When creative destruction hits a wall

There isn’t a level of government in Canada, let alone across the world, that isn’t desperately concerned with job creation. Having just returned from a stint as a senior policy advisor at the Government of Ontario’s Ministry of Economic Development and Innovation, I can vouch first-hand for the whole-of-government focus on job creation that currently occupies the minds of those at Queen’s Park. And while pockets of job growth have managed to emerge in specific regions and where new industry and new innovations flourish, and while certain industries still struggle to attract the skilled labour they require, on aggregate few jurisdictions in Canada or around the globe have escaped the deflationary employment trends that has pushed global unemployment to new highs.

And while we in Canada, especially in Ontario’s manufacturing heartland, bemoan a 7.7% national unemployment rate and the exodus of manufacturing jobs, we’re still largely fortunate to have escaped the worst of it. For example, in Europe, the aggregate EU figure of 10.8% masks extreme highs in Spain and Greece, 23 and 21% respectively. Moreover, today’s unemployment rate in Europe is a full two-percent higher than what was recorded a decade ago, an increase that equates to a total number of unemployed (defined as seeking employment) Europeans that has grown to 25 million from 16 million just 4 years earlier.[i]  In the United States, while the unemployment rate has dropped to below 9% from its high of 10.6% in 2010, this doesn’t undo the displacing effects of unemployment for over 13 million Americans, more than double the number recorded in 2000. And perhaps more stunning is that for 42.5% of these unemployed Americans they’ve been unemployed for over 6 months.[ii]

To be sure, the accuracy of official unemployment rates are tenuous given they omit discouraged workers, i.e. those who have given up searching for work, and those who are working part-time when they are wanting full-time. Including these two categories of citizens near doubles US unemployment from 8.2% to 14.5%.  In Canada, the equivalent measure (R8) brings our 7.7% national unemployment rate up to 11.3%.[iii] And if that isn’t bad enough, when disaggregated by age group, youth unemployment across the EU hovers near 23%, with extremes of near-50% in Spain and Greece. In the US and Canada, this measure is lower at 16.4% and 13.9 respectively.[iv] , [v]

And these trends go far beyond the West. As Jim Clifton of the Gallup Organization reports, “the single most dominant thought on most people’s minds is about having a good job.”  Gallup’s annual world poll highlights the effects of globalization on the global labour market and the individuals that comprise it. As economic reach has penetrated previously undeveloped markets, it has spread expectations and demands for formal employment. China alone has stated the need to create 40 million new urban jobs over the next four years as part of its 12th Five Year Plan (released in mid-2011) as part of its goal of balancing development and social stability. And while much of this labour will be found in lower-value add production, and local services, increasingly economies like China’s are moving up the value-ladder to hi-tech / innovative product and service offerings that have long been the domain of mature economies. And while these trends in developing economies regarding both labour supply and labour value can certainly be interpreted positively, they can also be viewed as significant stressors on the global labour market given the displacement and deflationary wage pressures caused in part by the growth of the global labour pool from 1.6 billion formal employees in 1992 to over 3 billion in 2012.

Source: The Economist, September 10th, 2011. http://www.economist.com/node/21528433

How many jobs exist to satisfy the wants of this formal labour pool? According to Gallup CEO Clifton, only 1.2 billion. Hence a massive shortfall of nearly 1.8 billion full-time positions. And this shortfall will continue to grow given that according to the OECD every year sees 40 million individuals added to the global labour pool.  The OECD’s more modest estimates of the global employment shortfall over the next decade is 600 million – 400 million to cover growth and 200 million for the currently unemployed. And those figures are contingent of global economic growth of 2-4%, should growth fail to meet those targets, increasingly possible given turbulence in emerging markets and stagnation in old ones, millions more will be added to the ranks of the unemployed.

Two questions result – where have the jobs gone and where will they come from?

The usual answer to the first question is China. And while that’s true to some degree it largely fails to account for the whole story. Rather, two concurrent waves of change are redefining the role, and demand for, labour in the 21st century. The first is the aforementioned increase in labour supply (from 1.2 to 3 billion people) attributable to developing countries that places deflationary pressure on wages in high-income country tradeable sectors and promotes wage inflation in the poorer trading partner. Thus while we lament the loss of manufacturing and other sectors affected by outsourcing and offshoring, millions of Chinese, Indian, and Cambodian workers are the beneficiaries of it.

The second wave is the role of technology and productivity advance, both driven by demands for increased shareholder returns (see Lazonik 2010) and a rather singular focus on aggregate growth. As the chart below highlights, productivity and employment have largely moved in-step, thus providing support to the concept of Creative Destruction made famous by Schumpeter which posits that iterative cycles of innovation destroy jobs in old sectors/processes but create an equal or greater amount in new sectors/processes. However, as you can see in Berstein’s chart, the positive relationship between productivity and employment breaks in the late 1990s and is replaced by stagnant job creation despite productivity gains.  This is American data but let’s use it as a proxy for a general productivity/employment relationship for Canada as well.

Source: Jared Bernstein

Why does that break occur? Economist Brian Arthur’s concept of the “second economy” highlights that advanced economy structures are increasingly torn between a first-economy that produces things and a digitized second-economy that produces wealth. The primary difference between the two is that the second, digitized and wealth-creating economy doesn’t employ citizens at anywhere near the ratio of the former. Thus our economies may grow while the aggregate stock of employment opportunities shrinks.[vi] In short, technology and the productivity increases it engenders may lead to economic growth, however it does so at the cost of productive employment.  This “second economy” thesis is getting popular with work by Martin Ford as well as Bryjolfsson and McAfee espousing the same general thesis: technological productivity comes at the cost of employment. In particular, Ford  notes that applying Moore’s law of technological innovation to ongoing innovation will mean the disappearance of what today are termed high skill, high touch jobs that heretofore have remained beyond the reach of technology’s grasp.  The result is an increasingly structural form of unemployment, today reserved to lower-skilled portions of the economy, but one, Ford believes, will increasingly move up the value chain.

To be sure, such fears aren’t novel. We’ve worried since the 1970s that robots would take our jobs, and the centuries old “luddite” thesis on the destructive nature of technological innovation has never completely disappeared (see this edition of Time Magazine December 1980).

Such arguments, however, give short thrift to the concept of creative destruction that has (pre-1990s) minimized the displacing effects of innovation and technological advance by shifting workers to new economic sectors. The positive relationship between productivity growth and aggregate employment highlights this shift at work. And in a perfectly orchestrated economy, we’d like to see productivity advance enable moves to continually higher-value work, thus allowing for compensation and provision of training to be provided to the displaced (as it’s inevitable that segments of the labour force will be unable to transition easily to other sectors).

However the break in this relationship in the late 1990s signals that something has changed.  One can posit that we’re now entering a third phase of the productivity-employment relationship whereby the first phase was the domestic transition of labour supply from lower-value to higher-value sectors as productivity/technology increased; the second phase was the shift of lower-value work to other jurisdictions; and the third phase is the interaction of ongoing productivity increases as mature economies increase the share of their economies that are driven by digitization and financialization (that both have reduced demand for labour) with the effects of increased global competition for high-value work (as the China’s, Indonesia’s and Brazil start to innovate and not just copy/produce). This interaction would thus lower the aggregate demand for labour at every wage level in high wage countries. Now even high-value, white collar work must contend with the deflationary effect (on wages and labour demand) of cross-border competition and technological advance (this doesn’t include management/executive labour wages as these tend to increase as corporations from around the world compete for a limited stock of expertise).[vii]

Thus Schumpeter’s concept of creative destruction and the capture of continuously higher-value sectors runs into the fallacy of composition whereby as the number of countries who are able to capture new higher productivity, higher wage sectors grows, the upward-transitions available to each participating economy are made smaller, thus creating a process of structural unemployment for mature economies at both high- and low- skill/value ends of the economy.  This has really big and bad implications for the standard of living of a high-income jurisdiction – i.e. if you deflate wages at both top and bottom you lose the ability to keep either party happy as total revenue doesn’t allow for transition or welfare provision. Luckily such trends won’t happen to all sectors, and luckily for Canadians our resource sector does provide some buffer, but the general trend is still ominous.

That said, as developing economies begin participating in both high and low-value production/innovation, they will experience inflation that will gradually see the wage advantage they enjoy eroded. Hence in part why there’s talk of a “manufacturing renaissance” in the US South as the combination of rising Chinese wages, increased fuel costs, and lower-US labour costs (a result of staggering unemployment and weakening Union mandates) make US production competitive again.  And while the return of production jobs will help mitigate in part unemployment in high-income countries, it won’t be sufficient to stem the growing number of jobs lost as a result of productivity increases and increasingly innovative, high-value emerging economies.

This isn’t to say we can’t reverse the tide with significant investments and policy changes in education, research and trade and investment policy. However the scale of the economic challenges that globalization and technological advance has brought us will also mean that we need to think much harder about our expectations around work, work hours, income, taxation and equality. If Jim Clifton at Gallup is right and we’re short 1.8 billion jobs, than a future of job sharing may be much more likely than we’ve ever thought. And while we all worry about paying the bills today, let alone in that scenario, updating how we tax and redistribute to ensure we strike a better balance between encouraging economic activity and fostering social stability and cohesion is far from impossible.

It took me 2000 words but in the end I’m somewhat optimistic.

DH.


[i] http://epp.eurostat.ec.europa.eu/statistics_explained/index.php/Unemployment_statistics

[ii] http://www.bls.gov/news.release/empsit.t12.htm

[iii]http://www5.statcan.gc.ca/cansim/a26?lang=eng&retrLang=eng&id=2820085&pattern=LFS&tabMode=dataTable&srchLan=-1&p1=1&p2=-1

[iv] http://www.ilo.org/washington/ilo-and-the-united-states/spot-light-on-the-us-labor-market/spot-light-on-us-youth/lang–en/index.htm

[v] http://www.statcan.gc.ca/daily-quotidien/120405/dq120405a-eng.htm

[vi] Arthur notes as a result of this shift to the second economy, the key challenge is of moving from the near-singular goal of “producing prosperity” to a perhaps more challenging one of “distributing prosperity” across a population that includes some who participate in the economy and some who have been forced out.  His belief, and mine, is that inequality not a necessary outcome of these transitions – they are the outcome of specific political institutions and political decisions. We have the power to change them.

[vii] Canadian labour markets are further burdened by the effects of a rising Canadian dollar and its international attractiveness driven in large part by its resource backing. Beine, Bos and Coulombe (2012) show that between 33 and 39 per cent of the manufacturing employment loss that was due to exchange rate developments between 2002 and 2007 is related to currency appreciation in Canada.

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One Comment on “When creative destruction hits a wall”

  1. […] looks at the disruptive effects of technological evolution on the economy. As I wrote elsewhere (here to be exact), Ford’s general thesis focuses on what happens if technology keeps evolving as quickly as it has […]


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