Saturday, February 15, 2014

Employment A to Z

NOTE: I am posting these eleven articles, originally posted in my now defunct blog "Random Notes", as they are to be cited in an upcoming essay when I discuss liability law. 

I suppose it would be easiest to describe a system of employment if we would all agree that labor is simply one more commodity, that it is effected by the same supply and demand laws which effect all commodities, that it traded like any good, and thus the free market would supply the most efficient solution to the question of how to allocate and reimburse labor. Of course, we don't all agree that the free market is the best solution for even inanimate objects, and when it comes to labor many seem to think it is somehow unique, needing different handling, from minimum wage to safety regulations to laws concerning sexual harassment, so I suppose we can't take the obvious approach. Though for those few with the eyes to see the reality of the situation, I suppose they can stop reading here, as if we accept labor as just one more service to be freely traded, a free market and unfettered law of contracts is all we need. Problem solved1.

However, even if we decide to treat labor differently from other commodities, we need to avoid going to the opposite extreme and getting caught up in the millions of individual issue often brought up by those favoring extensive regulation of employment. Many discussions of labor begin by dealing one by one with each of the topics,  minimum wage, exploitation of labor, worker safety, living wages, sharing of profits and so on and, in so doing,  they run into two problems. First, they reject perfectly workable solutions on the dubious grounds that they do not completely prevent a given problem. Second, they usually end up producing a hodgepodge of regulations, with no coherent principle unifying them, each adopted to answer one objection or another, even though most often they also end up being mutually contradictory, if not completely unworkable.

What we need to do is to start by accepting two principles that are often overlooked in these discussions. First, there is no system which will avoid all problems. Far too often critics of the free market will point out its imperfections, and propose an alternative, all the while failing to recognize that the alternative is no more perfect than the solutions they reject. Second, that goals must be explicitly stated, as success and failure only make sense in terms of explicit goals. Far too many debates are fought using implicit definitions, with each side trying to achieve something quite a bit different from the other.

Let us start with a very simple starting point. Let us define the goal of employment to be providing employers with labor commensurate in value to the wages paid, while ensuring workers receive a wage as close as possible to the value they produce, while making allowances for additional costs likely to be incurred by hiring a given worker. Some may have issue with parts of this definition, most notably those egalitarians who want to divorce wages from output, or seek to raise wages above the output of workers. Likewise, unions and others dedicated to using seniority or other non-merit systems will have problems with this concept. And finally, those who seek in all things to burden the employer rather than employee may object to wages reflecting costs of employment, but I think in all these cases, I can argue that my answer is better than the alternative.

Actually, there are really just two questions. Should wages reflect productivity or something else? And, who should bear additional costs incurred due to employing a given worker?

Perhaps, at one time, it would have been possible to argue against tying wages to merit, to productivity, but it certainly is no longer. Of course, the theoretical basis for payment based on productivity has been known since before economics was even named, much less codified, but many seem to argue that theory is less convincing than empirical evidence2, and so reject such proofs. But we now have a century, and more3, of empirical evidence, and the theories have held up quite well. The fact is, without increased earnings as a motivation, employees tend to produce so much less that the common wage of an egalitarian system is often lower than the income of the lowest worker in a merit based system. So, unless one is truly dedicated to equality in all things, so dedicated he would rather impoverish everyone rather than allow even the slightest sign of inequality, there is no longer any argument. Payment based on merit is the only approach which produces acceptable levels of income.

The second point may seem trivial, but it does show how often critics of realistic labor laws can misunderstand economics. In truth, there is no question about who will pay the costs of employment, employees always do. Of course, on the books, it may say the employer is paying this or that, but that ignores the fact that employers then take that amount and reduce the wages they will pay by a similar sum. It is why the employer/employee split of social security payments is so absurd. On paper it makes the amounts seem more acceptable to employees, who don't realize they are paying out such a large percentage of their wages, but the employer is not paying a dime of that cost. He is taking that payment into account, and offering wages that much lower. So, except for deceiving workers as to their tax burdens, and making a superficial gesture of "sticking it to the man", there is no point in assigning costs to the employer, as, just like corporate taxes4, individuals end up paying for them.

I know some readers will still object to my definition of the goal of employment law, but I doubt I will ever convince everyone. So, for the vast majority who will find it at least somewhat acceptable, let us move on. We agree the purpose of a system of employment is to make sure that wages fall somewhere close to the productivity of the worker. We would also, all things being equal, also like a system which offered work for all those willing to accept wages close to their level of productivity. I do not say we want "full employment", as I am not sure that is a desirable goal. Some degree of unemployment is probably desirable both because some individuals value being unemployed for a time over the earnings from working, and because others may prefer temporary unemployment to accepting the jobs available. Allowing for a degree of unemployment may actually make for a more efficient market, and greater general satisfaction. I likewise avoid the common formula of "work being available to all who seek it", as that ignores the very realistic problem of those who value themselves too highly. Provided we understood it to mean "all whose who seek it and are willing to accept realistic wages", I would have no objection, but unless something is said about wages, simply seeking work should not be seen as a guarantee of finding it.

Were we accepting the concept that labor was just another commodity, it would be easy enough to prove this would be the case with the free market, as it is axiomatic that the market will be cleared whenever price is set where supply and demand curves coincide. In fact, it would be a strong argument for a free market rather than a regulated one, as only free exchange could guarantee such an outcome. But, as we have already said we cannot start from that assumption, I suppose we will simply have to reinvent the wheel, and prove in the course of our discussions to come that the free market does precisely that.

Beyond the level of wages and providing of adequate numbers of jobs, there are hundreds of others smaller goals individuals set forth as part of an ideal system. They want wage equality between the sexes, worker safety measures, promotion free of nepotism, protection of worker privacy, guarantees of various benefits, worker sharing in employer profits and on and on. As I said before, many past debates have become bogged down in just such minutiae. And as it would take a book, or several, to deal with each one in detail, we cannot even begin to scratch the surface of such questions. What I can say, and what we will look at in a short time, is that those issues relating to wages -- as well as a few others, such as nepotism, which is at root a wage question, though it may not be obvious that it is -- will be evaluated based on our original formulation. And those not strictly wage related, such as various safety measures, are contractual issues between employee and employer, and tend to be resolved across the boards as issues rise in prominence among workers, and as societal wealth makes them affordable. We will look at this in a bit more detail later, but, obviously, only in the abstract, it would be impossible to discuss every single possible demand.

And finally, before we begin the argument proper, let us return to one point we established above, and look at it from a slightly different angle. As I said above, every system has its failings, there is no system which does not at some point produce results contrary to its goals. We cannot, and should not, take such failings as reasons to reject a given system, as we would need to reject every system. What we need to do instead is to ask, when a given system fails, how serious is the failing? And, more significant, how does it correct the failing and how swiftly and completely does it correct itself? As with so much in life, the ability to correct mistakes is much more important than the ability to avoid them entirely. Especially as the latter is impossible5.

Which brings me to the other side of this question, and one which is often hard to keep in mind, and that is the fact that what we sometimes call a failure may often be nothing of the kind. Or, in many cases, may be a failure, but only for some, while others find it a success. For example, while a decline in wages is bad for employees in their capacity as employees, it is good for both employers and consumers, as well as those invested in the firms paying lower wages. In many cases, these groups overlap, and so the question becomes, did the workers benefit more in their role as consumers and investors than they lost as workers? It is often a difficult question to answer, for that matter it is sometimes difficult to even recognize that a given event brings both benefit and loss, but we do need to bear it in mind, as far too often we are so used to calling certain categories bad (bankruptcies, houses declining in value, lower wages), that we forget those situations may benefit many6.

As the time has come to look at labor itself, let us start with the most basic model imaginable, self employment. In this case, you are not paid, at least not by another. Your labor is rewarded with the output resulting from labor. That is, in essence, the baseline of labor. If you can make more working on your own, it is unlikely you will accept outside employment.

However, in many cases, it makes sense to work for another. Perhaps another has invested capital, and thus will allow you greater productivity. Or has a more advantageous situation (eg. rich mines or thick forests) which will allow you more productivity than you would obtain on your own. Or maybe you have skills which require cooperation, such as ship building o other large scale building, where working alone is not feasible. Whatever the case, when you offer to work for another, the two of you would then proceed to negotiate for your wages. Obviously, the employer would want to pay you as little as possible, and you would wish to be paid as much as possible. However, in the end, your wages will likely settle down somewhere close to the amount of wealth your produce through your efforts. After all, if an employer offers too much less than you an produce, another employer will offer you more, and still make a profit. On the other hand, if you demand more than you can contribute in value, you become a net loss, and your employer would let you go. So, more or less, your wages will settle around the amount you would add to any project.

Of course, as I stated before, all systems fail, and it is easy to postulate peculiar situations where these rules would be suspended. And most often, that is precisely how critics of the free market criticize its function, arguing voluntary negotiation of wages will fail to produce ideal outcomes. So, let us imagine a few such situations and ask what the effect would be, and then, as so few critics do, ask how likely such circumstances are, and how long they would likely exist if they ever did come about.

I suppose the most simple situation which could produce distortions in wages would be a situation where one employer had such a significant advantage in productivity over his competitors, say having an exceptionally rich vein of ore, that he could pay you well under your contribution to the enterprise, and yet still pay more than any employer. If this were the case, you would earn less than your contribution, and thus less than your "true worth", yet there would be no mechanism for competitors to enter and bid away underpaid labor, as their relative disadvantage would make their best offer still lower than the insufficient wage.

Before we move on, let me point out this is not exactly a bad situation for the worker. Workers are still earning more at this job than they would at any other employer, and so they are not exactly suffering. The employer is simply getting labor for less than he would in a competitive market. However, s we have defined an optimal system as one where wages match productivity, we do have to view this as a defective situation, and ask ourselves how likely it is to happen, and how long it would persist.

Such tremendous advantage can occur, we have seen it ourselves, though usually it is in areas where brand identity is of paramount importance, rather than in heavy manufacturing or the like. We have all seen trends which have given a single firm a massive market share, which just as quickly disappeared. And that is the answer. Yes, this can occur, but it is unlikely to last. In areas where it is caused by temporary market trends, those tend to self-correct swiftly. In other areas, say mining, such advantages are possible, but if the profit is high enough, one of two things happen. The manufacturer lowers prices, trying to gain more market share, and the lower prices eventually bring wages and productivity into line. Otherwise, if he keeps profits high, it draws investors to the market, and other firms either find similar advantages, or else eventually develop technology which makes up for the advantage. Rarely will such a tremendous competitive advantage last long. 

The second case, the most popular argument for minimum wages or collective bargaining, is the situation where we postulate a somehow geographically isolated market, where there is a relative overabundance of labor, allowing employers to pay below market wages. According to this theory, if such a region were to exist, and workers found themselves unwilling or unable to leave, it would be possible for employers to pay wages below one's level of productivity.

But how likely is it such conditions would exist? And if they did, would they persist? Even then, would it make sense for employers, looking at things from their own self interest, to continue paying substandard wages?

It seems unlikely, given the high level of mobility in the US today, that most areas could experience the situation described in this hypothetical. As it has been bandied about since the turn of the 20th century, it is beginning to show its age. When industry was tied to rail, and workers were born and died in the same town, a closed mill and a depressed economy may have, for a time, created the situation described, but today, workers in general are less fearful of moving away from stagnating economies, and, even more significant, industries are quick to exploit lower wages. There may be reasons a particular area would be both depressed in general and unappealing to any other businesses, but if that were the case, then workers would most likely gradually depart. It may mean some hardships for those who need to relocate, but in a relatively short time, it seems likely any areas with relative excesses of labor would disappear one way or another.

But even if they did not, would it make sense to pay workers less than they produce? Maybe on the very lowest level of unskilled labor, if they are perfectly replaceable from the labor pool. But even there, work habits, knowledge about the worker, knowing how likely he is to show up, do a good job, and even the minimal skills he learns on the job, all make it unlikely even unskilled labor can be replaced cost free from the pool of workers. And above that level, if we try to pay workers too little, it is the same as in other markets, a greedy competitor can offer higher wages and pick and choose our best workers. Assuming the pool of labor is not uniform, paying below market risks being stuck with only the worst workers, while competitors bid away the skilled and reliable. Thus, even with relative overpopulation, pay will stay near productivity.

This seems a good place to discuss two other hypothetical situations which are sometimes brought up in response to such arguments. First, the argument that employers may not always act rationally, or behave predictably, and thus workers could suffer because employers take irrational action. Second, the possibility that employers, acting rationally, might explicitly or implicitly collude in such markets to keep wages low, agreeing not to compete to provide everyone lower wages. Both seem, to me at least, quite far fetched, but I have heard them argued enough times that I would be remiss to ignore them.

Let us first look at the simpler case, the irrational employer. Let us suppose, for whatever reason, a given employer is willing to suffer financial loss to behave in a way he prefers. Let us say, he is willing to take a loss to continue to discriminate on some basis, be it sex or race or religion. Under normal circumstances, discrimination is a losing proposition (unless every employer discriminates, but we shall look at that shortly, when we examine collusion). If one employer, or even a group, is willing to overlook the competence of employees in order to hire only from a given group, or to avoid another, then some other employer will take advantage, hiring those workers, likely below market -- at least so long as discrimination continues to depress their wages -- and make a tremendous profit. Of course, as time and experience show the profits to be made, others will ignore their discriminatory inclinations, raising wages, until the groups which were once out of favor will earn a wage close, or equal, to the wages of the rest of the employee pool. 

But that is the picture from the employee side, and taking in only the big picture. What if a given employer, knowing full well that he will be at a competitive disadvantage, that he may enjoy lower returns, is still willing to endure such disadvantages to continue to discriminate? 

The truth is, for a time, he probably could do just that. However, it would have limited impact on workers. In fact, the greater the effect, that is the more of the market he controls, the more quickly he will suffer ill effects and be forced to surrender market share. For example, a tiny shop, employing four or five workers, located in a large city, can probably discriminate for some time without too much difficulty. However, from the perspective of workers, it is irrelevant, as it represents less than a tenth, even a hundredth, of a percent of possible jobs. At worst, it will mean wasting time on a pointless interview. Of course, eventually, should there be enough business to support competing shops, he will find himself suffering relative to competitors, and will likely go under, but ti will be a very slow process, as the relative disadvantages are small, as are the costs, so in such small corners, discrimination can continue for some time.

Then again, even on a small scale, discrimination is not as easy to maintain as many think, even for a short time. We can see this by looking at our small shop, and examining either extreme of the labor market.

When times are good, and labor is hard to find, filling low end jobs7 such as we are describing, tends to be difficult, as anyone with skills will be snatched up, leaving only the untried and those with poor skills or habits. In such a situation, discrimination either makes it impossible to fill jobs, or, at best, forces employers to pick even worse workers than they would otherwise. And thus, the costs of discrimination are quite high. On the other extreme, when times are hard, the labor pool is filled with very good workers, available cheap. However, in that case, discrimination again narrows the selections, allowing competitors to hire some superior workers cheaper than they would otherwise. Thus, while not directly harming our shop, it would place them at a strong competitive disadvantage, which, especially in a weak economy, could easily drive them out of business.

Let us turn from our small shop and look instead at large shops, those employing a significant percentage of the labor force, and see how discrimination effects them, and discover what might happen if an employer is willing to accept the costs of discrimination. Afterward, we will look at questions of collaboration in general, following which we will look at one other outlying situation -- when discrimination is so widespread that it is effectively universal8. That should cover the two arguments I mentioned above, and we can then proceed to look at some specific requirements suggested for an ideal system of employment, and see how the free market measures up.

In looking at larger firms, I could go through the same lengthy analysis I did above, but there is a much easier, faster solution. When looking at employment discrimination, a very easily demonstrated rule of thumb is that the larger a firm, the more it will feel the consequences of discrimination. It should be easy to see why. Within a given pool of workers, there are a distribution of skills and work habits. So long as one is happy with skills falling in the middle, and one employs a small enough percentage, one can discriminate, and effectively exclude some percentage of the possible employees, without too much cost. However, the larger the percentage of the employment pool one requires, the greater the consequences of excluding possible employees. If you exclude randomly selected workers9, you will obviously exclude a mix of good, average and bad. The bad are not important, but by excluding the good, you are forcing yourself to select average workers when you could have had better. And, if you employ enough workers, in excluding the average you may even do harm as you force yourself to pick workers who fall below the average in order to fill all available slots. Which is why I argue that the larger the firm, the greater the percentage of a given labor pool it employs10, the more discrimination will hurt.

Some will respond that, whether the rule is true or not, it is irrelevant, as our hypothesis is that the employer willingly accepted the costs, so what do those costs matter? However, that is the wrong way to look at things. We may believe the employer cans imply "eat" the costs of his discrimination, but this is as misleading as the belief of some that a monopolist can take a loss to eliminate competition, and then regain it when they control the market11. First, there is the obvious problem that such losses may put the company into loss, rather than profit, which cannot be sustained for long. However, even if it simply reduces profits, there are still problems. For instance, should the company need to borrow, or wish to issue stocks, it would find that the poor return on investment would make it difficult to find funds, making the company far less competitive than rivals, and eventually leading to failure. Likewise, the reduced profits make it more difficult to accumulate any working capital, which means the firm will suffer both in terms of replacing worn capital goods, and expanding or improving the capital goods of the company. In short, a firm accepting losses, or just reduced profits, will be unable to expand or modernize, will have more trouble replacing worn out infrastructure and machinery, and will find itself having trouble borrowing funds. Such companies may survive for a time, but in the end the difficulties will eventually remove such firms from the market.

Thus, even if an owner is irrational, is willing to accept the costs of discrimination, for whatever reason, or otherwise act in a manner we would term irrational, the market will eventually remove the firm from the marketplace.

Now, let us look at the second possibility, if firms collude, explicitly or implicitly, to keep wages lower than the market rate12.

On first glance, this situation would seem to contradict the assertions above. If every firm were happy to pay lower rates, and there were no competitors to whom the workers could turn, it would seem employers could keep wages below market, and thus earn additional profits while employees would earn less than their productivity would demand. However, such a situation is not tenable for a number of reasons, and thus such collusion would be impossible to maintain in the real world, even were there no laws against it13.

The first problem is that such collusion would be unlikely in the first place. Such schemes obviously would arise from owners who wished to make a maximum profit. In other words, they arise out of greed. However, if we assume greed is the primary motivation, then what is to prevent one of the owners from breaking the agreement, paying slightly more, stealing the best employees, and thus making a greater profit at the expense of his rivals? Or, if that option is not used, what is to prevent an owner from exploiting his increased profits to lower prices, undercutting his rivals, and earning greater profits through higher volume14? In other words, it is difficult to imagine a situation where men could collude out of greed to betray their workers, but would not then be motivated by greed to betray one another for even more profits. Given that situation, it seems to me that likely any such collusion would collapse swiftly, and workers would be bid up quickly to the market rate15.

However, even if such a situation were conceivable, the conspiracy would face problems. First, low wages would likely drive workers to seek other markets. Of course, we could argue the conspiracy covers all markets, or postulate workers have limited mobility. These seem even more unlikely than the honorably greedy conspirators, but we will allow them, just to show the other possible problems. For example, the fact that the elevated returns made possible by such low wages would draw in competitors, either existing firms outside the conspiracy, or else investors funding new comers, seeking to cash in on higher profits. Since such firms would be outside the conspiracy, they would have no problem bidding up wages, effectively causing the problems I argued some disloyal conspirators would. And then there is the second possibility, that if wages are too low, even if no outside competitor arises, workers may decide the low wages make it more profitable to change professions and work for themselves, or perhaps form a cooperative venture. As we said at the beginning, workers only work for others as the return is better. Should wages fall too low, self employment looks better and better, and since the workers are not going to conspire against themselves, they will earn a competitive wage. It will likely be lower, due to lack of capital and the lack of experience at the new task, but with wages artificially suppressed, it could be high enough to attract away labor from the depressed market. Of course, both of these corrections would take time, but they would come about, and, as such happenings would likely be financially harmful for those conspiring, one or two such events would likely be enough to deter anyone else from similar conspiracies. So, though correction would take time, it would, in the long run, prevent any future repetitions.

And this also shows why another hypothetical situation is unlikely to persist, the discriminatory market. Many have supposed if discrimination is universal, then those groups against whom society discriminates could be consistently under paid. I would argue that someone, with an eye for profit, would see that situation and begin to bid up wages among the minority, gaining good profits by paying less than market, but more than his rivals. And, as always, this would inspire another to bid slightly more and so on, until we reach market again.

However, there is a second possibility here. As with the collusion situation, a minority facing universal discrimination always has the option of creating their own businesses and employing their fellows. After all, if they are underpaid in the market at large, then such firms could pick and choose the best workers by simply paying market wages, which would give them a tremendous competitive advantage, even before racial/ethnic/religious loyalty is figured into things. And so, though it would seem otherwise, it is unlikely a universally discriminatory market could persist, or not without some sort of legal mandate forcing discriminatory wages, or excluding minorities from owning such enterprises.

Having looked at wages, let us now look at a few other issues related to employment, such as worker safety. As with wages, there is a general feeling that employers would act in ways detrimental to their employees, but for the government. However, as I already demonstrated with wages, such conventional wisdom is actually quite incorrect.

Let us start by pointing out what should be obvious, but is often ignored. An employee is an asset to a company. A good worker is hard to find, and so companies would like to retain such employees. However, even an average worker is worth something. And it is not just training and skills. A new worker can be trained, and will eventually develop the skills needed. No, a worker is also valuable because he is a known quantity. The employer knows how likely he is to call in sick, whether he will show up on time, what type of work he does, whether or not he will work overtime, if his output drops off after a certain time, whether he will work weekends, and if so what type of work he will do, and so on. That knowledge is hard to obtain without lots of time on the job. It is one of the reasons so many jobs have trial periods, so that they can learn all these facts about employees before committing to them.This is also part of the cost of hiring a new worker, and part that economists often overlook16. Yes, there is the explicit cost of a job search, and of training, and of reduced output while training, but there is also the time required to learn all about a new worker, and the possible losses involved in finding out a given worker will not fit in several weeks after hiring him, and the costs of starting a new search.

I mention this because it is essential to understanding worker safety.

The basic fact is, all other things being equal, employers would like to retain their existing employees. Of course, that is a qualified statement. They would like to keep their workers, but only if the cost is not higher than the inconvenience of hiring new workers. So, while they want to retain workers, there is a limit to that desire.

Still, recognizing that puts us in a much more realistic frame of mind than most who discuss this topic. Most who argue about employee safety seem to think employers would wantonly harm and kill workers for no reason at all. In truth, even if we disregard normal human sentiment17, we must recognize that it is a costly proposition to lose a worker, even if it is temporary, so employers would be willing to spend some money to avoid it.

Of course, without government mandates, worker safety may not be handled quite as it is now. Some things the government demands cost quite a lot more than the benefit the provide, and so would likely be omitted. On the other hand, there may be cheaper alternatives that are not used right now because government rules mandate some other solution. It is actually hard to say what would happen, as with so much government involvement, it is impossible to imagine what the free market would produce in a given industry.

Now, some will say "yes, but if it costs too much, employers will continue to ignore safety, and let workers suffer." But that ignores some very important points. First, as we discussed, there is the desire to retain existing workers, which will place quite a bit of importance on spending to keep staff. But, if that is not enough, there is the second factor, the employees. In a free market, employer and employee negotiate their contract, and that includes safety. If a given workplace becomes known as unsafe, then it will require a lot more pay to attract workers, or keep them. Thus, the cost of being unsafe rises, making it more attractive to spend on safety. Of course, what safety measures are considered important (again) may not match what the government now decrees, but will instead be decided by employer and employee. But as those two are the only ones it effects, then that makes sense.

Then there are other factors. In a truly free market there would not be state employer liability systems, and so employers would be liable for their own losses. Of course, they could exempt themselves in contracts with employees, but such blanket exemption would probably cost a lot, in terms of high wages. So more likely employment contracts would exempt normal work hazards, or establish fixed payments, leaving unusual hazards for liability cases. Thus, employers would want to be safe either because they would be liable for injuries if shown to be negligent, or else because they would have to pay a fortune to exempt themselves from liability in their employment contracts18.

Similar rules would also apply to things such an environmental pollution. Pollution in the immediate area would obviously be  a bad idea for many reasons, but first and foremost because workers tend to live near their jobs, and thus pollution would risk incapacitating their employees.

Of course, discussing pollution is a much more difficult topic in general, as the term is far too broad, covering everything from toxins to annoyances like soot to trivialities such as noise. In general we can say that pollution in whatever form exists because it is less costly to dispose of some form of waste (be it waste products, excess sound or heat, or soot and other exhaust) in the form of pollution than to pay for the modifications which would avoid it. Property rights and nuisance suits can -- and for many centuries did-- remedy many of these issues, but there are some which are more difficult. Many are due to areas where property rights are unclear or nonexistent. Which suggests property rights could avoid a lot of these problems, though not all. However, since it is such a complex topic, and far outside the scope of an essay on employment, we will discuss it in a future essay.

Which brings us back to all those secondary issues surrounding employment, such as benefits, health care, worker safety, retirement and so on. So many issues, in fact, I could never hope to cover them. Instead, let us make some simple statements that should show why the free market is preferable to any government mandated system of employment.

Free employment is nothing but a contract between employer and employee. And the contract is made in a very simple way, the employee asks for as much as he can, and the employer offers as little as he can. The two then negotiate and reach an agreement. If, in the course of events, it proves to be too little or too much, either they will negotiate a new contract, or they will terminate their agreement.

The reason this is an important description is that it highlights a few essential features. First, the free market employment agreement represents the interests of only two people, the employer and the employee, and thus is far more likely to please those two than any contract which must involve the government or others, as those additional interests are likely to leave the employer and employee unhappy. Second, should one or the other become unhappy, that is should any problems arise, they can both renegotiate swiftly, as they are the only parties involved. In other words, solutions can be reached rapidly. Finally, should one or the other be dissatisfied with the outcome, he has only himself to blame, as no one else forced him into the agreement, and thus, as much as the word "fair" has meaning, the system is ultimately fair19.

I could go on for pages explaining how this aspect or that of the free market works, singing its praises, but I think that last part should have made my point. The free market is not without faults, and problems can arise (as with any system), but it solves problems more swiftly, and to the satisfaction of those involved, far better than any other system.


1. Contract law is necessary in employment even more so than other exchanges on the free market, as it is not possible to have a single, discrete exchange. As labor constitutes an ongoing transaction, contracts are needed to ensure the terms are well defined and followed by the parties. For a discussion of the benefits of free and unfettered contract law see "In Praise of Contracts".

2. I would argue that the opposite is closer to the truth. Theory, provided it is founded upon an accurate model of reality and is logically consistent, is much more reliable than empirical evidence, especially in social sciences where comfounding factors can easily be missed, leading to improper conclusions from superficial similarities of empirical cases. The statement "it's fine in theory, but doesn't work in reality" is simply evidence that the speaker does not understand what theory means. If a theory cannot model reality, then it is far from fine.

3. Even before the communists made their first halting efforts, utopian communes in the US, in the early 19th century, made a number of efforts in this direction, and left quite extensive evidence of the failure of egalitarianism, which was, as expected, completely ignored by the next generation of egalitarians. In fact, time and again egalitarian movements have made the same effort, eg the Levelers, Diggers and others of the English Civil War, and in each case concluded that strict egalitarianism simply doesn't work. And yet, time and again, the next movement, showing their dogmatic faith that "this time it will be different", ignores the past and proceeds to learn the very same lesson. Of course, this seems to happen in a number of areas of human endeavor, not just egalitarianism. See  "The Right People, The Wrong People and "Just Plain Folks"".

4. This is far from our topic, but any taxes not assessed against an individual, or paid as part of a transaction, such as licensing fees or sales taxes, are always paid by individuals. Corporations, partnerships, sole proprietorships and the rest are legal fictions. In the end, they are owned by individuals who end up bearing the burden. There is no such thing as taxing a company, only assessing taxes against the owners of that company. See "The Foolishness of Corporate Taxes".

5. See "Utopianism and Disaster", "The Threat of Perfection",  "Life Is Not Fair - And Trying To Make It So Makes Things Worse", "Accepting Misfortune", "There Ought To Be a Law", "Forget Perfection", "Cutting "Costs"", "Misunderstanding Profits",  "Again?", "Government Efficiency", "Two Examples of "Inefficiency" in Capitalism" and "Pro Hoc, Ergo Propter Hoc".

6. See "Two Perspectives", "Bad Economics Part 11", "Problematic Arguments", "Why"Negative" Economic Indicators Are A Good Thing" and "Lazy Economics".
7. I am not going to deal at length with small shop employing skilled workers, because it is less common than our other two examples. However, for those curious about such situations, recall that the more skilled the workers, the smaller the pool of employees, and thus smaller shops have a relatively larger importance. Thus, a small shop hiring very specialized workers can be analyzed as if it were a large business. And that is the other reason I am ignoring such situations, using the two scenarios we analyze and this rule, readers can work out those situations for themselves.

8. Though many claim discrimination is common in today's society, I beg to differ, and thus consider a situation of widespread discrimination unusual. I realize there are many studies arguing there remain various forms of wage discrimination, especially against women, but I have argued before ("Pay Disparities") that such studies are flawed, and such differences can be explained without recourse to discrimination. 

9. We are assuming there is no correlation between the category we use for discrimination and job skills or work habits. If a group has cultural tendencies, or perhaps economic and educational levels, which cause their work skills and habits to fall above or below other groups, then this analysis does not hold. On the other hand, if there is an actual correlation between race, sex, religion or something else and work abilities, then hiring based on that attribute is not irrational discrimination but a valid screening of candidates, whether the EEOC would agree or not.

10. A labor pool may not be all possible workers, unless it is a job requiring absolutely no skills, in which case anyone could apply. If a job has any requirements for skills, education, experience, physical abilities or anything else, then the labor pool in question is some subset of all available workers. This is why small firms hiring very skilled workers are effectively large firms, given the very small pool of potential employees, even employing a handful makes one responsible for employing a significant percentage of the relevant pool.

11. See "Small Business Fetish", "Saving Us From Lower Prices", "The Difference Between Public and Private, Or, The Real Monopolies and Cartels", "Stupid Quotes of the Day (January 17, 2012)" and "The Consumption Curve".

12. By implicit collusion I mean a situation where all firms are run in a manner likely to keep wages below market. For instance, if everyone were to discriminate against a given group, then the wages for that group would run below market without explicit collusion.

13. As we shall shortly see, laws against collusion, either to suppress wages or to otherwise "restrain trade" are actually pointless, as the market forces themselves would render such collusion impossible to maintain. If anything, the laws make such collusion slightly more feasible, as the worries that one may be seen as violating an ill defined law might make companies more reluctant to take risks and would slow the forces which correct market distortions. If anything, government intervention may create, not resolve, problems. See "A New Look At Intervention", "The Inevitability of Bureaucratic Management in Government Enterprises", "Fear Driven Enterprises" and "How the Government Corrupts Relationships".

14. Actually, this will, in the long run, address the wage discrepancies. If prices are lowered, then the effective output of the worker has a reduced dollar value. If done consistently, until profits match the general market rate of return, wages will equal output, or be very close. Of course, because such price cutting will likely not produce the optimal numbers in terms of price and volume, prices and wages will eventually need to be adjusted, but for a time, wages and output will balance, even if the rest of the market is imbalanced.

15. I do not mean to give the impression greed is bad. In fact, greed is a very beneficial emotion. However, in this case, it seems strange that we attribute an all-encompassing greed to the owners when forming the conspiracy, but then attribute a rigid adherence to the compact once it is made. It seems remarkably inconsistent. (Concerning the benefits of greed see "Greed", "Greed Part 2", "Greed Versus Evil", "Envy And Analogy", "Envy Kills", "Envy And Analogy", "The Great "What If?" - Advertising, Gullibility, Education, Capitalism and Socialism" and "Perverting Self Interest".)

16. As I discussed in "Pay Disparities", this is one of the reasons women make less than men in some jobs. Because women get pregnant, and are more likely than men to not return to work after doing so, they introduce the possibility of forcing their employers to hire new staff. Some economists take this into account, but even then, they fail to consider all the costs of a new hire, most often because such costs are hard to quantify, and, because of that, do not show up on the balance sheets, leading economists to forget them entirely.

17. Many seem to subscribe to the "evil businessman" theory assuming everyone who employs another is inherently evil and unfeeling. Thus they ignore the fact that some employers implement safety measures out of a human desire to avoid harming others.

18. Some may wonder at this statement, as I have been quite critical of liability lawyers. ("The Perversion of Liability Law", "Still More on Liability Law", "The "Right To Sue" As Our Only Right", "Two Stray Thoughts") However, that is a mistake. I have been critical of the form liability law has assumed, the absurd grounds on which people sue today, and the fact that they sometimes win. However, I do not despise all liability law. And, in this case, it is more likely it would be a contract case, rather than liability, as employers would probably try to cover all possibilities in the contract. However, unless he pays a fortune for blanket exemption, likely any major injury will result in a suit trying to prove it is something the contract did not cover. And so, even if exemptions exist, it is likely every serious harm would result in a combined contract and liability suit. And I have no problem with that. That is how the system should work. 

19. Rather than go into it here, those who are curious about my rationale for avoiding the word "fair" -- as well as a few other frequently used terms -- can read "The Most Misleading Word", "Luxury and Necessity", "A Question of Fairness", "One More Meaningless Word and Its Consequences" and "Protean Terminology".



My earlier writing on wages can be found in the posts "Exploited Labor", "Capital Investment", "Exploiting Workers?", "Fairness and the Free Market", "A Little More On CEO Salaries", "In Praise of Contracts", "Greed Versus Evil", "Stupid Quotes of the Day (January 26, 2011)", "Stupid Quote of the Day (January 3, 2012)", "Why Do They Earn So Much For Playing a Game?", "The Great "What If?" - Advertising, Gullibility, Education, Capitalism and Socialism", "Third Best Economy", ""Disparities of Wealth"", "Misunderstanding the Market", "One-Way Evidence", "Pro-Labor Cannibalism, A Look At The Union Food Chain", "The Cart Before the Horse, or, Some Thoughts on the Iron Law of Wages", "Best of the Web Makes A Small Error", "The Welfare Death Spiral","The Harm of Closed Shops and Collective Bargaining", "Mistaken Perceptions of the Industrial Age", "Child Labor and the Industrial Revolution", "Planning For Imperfection", "Who Is Safer?", "Worker Safety" and "Pay Disparities".

Originally posted in Random Notes on 2012/03/26.

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