Continued recovery and disguised unemployment

So we have a Conservative government with an overall parliamentary majority: a most unexpected outcome in yesterday’s general election. One of the challenges facing the new administration will be to try to ensure that economic recovery continues, creating more jobs and raising wages for the majority, rather than simply those at the top of the income distribution.

High employment growth and wage stagnation has been one of the stories of how the economy has evolved since the recession. Record numbers of these new jobs have been in self-employment and represent new business startups. Government ministers spun this as evidence of a new entrepreneurialism. The truth of this is difficult to pin down and must partly come down to surveys of those involved, which must be highly subjective, but also to longer term data on wages and income among the self-employed. It is all very well for individuals to prefer working for themselves, but if this does not lead to business growth it cannot be said to be part of an economic success story.

The creation of particularly low productivity employment in the face of reduced overall economic output and aggregate demand has been called disguised unemployment by economists. In simple terms, this describes a situation where individuals are forced through job loss or benefits low in value or duration to accept lower productivity work and lower wages than they accepted before the fall in output. When demand and output recover and higher productivity work becomes available, they will tend to take it, demonstrating that they were temporarily underemployed. They may have been forced to work part-time, on reduced hours or lower wages, and where this is not a choice and they would move into full-time or higher wage work with a recovery in output, we can describe their situation as disguised unemployment. In the latter situation, their consumption will generally be reduced, but as the proportion of income they save will tend also to be reduced, output will be higher than if they were doing nothing. They can therefore make a contribution to a reduced economic output in terms of consumption demand and in the supply of output, but their abilities and potential will be underutilized.

The UK government has trumpeted the creation of two million job in five years as a huge success and a vindication of their policies. But this has been associated with wage and productivity stagnation, which is the flip side of rapid job creation in the face of only moderate growth in output per head. The painful effects of slow growth on employment have thus been spread more evenly, which must be a good thing, but productivity growth is in the long-term the determinant of material prosperity and the UK needs this to improve, and soon.

It is therefore arguable that, not withstanding the greater freedom of the self-determination that might come from moving into self-employment and starting up one’s own small business, unless this wave of self-employment growth leads to actual income and productivity growth in the longer term, then it could be described as disguised unemployment. With faster growth in output and demand, many of these individuals could abandon their start-ups and find more gainful employment in larger and faster growing firms and sectors. Their contribution to society’s prosperity would in this way be increased and they would be fulfilling their heretofore underutilized potential.

Of course, the possible freedom of self-employment is not be sniffed at, and perhaps it is better that individuals are self-employed rather than simply claiming benefits. This would tend to produce a fall in the government’s budget deficit as spending on welfare falls; tax receipts could also rise if the self-employed make sufficient income. This fall in the deficit would actually act as a drag on demand and economic activity in the short run at least, depending on what happens to interest rates as well. Whether or not the self-employed become successful will then impact on prosperity in the longer term.

For now, the new ‘entrepreneurialism’ should be treated with some caution, as it may simply represent a form of disguised unemployment, alongside all the other jobs created with low wages, hours and output. Only when economy-wide wages and productivity start a substantial recovery and we can ascertain the fate of all the recently self-employed will we be able to make a clearer judgement. The government’s hubris regarding job creation may be excessive.



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