Are Wages Sticky Downward?

Via Economic Policy Journal

Great Depression soup line

By Robert Wenzel

At the post, Some Terrible Economics Out of the American Economic Review, Astro-Punk comments:

While government creates a lot of rigidity in nominal wages, they would certainly be prevalent in a free market. Rothbard explains on pages 44-45 of AGD:

“Both workers and businessmen may become persuaded by the
mistaken idea that artificial propping of wage rates is beneficial.
This factor played a great role in the 1929 depression. As early as
the 1920s, “big” businessmen were swayed by “enlightened” and
“progressive” ideas, one of which mistakenly held that American
prosperity was caused by the payment of high wages (rates?) instead
of the other way round. As if other countries had a lower standard
of living because their businessmen stupidly refused to quadruple
or quintuple their wage rates! By the time of the depression, then businessmen were ripe for believing that lowering wage rates
would cut “purchasing power” (consumption) and worsen the
depression (a doctrine that the Keynesians later appropriated and
embellished). To the extent that businessmen become convinced of
this economic error, they are responsible for unemployment, but
responsible, be it noted, not because they are acting “selfishly” and
“greedily” but precisely because they are trying to act “responsibly.” Insofar as government reinforces this conviction with cajolery
and threat, the government bears the primary guilt for unemployment.”

Putting government intervention aside, if businessmen have motivation to do so (whatever it may be), or if workers have reasons to resist lower wages (they often do), then wages won’t adjust downward efficiently.

Of course, what Astro-Punk fails to quote from America’s Great Depression, is the sentence  just above the selected quote where Rothbard writes:

In a free market, wage rates will tend to adjust themselves so that there is no involuntary unemployment, i.e., so that all those desiring to work can find jobs. Generally, wage rates can only be kept above full-employment rates through coercion by government,unions, or both.

But let us for the moment ignore this important lead-in comment by Rothbard and consider the rest as a stand alone. I believe what Rothbard was trying to do is explain the extended period of high unemployment during the Great Depression. He may have been thinking of the unemployment as just one lump of people that were unemployed for the entire period of the depression, whereas, it could have been different people unemployed for different reasons at different times during the depression.

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Keep in mind that unemployment was at double-digit levels from 1931 to 1940.

Rothbard had to explain this in his book and the “well people stayed out of working demanding higher wages” appears to be part of his attempt. But there are problems with this.

What if it was different people that were unemployed at different times during the Great Depression?

Consider, the first crisis was the stock market crash in October 1929 which we can attribute to the decline in the business cycle. This can explain the jump in unemployment in 1930 to 8.7% from 3.2%.

But then in 1930, Smoot-Hawley tariffs kicked in. Thus, it is obvious to see that this would have resulted in a major new source of unemployment in 1931and unemployment jumped to 15.9%

The Smoot-Hawley Act increased 900 import tariffs by an average of 40% to 48%. Hoover signed the bill into law on June 17, 1930.

Toward the end of the year, Canada, Europe, and other nations retaliated by raising tariffs on U.S. exports. As a result, exports fell from $7 billion in 1929 to $2.5 billion in 1932. Farm exports fell to a third of their 1929 level by 1933.

The Balance reports:

Global trade plummeted 65%. That made it difficult for American manufacturers to remain in business. For example, tariffs on cheap imported wool rags rose by 140%. Five hundred U.S. plants employed 60,000 workers to use the rags to make cheap clothing. U.S. auto manufacturers suffered from tariffs on 800 products they used. 

But then things got worse. Herbert Hoover signed on June 6, 1932, the Revenue Act of 1932 which raised United States tax rates across the board. The rate on top incomes was increased from 25 percent to 63 percent. The estate tax was doubled and corporate taxes were raised by almost 15 percent.

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This surely, once again, shook the structure of the economy. In 1932, unemployment climbed to 23.6%.

Then in 1933, FDR’s New Deal started paying farmers not to grow crops, which resulted in farmhands losing jobs. FDR also established the first minimum wage, more jobs lost. All this resulted in unemployment climbing to 24.9% in 1933.

FDR continued to monkey with the economy throughout the rest of the 1930s and the Federal Reserve had extremely erratic policy throughout the 1930s. All these distortions surely caused all kinds of new unemployment. Rothbard mentions most of these throughout his book and it is curious that he still reached in part for the “well people stayed out of working demanding higher wages” explanation.

But a moment of thought and one realizes that, absent other factors, when a person has a choice between a soup line and a lower wage, he is going to take the lower wage.

There may be some stubbornness about taking a lower wage for a few weeks or even a couple of months but it is hard to see how this would have gone on for 10 years without outside government factors distorting markets.

To think that free markets don’t clear, even labor markets, is a very odd view to hold. It is, in fact, a Keynesian notion.

There is a very good dissertation paper that needs to be written here to dig into the specifics of the unemployment during the Great Depression. Was it the same people unemployed throughout? Was it different people forced into unemployment by different government interventions? How much was it really a decade of labor stubbornness? I doubt very much sticky/stubbornness would be found.

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