Henry Ford may have been right, but his insight is irrelevant.


Venture capitalist Nick Hanauer gave a persuasive, but ultimately misleading, TED lecture in the attached video clip in which he makes the argument that reducing tax rates on the rich does not increase job creation, and tthat reducing income inequality is the answer to our unemployment crisis. Like many people who advocate higher minimum wages and income redistribution, he channels Henry Ford’s comment that he paid high wages so that his workers would have enough money to buy Ford cars.

www.youtube.com/watch?v=CKCvf8E7V1g

Henry Ford’s comment was possibly true, but it is irrelevant. We cannot create demand by overpaying people. Hanuer is correct in his first assertion: reducing income tax rates on the rich, by itself, does not automatically create the greatest number of jobs. However, his second assertion is wrong: stimulating consumer demand by distributing more income to people at the lower end of the socio-economic scale does not efficiently create more jobs. Why?

Employers create jobs when there are individuals with the skills and experience to generate sufficient value relative to what it costs to create and maintain the job. The “cost” of a job consists of the wage or salary, the taxes, the mandated benefits, the facilities and administrative support, and the risks associated with disability, workers compensation, absenteeism, poor productivity, or legal claims associated with the person being hired. By itself, customer demand does not cause jobs to be created if there is an insufficient pool of qualified employees to do the jobs.

Lowering tax rates on wealthy people may be a job creation stimulus, depending on how they spend the incremental income. If they spend money on products and services, or hire people to perform personal services, such as construction workers, financial advisors, accountants, or administrators, then there is some form of job creation.

In our community, there are some exorbitantly wealthy people whose spending habits create businesses and jobs that would not exist in other communities. We have more gourmet food, beverage and coffee shops, more upscale supermarkets, more upscale specialty clothing retailers, more jewelry stores, and more consumer electronics stores than other communities. All of these retailers provide jobs to other people in the community. However, beyond a certain point, wealthy people do not spent or invest money in a way that efficiently produces jobs.

The reasons unemployment rates have stubbornly stayed so high have more to do with the combination of three factors unrelated to tax rates on wealthy people:

  • A mismatch between the skills employers need and what is available at any price in the marketplace;
  • The artificially high licensing and certification requirements for jobs that people of lower skill and educational attainment could do, but are shut out from doing; and
  • The loading of taxes and mandated benefits on to payrolls, which reduces the attractiveness of job creation, especially here in the U.S.

Mismatches

There are many labor shortages that are causing decreases in product and service supply. For example, there is a shortage of welders and pipe fitters in the oil and gas industry. There is a shortage of specific kinds of software programmers, particularly those who can do Java programming. Many types of engineering jobs go begging.

Even where there are individuals who either have the skills or could be retrained to be qualified, these jobs often exist in localities far removed from where an individual and his or her family live. Right now, there is a severe job shortage, not only for the high skilled workers, but also for minimum wage jobs, in North Dakota because of the booming economy caused by the growth of the oil and natural gas industries.

We experienced this type of problem at Pitney Bowes, when we downsized our IT workforce in Southern Connecticut, through a combination of technology investment, outsourcing and offshoring. We had a shortage of systems engineers and software development talent, but the displaced IT personnel would have had to relocate, an option that their personal and family situations did not enable them to access.

Arguably, all of these are high skilled jobs for which our educational system needs to produce more college or advanced degree graduates. However, we also see a severe shortage of long haul truck drivers, tailors and weavers, and people who can work on the unpleasant jobs of helping homeowners connect and operate in-house computer and home entertainment systems. None of these jobs require college degrees or years of training. The mismatch comes about for reasons specific to those jobs:

  • Truck or commercial vehicle driving requires an individual to be away from home a great deal, which makes it unacceptable to parents.
  • Tailors and weavers require fine motor skills which tend to be most pronounced among young women 19-25, but deteriorate over time.
  • People who help homeowners connect and operate in-house computer and home entertainment systems need to develop a checklist to help them organize their work tasks.

What is significant about this factor is that there are communities in which there is a considerable amount of wealth and disposable income, clearly a great deal of demand for products and services, but an insufficient number of workers to do jobs that would convert that demand into new business.

There are other sources of mismatched demand and workforce supply. My family and I used to take a one-week vacation in South Bethany Beach, Delaware every August. In our last few years at our friend’s home near the beach, we found that shops closed early or did not open at all because students who used to work at these shops were starting high school or college classes earlier than in the past. The seasonal work force changed from American-born students to foreign students whose school years began in mid-September or even early October. There was an insufficient permanent workforce available in the community at any wage rate.

Licensing and certification

During most of my childhood, I would get a haircut for less than $5. Today, that same haircut would be considerably costlier, even adjusted for inflation. Why?

State governments have decided that those who cut hair should be required to pass an examination, which requires a year of study, to secure a license before practicing their profession. There are aspects to hair cutting that should require some level of study and proficiency, such as the handling of the chemicals used in salons.

However, the licensing requirements are clearly unrelated to the public health and safety risks associated with the job. A cosmetologist in Massachusetts must go through 372 hours of training, compared with the 33 hours required for an emergency medical technician. There are wide variations among the states in what jobs are regulated and licensed and the level of entry barriers created, which suggests that many of the barriers to people working in middle class jobs are created by governments responsive to special interests, not to income tax regimens.

If the state governments want to create job opportunities to reduce the unemployment rate by between 1-2%, they would benchmark their credentialing and licensing requirements against the majority of other states. Most of the absurdly high barriers for relatively low-skilled jobs would disappear and open up new jobs, lower costs for consumers, and greater competition and choice.

Wages, taxes and benefits

Besides minimum wage laws, there are many factors that drive up the cost of hiring and maintaining an employee:

  • Workers compensation, unemployment compensation and other payroll taxes keep increasing.
  • Social security and Medicare taxes are increasing.
  • Healthcare benefit costs are increasing.
  • Workers compensation and disability claims are increasing in volume, severity, and cost.
  • Wage and hour laws are driving up the frequency and cost of overtime work.
  • The laws protecting workers from unfair and discriminatory treatment are getting more onerous and cases are getting costlier.

The cumulative impact of all these added burdens to a job is that there are fewer of them, particularly those that are replaceable with self-service technology for customers, robots, or process reengineering that eliminates the tasks these employees would perform.

The Obama administration has compounded the unemployment problem by creating workforce size and hourly thresholds for the applicability of the Affordable Care Act’s onerous regulations. As a general matter, one of the unintended consequences of any “small business” threshold, whether it is a regulatory exemption or a procurement preference is to keep individual organizations below the threshold at which their costs increase or their revenue opportunities shrink.

The other unintended consequence of the higher cost of each job is that employers tend to be far more selective in whom they hire. The most frequent consequence of selective hiring is that the less educated population is shut out of jobs that, in a lower minimum wage environment, they would have filled.

Summary

Lowering or raising taxes may, or may not, be a good thing as a public policy, but I am unconvinced that it is the single biggest driver of stimulating activity that reduces unemployment. However, the sooner we understand the root causes of persistently high unemployment, the sooner we have a chance of addressing them.

My fondest wish is that, over the next decades, we will have elected officials and regulators who are schooled in basic behavioral economics:

  • Raising wages, benefits, and worker rights increases the cost of a job for an employer;
  • Raising the cost of a job will reduce the number of jobs;
  • Raising the job’s wages and benefits will attract better educated and more experienced candidates, which will shut out lower skilled, poorer candidates; and
  • Making it costlier to qualify for a job will prevent the poorer Americans from qualifying.

In effect, if governments got out of the way in trying to micromanage labor markets, we would see more jobs, lower unemployment rates, and less income inequality.