take the profit from the recent stock market run up because I believe the possibility of higher taxes will depress the market)

    On demand. We could run around in circles for days on this but I believe that Low demand is a symptom rather than the cause of current problems. Low demand was created by government over involvement in the economy. Government caused the housing crash. Government puts business killing regulations and taxes in place. Government manipulates the currency. Government is about to kill the health insurance industry , “government is not the solution to the problem; government is the problem” etc etc etc.

    The private sector should create and sustain demand. It can not do that with the government in the way.

    • July 20, 2011 at 9:21 pm

      Finn :I suppose a statical poll of business owners and would be entrepreneurs similar to those used for voters could be used in this instance.

      Luckily, we do have polling of businesses! Turns out… it’s “poor sales” that has spiked upward in their concerns.

      Again, my argument is not that the long-term debt doesn’t matter. It does, which is why I favor a deal that lowers the trajectory of our spending (I suspect we’ll disagree on how best to do that). It’s also why I think huge tax cuts paid for by borrowed money is counterproductive. But short-term temporary fiscal injections (bridge building, etc) can increase demand in the short run. A higher inflation target would be beneficial as well.

      Anyway, I’m just still waiting for any evidence that demonstrates that policy uncertainty is a major problem. And if Republican lawmakers believe it is a problem, why are they trying so hard to aggravate it?

  4. Finn
    July 21, 2011 at 12:24 am

    Polls say lots of things in lots of ways. Here is one from the chamber of commerce that speaks to what you’re asking http://www.uschambersmallbusinessnation.com/docs/US-Chamber-of-Commerce-Summit-Presentation-from-Harris-Interactive.pdf

    Heritage also took a shot at this and they believe it’s about all about obamacare and the uncertaintity of what more Washington has planned. http://www.heritage.org/Research/Reports/2011/07/Economic-Recovery-Stalled-After-Obamacare-Passed#_edn11

    House passed Cut Cap Balance last night.. not sure why you say they are trying to aggravate it? Looks to me like they actually want to solve the problem while Obama offers… wait for it… wait for it… “Not change, just more of the same”. (couldn’t resist, sorry)

    • July 21, 2011 at 11:22 am

      The polling you cite doesn’t show the change in what businesses perceive as a problem so it’s more difficult to see what is causing our current economic woes. Businesses are never going to say that taxes and regulations are helpful after all. Again, I don’t dispute that policy has an effect – policy uncertainty is the mystery.

      Interestingly though, only 12% in the polling you sent me say “tax rates and tax code changes” is the “issue in Washington that causes most uncertainty about the future of their business.” Also the “greatest obstacles to hiring” are “economic uncertainty” and “lack of sales.” “Uncertainty about what Washington will do next” is only the 3rd on businesses’s list on this interest group’s poll… an interest group that seeks to change Washington policy.

      All I’ll say about that Heritage Foundation report is that it’s deceitful and I’m happy you sent it to me so I could expose their trickery. https://danbraganca.com/2011/07/21/heritage-foundations-misleading-chart/

  5. Jack
    July 21, 2011 at 12:49 pm

    For the record: Gov did not cause the housing crisis: http://democrats.oversight.house.gov/images/stories/MINORITY/fcic%20report/FCIC%20Report%2007-13-11.pdf

    The problem with Friedman’s permanent production theory is it does not translate perfectly in the real world. As Krugman points out, who does the following? “I read that the president is going to spend $150 billion on infrastructure over the next 5 years; he’s going to have to raise taxes to pay for that, even thought he says he won’t, so we are going to have to reduce our monthly budget by $12.36.” We as consumers are not fully rational but only near-rational which has large economic implications.
    Regarding Milton Friedman’s idea of the rational consumer, perhaps we should mention George Akerlof. Friedman believed that recessions happened because rational consumers were confused & that Gov should step out of the way to lessen their confusion. We bought this argument until it started to unravel during the 80’s. Which leads me to Akerlof who said basically that recessions happen because consumers ,though sensible, are not perfectly rational. An example of this is the Massachusetts housing crisis back in 1989 ( I am using Krugman here). Unemployment was around 10% leading people to put their houses up for sale. There was a huge for sale glut and many houses stood vacant for as long as a year. By 1992 the housing market had returned to normal (prices were about 20-30% lower than in 1989 but were selling w/o problems). What was interesting was that the general economy had not recovered with unemployement still at about 10%. Houses were selling again because their prices had dropped realistically. But why had it taken so long for prices to drop? If the market was truly rational than the prices of houses should have dropped quickly. The reason it did not is that markets are not truly rational. The sellers were reluctant to sell their homes, just as all sellers are reluctant to cut prices. A farmer who refuses to sell his crop at 5% above market price might be wildly irrational, but a home owner trying to sell his house at the same rate is as Akerloff pointed out, making a small mistake that is actually quite rational.
    So the irrationality of a huge market full of unsold houses could be the result of near-rational decisions. We have come full circle, right back to Keynes. What looks like highly irrational marketplace outcomes are the result of imperfect markets and less than completely rational individuals.

  6. Finn
    July 21, 2011 at 1:38 pm

    Just read your lower taxes bigger government post. The problem is President Bush and the Republican majorities of the the 2000s were not small government conservatives. Cutting taxes should have been coupled with a reduction in the size of government, but it wasn’t.

    On Heritage, his point is this

    “The economy is recovering at an unusually slow pace. Typically, employment grows strongly after a severe recession.[1] In the year and a half following the last comparable recession (1981–1982), the unemployment rate fell by 3.3 percentage points”

    Both his chart and your chart illustrate that the economy was following historical recovery patterns. The difference is that in April of 2010 the robust recovery suddenly slowed. He is saying that we should have been gaining jobs at a faster rate based on historical recovery data.

    He also includes comments from business leaders and takes them at their word that the uncertain future is slowing business decisions. Businesses are still taking risks and trying to make money but they are doing so at a slower rate.

    If uncertainty about the future is not a problem then why does the President continue to fear monger and demagogue republicans. He is trying to use fear of uncertainty to manipulate public opinion towards his own policy objectives. If fear of uncertainty (will I get my social security check next month!?!) can be used to shape political opinion then why wouldn’t it have an effect on business decisions?

    • July 21, 2011 at 2:37 pm

      Again, I’m not saying it’s impossible that uncertainty can change behavior. I think there is plenty of evidence that inflation expectations can influence business behavior for example. It’s just difficult to find any empirical evidence that businesses aren’t hiring because they think Barack Obama might impose some crushing tax or regulation. General economic uncertainty about the state of the economy certainly affects business decisions, which is why economists look to consumer confidence levels, etc. Let me reiterate that I believe that businesses can factor in possible changes in policy into their decisions, but it’s a stretch to think that the main factor slowing job creation is nebulous “policy uncertainty.” Do you really believe that businesses think that the market is conducive to higher profits if they hire more workers, but aren’t hiring primarily because they think it’s not worth taking the risk because the Democrats are going to alter the current market? It’s more likely that they are matching supply and demand. I know that’s a difficult concept for the economic geniuses at Heritage.

      You really don’t think it’s misleading for Sherk to write, “In May 2010, the job situation stopped improving. Employers created just 48,000 net jobs, and the trend in job creation changed.” and “the fact does lend strong weight to the voices of businesses who say that the law is preventing hiring”? Actually, before the healthcare law, job creation wasn’t improving – it was getting worse more slowly. Around the time Obamacare passed, the private sector started to employ more people than it laid off. You can even see on his own graph that more jobs were created in February and April of 2011 than April of 2010. Another way of looking at it is to say that in every month after Obamacare was passed more jobs were created than before it was passed. Just to drive this home, in almost every instance in his graph, we were losing jobs until Obamacare passed. I’m not sure how anyone can conclude that Heritage isn’t trying to dupe their readers.

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