Thanks for coming back! If you missed the first or second entry in the series you will want to read those first since I will be referencing them throughout this post.

Labor Markets

The Labor market is… messy. One share of stock is as good as another however no employee is exactly the same as another. Outcomes are unknown, can be effected by things unrelated to your company, and an interview/resume combo is far less informative then a stock’s disclosure report. Among salesmen, the top tier commonly sell twice the average. The bottom tier commonly sell only half the average. That is a 4 fold difference in outcome based on something that can’t be measured before they are hired.

While stocks and products don’t care what portfolio they are in or what shelf they sit on, people do care and care deeply what company they work for and what work they are doing. A loaf of bread does not care if it is sold for 75¢ or $3 dollars. To an employee there is a massive difference between making $25,000 a year to $100,000 a year. If my grocery store puts bread on sale, it is still the same bread and my sandwich tastes the same. If I cut an employee’s salary from $50,000 to $35,000 odds are their productivity will plummet.

These non-market factors also carryover to the distribution of labor. Financial assets are non-physical so can be transferred near instantly; Products can be shipped from one side of the country to the other although it may take a few days and cost a bit. Employees are very different. People can relocate, but slowly and with great difficulty. The effect of this is that many labor markets are localized, although this can vary by skill set. Higher skills sets tend to be more likely to move and companies are generally willing to pay more to get people to move. For lower tiers of skill the markets are more local.

In short, labor is a product that cares where it is thus limiting distribution, cares what it costs thus you have non-market forces effecting price, and the buyer has incomplete information about the quality of labor they are buying. Labor markets are messy.

Much like production technology and product development, companies invest in their human capital. There is a natural attrition rate for employees that the company will have to work against. Human capital can’t be mothballed and it takes a long time to develop good employees. Thus, companies don’t, nor should they, instantly optimize their long-term workforce to match only short-term needs.

If revenue has dipped then it may make sense to hold on to excess employees for the dip since you will need them when sales return to normal. Of course the problem with that statement is knowing if this is a short-term dip or a long-term shift. It’s also important to never forget that employees are people. Nobody wants to fire someone they like and who they know is working hard. While it is easy to see how larger companies can commoditize their labor, for smaller companies letting people go can be personally painful for the owner/operator. This can be a major market friction.

This pressure to hold a non-optimum amount of employees is one of two big sticking points in the division between GnS and the Labor Market. The second is the Keynesian notion of sticky wages, which we have already touched on in passing.

The connection between GnS and Labor

So what is the net effect of all of this? Expect the Labor market to lag behind the GnS market in terms of lowering total jobs vs. output. Expect employees to be unwilling to lower the price of their labor… at least in the short run. Note that both of these trends are the effect of a negative GnS on the labor market. Companies aren’t too hesitant to hire during a boom and employees will gladly accept a raise and accept it right now. Thus a positive GnS can interact very smoothly with the labor market while the effects of a negative GnS are commonly delayed and dissipated.

Labor economists must look at the long term when discussing these numbers. Seasonal variations are strong, effects are delayed, and different labor types can be treated as either a short term cost or a long term asset depending on their skill sets and the company. While the links between the financial markets and GnS only apply to some firms, the links between Labor and GnS are all about a mix of short vs. long delays in effects and the natural frictions in hiring/firing. It is also critical to remember that while any company wanting finance has access to the same financial market, firms hiring employees may face dramatically different labor markets given there location. Skill sets and education are not highly fluid and thus these markets can be highly isolated.

I started with the statement that the labor market is messy. That is the best ways I know to end.

Final Notes on the 3 Economies

Now here is where we start to get blunt and maybe a little mean. I am not here to be a jerk but there is a point in time where things are simplified to the point of inaccuracy.

The debate between “Wall Street and Main Street” is nonsense. Not because of political ideology but because when people talk about “Main Street” they are general talking about the labor market which is highly disconnected to the financial markets. As you have seen both are connected via the GnS market but both have very imperfect connections to the GnS market itself much less each other. If it feels like the financial market and the labor market are completely unrelated it is because they largely are. A good policy for the financial market might have no bearing at all on the labor market. That is not the fault of the policy, those markets are naturally that far apart. The same goes for the effect of labor market policies on the financial market.

If a labor policy is good it is because of what it does to the labor markets, not the stock market. If a financial policy is good it is because of what it does to the investment world as a whole, not just the NYSE and definitely not a shift in the unemployment rate a week or two later.

Both labor costs and credit issues do effect the cost side of the GnS market; however, these effects can differ wildly per company and sector of the economy. Different companies within a sector have different exposures to the credit market, however all companies share that one credit market. Companies within a sector do share a labor market for much of their workers, but it is commonly limited to those within that sector. A glut of teacher does not counter act a shortage of nurses in the short run. Neither will a credit crunch.

That “nice one size fits all” analysis about how the jobs report boosted the moving average of the NYSE… bullshit. Just bullshit. Just retail stocks within the NYSE, ok that makes sense. I can get behind that story.

The Fed changing interest rates causes tech stocks to drop a half a percent. Bullshit. The Fed rate affecting banks… ok that makes sense. The connection is obvious. A report on the lack of graduates with computer science degrees causes tech stocks to drop half a percent. That might or might not be true but at least that makes senses, the details belong together. It is a story the reporters can tell and the pieces make sense.

There are these grand stories of interconnect pieces where the burden of proof is just not met. It is on the story teller to prove the connection. When facing these kinds of stories I make it a point of looking for the mechanism. What is the piece that causes X to change Y. How significant of an effect does X have on Y? What are the limits to that effect? What counters and substitutes for that effect?

The take away is this: there are simple stories and fundamental truths that do hold for parts of the US Economy, but when we start to simplify across complex systems and ignore major frictions and mechanisms between sectors we are simply lying to ourselves. If we are going to talk about complex systems, then let’s recognize that they are complex, treat them as such, and require a bit more proof.

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Thank you for joining me over the last 3 week. As always, I will have a new topic starting on the first Friday of each month. Next time I will be talking about the force structure questions the US Military faces, how foreign policy fits into these questions, and the pros and cons of different solutions.