The Borjas Blog

Income Effects

I'll have to add this classic to the discussion of the factors that determine the choice between labor and leisure in my labor economics textbook:

David Sneath has worked at a Ford Motor Co. parts warehouse for 34 years, but it didn't take him any time at all to walk out once he discovered he had won a $136 million Mega Millions jackpot.

"I yelled to the boss, 'I'm out of here,'" Sneath said Thursday after going to state lottery headquarters in downtown Lansing to pick up his first $1 million check.

Productivity, Wages, and Tenure

A very nice new paper from Ed Lazear and Kathryn Shaw about an old topic in labor economics: why do wages rise as workers acquire job seniority?

A key tenet of the theory of human capital is that investment in skills results in higher productivity. The previous literature has estimated the degree of investment in human capital for individuals by looking at individual wage growth as a proxy for productivity growth. In this paper, we have both wage and personal productivity data, and thus are able to measure of the increase in workers' output with tenure. The data is from an autoglass company. Most of production occurs at the individual level so measures of output are clear. We find a very steep learning curve in the year on the job: output is 53 percent higher after one year than it is initially when hired. These output gains with tenure are not reflected in equal percentage pay gains: pay profiles are much flatter than output profiles in the first year and a half on the job. For these data, using wage profiles significantly underestimates the amount of investment compared to the gains evident in output-tenure profiles. The pattern of productivity rising more rapidly than pay reverses after two years of tenure.

High Taxes, Migration, and Labor Supply

Every once in a while we need something to remind us of how workers react when they are hit with a high income tax rate. Simple mnemonic: they will try to avoid it. Here are some of the responses from Denmark:

Young Danes, often schooled abroad and inevitably fluent in English, are primed to quit Denmark for greener pastures. One reason is the income tax rate, which can reach 63 percent...a level that hits anyone making more than 360,000 Danish kroner, or about $70,000. That same tax rate underpins such effective income redistribution that Denmark is the most nearly equal society in the world, in that wealth is more evenly spread than anywhere else...

But today young Danes can easily choose not to pay for the system's upkeep, once they have siphoned off what they need. For starters, as citizens of the European Union they are entitled to work in any of the 27 EU countries.

Sorensen, who graduated from business school in Copenhagen, found himself earning the equivalent of more than $100,000 before he was 30 - and paying 63 percent of it in taxes. His work as a computer consultant for Deloitte also took him to Brussels, where he met the Spanish woman he would eventually marry.

But the high taxes, mixed with his wife's discomfort in Denmark, meant that a job offer in Qatar three years ago was all it took to pry him away from Copenhagen. Now, he is ensconced in Frankfurt, setting up a new business on the side and planning to pay no more than 25 percent of his income to the German state.

"When you are at 63 percent tax, you don't look forward to the evaluation with the boss to get a raise," Sorensen said. "You look for more vacation or a training course in the tropics - something that you get the full benefit of."

Gay Cohabitation And Wages

Many studies in labor economics document that married men earn substantially more than single men. Two competing hypotheses are used to explain this correlation. First, marriage makes men more productive. Having a wife at home lets married men "invest" more in skills valued by employers, increasing their productivity at work. Or maybe it is the most productive men who are successful in the marriage market and find wives. My reading of the literature is that there's probably some truth to both of these arguments.

Here is some related research about the wage effects of gay cohabitation by Madeline Zavodny:

It is well-known that married men earn more than comparable single men, with typical estimates of the male marriage premium in the range of 10 to 20 percent...This study uses data from the General Social Survey and the National Health and Social Life Survey to examine whether a similar premium accrues to gay men who live with a male partner...Controlling for observable characteristics, cohabiting gay men do not earn significantly more than other gay men or more than unmarried heterosexual men.

Putting aside any type of selection argument, it would seem that whatever it is about heterosexual marriage that makes married men more productive is absent in gay households. It's easy to come up with a number of possible explanations about what is going on (the presence of children, more specialization in heterosexual unions). One big caveat: the contrast would be much more informative if the study could compare married gay men and married heterosexual men. So I suspect we haven't heard the last on this.

Body Fat And Wages

A few days ago I blogged about how New Zealand was denying entry visas to applicants deemed overweight. There's some interesting new research, by Roy Wada and Erdal Tekin, documenting an important relation between body fat and a person's earnings. Here's a short summary:

This paper examines the effect of body composition on wages.  We develop measures of body composition – body fat (BF) and fat-free mass (FFM) – using data on bioelectrical impedance analysis (BIA) that are available in the National Health and Nutrition Examination Survey III and estimate wage models for respondents in the National Longitudinal Survey of Youth 1979.  Our results indicate that increased body fat is unambiguously associated with decreased wages for both males and females.  This result is in contrast to the mixed and sometimes inconsistent results from the previous research using body mass index (BMI).

Wada and Tekin suggest a number of hypotheses to explain the correlation:

• body fat lowers worker productivity through its adverse effect on health;
• discrimination against persons with large body fat counts;
• "fatness" is indicative of other problems that affect a person's self-esteem and/or productivity.

I don't have a clue as to what is going on, but the results are very interesting indeed.

Black-White Income Divergence

I must admit this comes as a surprise:

The income gap between black and white families has grown, says a new study that tracked the incomes of some 2,300 families for more than 30 years.

...Parents have long hoped that their children would grow up to be more successful than they were. Hopes were especially high for black children who came of age following the civil rights movement of the 1960s.

The reports found that about two-thirds of the children surveyed grew up to have higher family incomes than their parents had 30 years earlier.

Grown black children were just as likely as whites to have higher incomes than their parents. However, incomes among whites increased more than those of their black counterparts.

The result: In 2004, a typical black family had an income 58 percent of a typical white family's. In 1974, median black incomes were 63 percent of those of whites.

Here is the link to the study by Julia Isaacs, which uses data from the Panel Study of Income Dynamics. Given the evidence on narrowing wage and human capital differences between black and white workers, I would have thought that blacks experienced more upward mobility in the past few decades. A quick read suggests that the fact that the Isaacs study is looking at income growth in families rather than individuals plays an important role in the findings. And, of course, this raises the question of why large racial differences in family composition exist and persist.

Say Goodbye To Hollywood?

Marc Andreessen has written the most insightful analysis of the writers' strike that I've seen. It's a must read. He argues that the big studios are in a suicidal battle and that a new Hollywood will likely be reborn, along the lines of Silicon Valley, where writers and actors own the content and distribute it widely and freely over the Internet.

Here is one key passage that neatly summarizes the short-run economic issue that triggered the strike:

Due to amazing historical circumstances around the birth of the VCR in the early 1980's, television and movie writers are currently paid approximately 4 cents for each DVD sold -- bearing in mind that the average sale price for a DVD is over $10, and the cost of manufacturing a DVD is less than 50 cents. The writers want that residual rate doubled to 8 cents per DVD, and the studios are refusing.

Currently, writers are not paid for Internet downloads via online video stores like iTunes and Amazon Unbox. The studios want to extend the current 4-cent DVD residual formula to Internet downloads; the writers are holding out for more.

As always, there is a Law of Unintended Consequences: the strike is keeping writers away from the keyboard and preventing them from writing yet more stuff that's guaranteed to keep moviegoers away from the theaters.

To Laffer Or Not To Laffer?

Someone should use some of the dwindling resources of the NYT to teach its reporters a thing or two about income and substitution effects. This is Eduardo Porter's take on how changes in the wage rate affect hours of work:

More broadly, if the object of public policy is to maximize society’s well-being, more attention should be placed on fostering social interactions and less on accumulating wealth. If growing incomes are not increasing happiness, perhaps we should tax incomes more to force us to devote less time and energy to the endeavor and focus instead on the more satisfying pursuit of leisure.

Let's try to see if we can decipher some of what Porter is really saying. An increase in taxes, which is effectively a reduction in a worker's wage rate, will "force us" to devote fewer hours to work and spend more hours in the "pursuit of leisure."

All economics students know that a cut in the wage has two opposing effects on hours of work: a "substitution effect" whereby a worker works fewer hours and consumes more leisure simply because leisure is now cheaper; and an "income effect" whereby a worker works more hours because he can no longer afford to buy as much leisure. Porter essentially assumes that the substitution effect of the tax increase (which leads to fewer hours worked) outweighs the income effect (which increases hours worked).

Hmmm. This assumption sounds so familiar...oh boy, stop the presses! The NYT just rediscovered the Laffer curve: As taxes go up, people work (a lot) less, and tax revenues fall.

UPDATE: A few hours after posting, I noticed that I had lopped off a phrase from the last paragraph. So I added the qualification "a lot" to the concluding paragraph--tax revenues fall as tax rates increase only if the reduction in hours worked is proportionately larger.

Bernanke On Supply And Demand

At a congressional hearing last year, Fed Chairman Ben Bernanke had some things to say about the supply and demand of scientists and engineers:

Congressman, a theme that’s come up a few times in this hearing is education, and I agree a lot could be done for American K-12 education and for universities, as well, and Congress has a role to play there, and I hope that you’ll continue to play a positive role in that area.

...I’d make one suggestion, or give one thought on the issue of engineers and scientists, which is that simply producing more engineers and scientists may not be the answer because the labor market for those workers will simply reflect lower wages or perhaps greater unemployment for those workers.

Currently, there’s not an obvious shortage of scientists and engineers in terms of the labor market indicators. That is, wages for engineers are not rising more rapidly than other professionals. So I think one way to address this issue is to ask, are there ways in which the Government can support basic research and in some sense produce a demand side that strengthens the market, that therefore brings people into science and engineering because there are opportunities there, not simply creating a bigger supply, which will then compete and drive down the wages in that category.

Bernanke's understanding of the laws of supply and demand sheds some needed light on why high-tech firms keep asking to be allowed to import an ever-larger number of foreign scientists and engineers, doesn't it?

(Thanks to Richard Armantrout).

All You Need To Know About The Writers Strike

Roger Simon has the indispensable explainer.

Why should we feel sorry for a bunch of plutocrat writers who sit around their swimming pools, downing designer sushi while typing left-wing drivel for the masses on their trendy black MacBooks? They can take their Priuses and… Well, I take your point. But I will in return point out that a solid percentage of those 12,000 WGA members work intermittently as writers at best. While not necessarily starving artists, they are far from plutocrats. Only a small group fits that tony profile and most of them are executive producers (creators) of television series, a form under serious threat by “reality shows.” For the rest, these residual profits from DVD sales and, potentially, Internet downloads could be the difference between making your mortgage or not.

Which leads to another point – who are their adversaries - “the producers”? When you read coverage of the strike, you almost always see it framed as writers vs. producers. But the latter is misleading. Most working producers couldn’t care less about the strike; in fact suffer from it. They’re unemployed too. And many writers are writer-producers (“hyphenates”) or aspire to be, particularly in television where that increases creative control and income by considerable degree. The “producers” referred to in the news coverage are the AMPTP - Alliance of Motion Picture and Television Producers. They are not producers at all in the conventional sense, but brass from the studios and companies themselves, at this juncture almost entirely giant corporations like Sony and Viacom

...The people the WGA will be negotiating with are not principals or even friendly enemies in a company town. Far from it. They are factotums way down the corporate food chain...Universal now seems more interested in building two billion dollar theme parks in Abu Dhabi than in making movies like The Sting or American Graffiti.