Tuesday, 11 February 2014

Economic myths: The Output Gap

There was a fine debunkage of this concept in City AM Forum recently, concluding with this real life:

A powerful blow against the concept of potential output was published in the latest edition of the American Economic Association’s journal Applied Economics.

Igal Hendel and Yossi Spiegel document the evolution of productivity over a 12 year period in a steel mini-mill, producing an unchanged product, working 24/7.

The steel melt shop is almost the Platonic ideal from a national accounts perspective of output measurement. The product – steel billets – is simple, homogenous, and internationally-traded. There was virtually no turnover in the labour force, very little new investment, and the mill worked every hour of the year.

Yet despite production conditions which were almost unchanged, output doubled over the 12 year period. As the authors note, rather drily, “the findings suggest that capacity is not well defined, even in batch-oriented manufacturing”. It’s time to put the concept of potential output into the rubbish bin.


DBC Reed said...

This outfit was already producing non-stop.It is hardly typical.What is more common is shut downs ,cancelling night shifts,cutting staff, laying people off until there are upturns etc.This kind of working to capacity is desirable surely but not achievable until stable demand meets stable supply.

Mark Wadsworth said...

DBC, yes it is typical. Who knows what the 'output gap' is?

Let's assume our steel mill sees a slump in orders and lays off staff. Does that mean that there is an output gap, or does it perhaps mean that demand for steel has fallen, or competitors elsewhere can produce and sell steel more cheaply?

What about a record pressing plant mothballed somewhere, which used to do ten million LPs a year? Is that sign of an 'output gap'?

We are now used to working 35-40 hours a week, a century ago 70 hours was normal. Does that mean the output gap is 100% of GDP?

And so on.

DBC Reed said...

I would have thought that this mill was working under capacity in the first place and that with the passage of time it gradually got up to speed.We have no idea how mechanised this place was: with a mechanised system output can be transformed by speeding the line up.
With the three day week output declined by 20% not the 40% anticipated. How else to explain this? Of course with a Douglasite/ public banking system you could run fully robotic production lines and distribute the necessary purchasing power through a National Dividend; a CI funded by recycling old money through the tax system would n't cut it.

Mark Wadsworth said...

DBC, we've done that silly hypothetical before.

If our factory owner can produce goods at near zero cost then so can his competitors and he would sell them for a near zero price.

For the third time, the CI is not "funded by" LVT, the CI is just payment for the fun of it and the LVT is there to prevent land price inflation.

DBC Reed said...

Not silly, sucks boo!There are plenty of robot production lines .Remember the car ad "Handbuilt by robots"? Neither would a robot production line produce stuff for free.Far from it.Cheap labour is ,well, cheaper than spending on mechanised plant.
In the example you give at the top of redundant vinyl record pressing plant the aggregate output which Douglas would have measured and dished out unearned Dividends for ,would have remained the same as people would have bought CD's or whatever instead or gone to the cinema,spent something anyhow.
Somewhat disconcerted to hear that your form of LVT is just a land price inflation countermeasure.The from-here-on form of LVT would have the same effect and would come with massive demand stimulus from the likes of Quantitative Easing for the People.

DBC Reed said...

As luck would have it Mark Carney has just,in his Inflation Report, targeted the Output Gap as his prime economic indicator using all the sub-indicators which you and KJ say don't exist. Even the assembled deadhead financial journalists got the gist of it.

Mark Wadsworth said...

DBC: "Somewhat disconcerted to hear that your form of LVT is just a land price inflation countermeasure"

I can think of dozens of ways of explaining LVT, that is merely one of them. Seeing as you brought up Major Douglas it seemed appropriate.

Mark Carney is the Homey-In-Chief! You can't believe a word he says.

The UK government uses the notion of the "output gap" to justify anything they like, such as low interest rates and deficit spending. The previous lot was just as bad as the current lot.

DBC Reed said...

Mark Carney's plugging the concept of full capacity and the Output Gap does show that the concept is in mainstream use. Landtaxers should be using it to show the indicators creating the gap can be rectified by LVT.These indicators are our natural weapons .We can just say that the output gap is caused by people wasting their earnings on land charges. Instead you want to chuck away this useful weapon and head off farther out into the cold.( I would say that QEP addresses the output gap too
but I realise that LVT+ QEP = too many ideas for the fuzzy heads to cope with.)

Mark Wadsworth said...

DBC, we both know perfectly well that the economy would zoom ahead in an inflation-free fashion if we shifted from taxing output to taxing the rental value of land.

The gains therefrom would be a vast multiple of the so-called "output gap".

The Homeys will probably argue, "Oh no, you can't say that the economy would be 20% bigger under LVT, because that nice Mr Carney has told us that the output gap is 5% of GDP, so we can't possibly do better than that".

DBC Reed said...

So we should be staking out the Output Gap as our turf: it is an entrée for fugitive land taxers.
I agree that first-off we should be getting LVT to close the output gap : QEP is in reserve for if LVT doesn't work out or, if it does work out, when the planky heads in the Treasury are so discredited , we can start campaigning for the old goals : freiland, freigeld.

Lola said...

Less mark Carney. More Fred Karno.