The Scientific Theory of Employment
Throughout the realm of naturally occurring processes, dispersion of individuals about the normal or average point follows some probability function of the general type
y = ke-ax²
This particular expression is one way of writing what is known as the normal probability law. An extraordinary range of phenomena, including such diverse items as dispersion of shots fired at a target, distribution of heights and weights, and errors in measurement, has been found to be governed by the normal law or its close relatives, and it is quite apparent that this is a relationship of general applicability in connection with random occurrences.
One of the fundamental facts of economics is that there is a variation of a random nature in the efficiencies of the individual production units. Many factors contribute to this result. Some units have better equipment to work with, some have more favorable locations, some have a more competent labor supply to draw from, some have access to better or more plentiful raw materials, and above all, some have the benefit of more competent managerial and supervisory staffs. The latter factor alone would be sufficient to assure a wide distribution of efficiencies, since human abilities in any field are extremely variable—nature does not pay any attention to the dictum that “All men are created equal”. We can be certain, therefore, that the efficiencies of the producing units will be distributed over a substantial range, in accordance with a probability function resembling the normal probability law; that is, a large proportion of the total number will occupy positions in the vicinity of the average, with the percentages dropping off sharply in both directions, so that there are many that are moderately above or moderately below the average, but relatively few that are much above or much below.
If we represent the total production of goods in a self-contained economy by V, the average production per worker is V/n, where the symbol n denotes the equivalent number of full time workers. In the event that all producers were equally efficient in the creation of values, the average production per worker in each producing unit would also be V/n. But since all producers are not equally efficient, the actual average production per worker in each individual production unit is kV/n, where k is a factor representing the relative production efficiency. At average efficiency this factor k is equal to unity.
The distribution of productive efficiency between individual workers or individual producers is not within our control. It belongs to that important group of phenomena which is governed by natural laws outside the scope of human interference. It does not follow, however, that these phenomena are outside our field of knowledge. On the contrary, many of the apparently haphazard and unpredictable items that go to make up the world as we find it are, in reality, subject to precise mathematical evaluation, as long as we deal with the characteristics of a group and do not attempt to treat individuals separately. In the present instance, we know that the factor k is variable. We do not need to know the exact values applicable to the different producers. All that is of interest to us, for present purposes, is that these values follow a probability relationship, and the distribution of the values is essentially independent of the absolute level of productivity. It therefore will not be materially altered by any change that may take place due to a general improvement in technological knowledge. Such an improvement merely pushes the whole distribution curve up without changing its general shape. We can therefore set down as the first principle entering into the employment situation:
PRINCIPLE I: There is a substantial and unavoidable variation in the productive efficiencies of individual producing units.
The quantity kV/n is not only the average production per worker in the individual unit. When expressed in monetary terms it also represents the amount per worker employed that is available to the producer for meeting the costs of production. But in our modern economic organization there is no assurance that this will be enough to meet the minimum production cost. Most of the components of this cost are determined by considerations that have no relation to the actual values produced by the individual enterprise. Taxes are largely inflexible, the only outstanding exception being taxes on net income. Interest is as immovable as a granite cliff. Rents are much the same. Wages were somewhat flexible in earlier days, but the wage structure is becoming more and more rigid by reason of legal action and pressure from the labor unions. Only profits are free to accommodate themselves to the income of the enterprise.
The sum of the fixed components establishes a minimum production price (cost) which the producer must be prepared to meet in order to stay in business. The only way it can be met is through the creation of sufficient values by the act of production (unless the enterprise is subsidized). The production kV/n must therefore be high enough to equal the minimum production price, otherwise the business fails. In mathematical terms, the factor k must not fall below a fixed limit which we will hereafter call the minimum productivity limit, or survival limit.
PRINCIPLE II: The fixed components of production price establish a minimum productivity limit (survival limit) below which producers cannot continue operation.
But this is just the thing for which we have been looking: an explanation of the existence of unemployment. We have found that there is a practically unlimited amount of work to be done, and hence there are countless potential jobs available; far more potential jobs than there are potential workers. Something, however, keeps these potential jobs from becoming actual jobs. Some powerful and relentless factor interposes a veto and forces millions of workers into idleness while an untold amount of useful work remains undone. Obviously we must unmask this grim tyrant and learn its nature before we can undertake development of remedial measures in an intelligent way. The answer stands out in bold relief just as soon as we begin considering the problem in an orderly and unbiased manner. Employment is not correlated with the wage level, or the “propensity to consume”, or the “maturity” of the economic system, or the interest rate, or the current level of investment, or the activity of sunspots. It is a function of the survival limit. The higher the survival limit, the more difficult it is for business enterprises to meet the minimum requirements for continued operation, and the more enterprises that fail to meet these requirements and close their doors, the greater the unemployment becomes.
PRINCIPLE III: Volume of employment and efficiency of production, other things being equal, are functions of the survival limit.
This is the answer to the greatest enigma of the whole employment situation: why there are not enough jobs when even basic needs remain unfilled. Neither the amount of potential work nor the number of potential workers affects the unemployment rate.
PRINCIPLE IV: The percentage of unemployment is independent of the size of the labor force.
If the survival limit is low enough, all job seekers can have work irrespective of the total number of workers involved. If the limit is raised too high, a certain percentage of the workers will be without employment no matter how much work there is to be done. Addition of workers to the labor force will not cause unemployment, nor will withdrawal of workers cure it. The percentage of unemployment is not determined by the size of the labor force, but by the level at which the survival limit is set by the prevailing social and economic policies, and the relation of this level to the natural distribution of human abilities.
Here, in these four basic principles that have been stated is the general theory of employment that we need in order to chart our way toward the goal of a guarantee of full primary employment. Previous theories, we now find, have been looking in the wrong directions. Employment is not a wage issue, as seen by the classical economists, or a demand issue, as visualized by the Keynesians, nor is it a question of a limit to the amount of work to be done, as the visionaries of the “Age of Abundance” school contend. Aside from the frictional unemployment due to the shortcomings of the agency, or organization, (if any) that is responsible for getting workers into jobs that are ready and waiting for them, whatever unemployment exists is due to the unrealistically high efficiency requirement that has been imposed, quite unintentionally, on the individual production units as a condition of continuing operation. We cannot have full employment under present conditions because there are not enough producing enterprises in operation to supply the necessary jobs, and there are not enough producing enterprises in operation because the productivity requirements are too drastic.
The essential step that must be taken in order to reduce the unemployment is to lower the survival limit. Measures based on previous employment theories have been, or could be, effective only to the extent that they accomplish such a reduction. Under some special conditions, a reduction in wages will increase employment, or at least prevent a threatened decrease, as contended by the adherents of classical economics, because in these particular circumstances a wage reduction has the effect of lowering the survival limit. Aside from these special situations, however, wage reductions have no effect on the survival limit, and consequently they are not, as a general proposition, a remedy for unemployment. Similarly, Keynes’ program of increasing employment by means of an inflationary addition to the demand for goods will achieve its purpose to a certain limited extent under appropriate conditions, because under these conditions price inflation reduces the survival limit. But once we realize that it is the reduction of the survival limit that produces the desired result, and that the addition to demand is only a means to this end, it becomes clear that the Keynesian program of substituting inflation for unemployment is neither adequate nor desirable. When we know just what is needed we can proceed with the formulation of measures that will achieve the desired results directly, rather than having to depend on an incidental feature of some program directed at a different primary objective.
The irony of the existing situation is that the ogre that has subjected us to the deprivation and suffering that accompany unemployment is a creature of our own creation. By freezing interest, rents, wages, and other components of production price we have unwittingly established an unreasonably high efficiency limit, and whenever a producer fails to meet this stringent requirement, we liquidate his business and kill the jobs that he was providing. In our blind efforts to remedy this situation, we have only made matters worse by adopting such measures as increased government spending, higher minimum wages, and more widespread application of union wage scales, which, unless accompanied by the necessary counterbalancing actions, simply drive the survival limit still higher.
It is essential to bear in mind that this is purely a matter of the relation of the efficiency of the individual producer to the general average; it does not mean that the general level of production costs is too high. If this were true, all producers could raise market prices and restore the balance between costs and income. But the producer whose income from his products is below the survival limit cannot raise his prices to overcome this disadvantage; to do so would merely drive his business into the hands of his competitors. His only chance is to increase his productive efficiency so that his income rises above the limit. Otherwise he must give up the struggle.
Nor can we improve the situation by raising the general level of efficiency through improvements in technology, or other means. As previously pointed out, an increase of this kind would not change the distribution of efficiencies, and since the survival limit is related to the average efficiency and not to the absolute efficiency, the position of each producer relative to the survival limit would remain unchanged. We cannot alter the fact that human abilities vary, and consequently we cannot establish efficiency limits based on the general average without running the risk of setting these limits too high, and thus forcing some producers out of business when we need them to keep the workers employed.
It might seem, on first consideration, that the answer to this problem would be to replace the liquidated enterprises with others that could use the same labor and capital more efficiently. But there are insurmountable obstacles in the way of such a solution. The surviving enterprises cannot expand to absorb the displaced workers because the size of the individual production units is limited by other factors, and it is difficult to organize efficient new enterprises in the required numbers. In recent years business failures have averaged about 15,000 per year, and this is not the full measure of the problem, as more than a hundred thousand additional businesses ceased operation each year, and no doubt inadequate earnings were responsible for a large proportion of these dropouts. Just to keep even with these losses is a formidable task.
Furthermore, if we did succeed in replacing the sub-standard producers with more efficient enterprises, this would still not take care of the problem, because this action in itself would drive the survival limit still higher—“sharpen competition”, in the language of the businessman—and would force additional firms into bankruptcy. Replacing less efficient with more efficient units raises the average productivity by some factor a, increasing it from V/n to aV/n. Since the factor k is practically unaffected by this change (if it varies at all under these circumstances it increases), the survival limit rises from kV/n to akV/n. This means that any firms which were just above the survival limit originally are now just below the limit, and must close their doors. Replacing these, in turn, by more efficient enterprises, if such could be found, would topple still more of the weaker producers. An excessively high survival limit is a very serious economic handicap that cannot be evaded.
On the other hand, the higher we can keep the survival limit the greater the efficiency of our productive organization, and the more goods we are able to produce per unit of labor actually employed. This is not speculation or assumption; it is a direct mathematical relation. Since we have a fixed distribution of efficiencies to start with, the more we eliminate from the bottom of the list the higher we raise the average efficiency of the remainder. If we drop the survival limit too low we permit many inefficient producers to continue operations when for the good of the community they should be forced to give way to others who could make more effective use of the same labor and capital facilities. The optimum condition exists when the survival limit is just low enough so that alternative work can be found for anyone whose job is lost due to the inability of his employer to meet the minimum productivity requirements. Setting it any lower would sacrifice production because of inefficiency; putting it higher would lose production because of unemployment.
PRINCIPLE V: The optimum survival limit is the highest level at which full primary employment can be maintained.
We can now see why it is that mass unemployment has been a by-product of our modern industrial economy, and why it exists side by side with the highest degree of technological and managerial efficiency. As long as production is carried on primarily by the self-employed, when individual farmers produce the raw materials, the butcher, the baker, and the candlestick maker prepare them for use, and the small shopkeeper distributes the finished products to the consumers, the survival limit is low. Only taxes, rent, and interest on a relatively small amount of borrowed capital are fixed elements of production price. The worker must get enough to live on, but aside from this qualification, wages, the preponderant item in the total cost, are free to conform to market conditions. The cobbler, in his capacity as a workman, never tells himself, in his capacity as a producer, that he will close down the shop with a picket line before he will accept anything under the union scale. He may meet hardship when conditions are adverse, but not unemployment.
But we of the present day, not recognizing the fundamental principles that are involved, go merrily on our way raising the survival limit higher and higher by one measure after another. We increase the use of capital in our productive activities and finance our enterprises by more and more bonds, the most inflexible of all credit instruments; we establish wage scales in the most efficient and prosperous establishments and we force the weaker producers to conform, we continue imposing more and higher taxes on business; we pass minimum wage laws in the fatuous belief that we are placing a “floor” under purchasing power. Then when all of these actions have raised the survival limit to the point where a substantial proportion of our business enterprises have been forced to close their doors, and their former employees are walking the streets, we cap the climax by pushing the limit up still farther through additional taxation in order that we may raise money to keep these victims of our mistakes busy on leaf raking. And when this has the inevitable result of taking us from bad to worse, the standard remedies that are proposed are further increases in minimum wage rates, more aid to the unions in the enforcement of rigid wage scales, still higher business taxes, and bigger and better programs of leaf raking.
The effect of the increase that has taken place in the survival limit in the last few decades stands out clearly when the business statistics covering this period are reviewed. In addition to the booms and recessions of earlier eras, we now have chronic troubles of a different, but related, character. Booms and recessions due to the influence of the money and credit reservoirs on the purchasing power stream are consistent in their effects on the various segments of the economy. In a boom all groups are prosperous; in a recession all share in the losses. When business is booming employment is at a peak, wages are high, the leading business enterprises make substantial profits, and the less efficient producers at least manage to make both ends meet. In a depression the entire situation is reversed. Employment is low, wages drop to some extent, even the strongest and most efficient firms see their profits dwindling away, and the weaker concerns fall by the wayside.
But we now frequently find ourselves in a situation in which there is no consistent pattern at all. Just before World War II, for example, we were not having “good times” or “bad times” or any recognizable intermediate stage between the two. In reality there was prosperity for some and depression for others. To the worker who was actually employed the times were good, for his wages were higher than ever before, but for the eight million who were without jobs the depression was still in full bloom. The conspicuously well managed giants of the business world—General Motors, General Electric, Woolworth, etc.—and their smaller counterparts in every corner of the nation enjoyed a record volume of business and earned profits on a par with those of the boom year of 1929. But at the same time the going was rocky for the new enterprise, the inadequately financed concern, and the business whose management was not up to the general average. As a result, the vital statistics of business indicated an unhealthy trend: mortality was high and births of new enterprises were below normal.
The principle of the survival limit furnishes an explanation for this apparent anomaly. In a depression the fall of the price level and the consequent decrease in income from the sale of goods affects all producers, large or small, efficient or inefficient. Good earnings are reduced to poor earnings, poor earnings are reduced to losses, and losses become bankruptcies. But a situation created by an excessively high survival limit is quite different from a depression. An increase in the survival limit means nothing to the more efficient concerns; it affects only those whose income is substantially below average. The superior enterprise is not disturbed when wages are established on the basis of the conditions existing in the more prosperous firms and then forcibly applied to the industry as a whole. It is only those in less fortunate circumstances that suffer. Perhaps the plight of these particular producers may not arouse any widespread sympathy. After all, they went into business knowing that there were risks involved, and their difficulties are, at least in part, chargeable to their own shortcomings. But the issue that we are discussing is not a matter of being lenient with these less efficient producers; our concern is with the general operation of the economy. Whether we sympathize with the laggards or not, we must take some action to keep a certain proportion of them in business if we are to have full employment. We cannot liquidate the producers and still have the jobs.
A disturbing feature of the present situation is that ever since the strong trend toward increased rigidity of the production price structure got under way during the 1930 depression, the rise in the survival limit has been concealed by an almost continuous inflation. Just as soon as the inflationary effect of one war began to subside to some extent, we entered another. Unless some corrective action is taken, it is therefore not unlikely that the full force of the changes that have taken place during the last forty years will strike suddenly when some economic dislocation occurs. Obviously, the time to take some effective countermeasures is now, when we are getting what amounts to a stern warning, before we get into very serious trouble. The trend toward an ever increasing survival limit must be reversed.
In view of the direct relation between the survival limit and productive efficiency, complete abolition of the limit is highly undesirable. What we want is full employment at maximum productivity. There is no sound reason why we should be willing to settle for anything less. In order to reach this goal we must devise a program whereby just the right amount of flexibility can be introduced into the production price structure; that is, we must keep the survival limit at or near the optimum. We must overcome our present difficulties by modifying this limit to the extent necessary to prevent unemployment, not by abolishing it altogether and forfeiting the tremendous productive superiority that characterizes the prevailing American system. Taking the path of least resistance, the socialistic solution of the employment problem, dropping the survival limit to zero, is simply acceptance of defeat in our battle for the highest possible standard of living.
The essential feature of the individual enterprise system is that each producing enterprise must stand on its own feet. Each producer operating under this system must generate enough values to pay wages, general taxes, and all of the capital costs except profits. The profits (and consequently the income taxes) may drop to zero, but unless the remaining costs can be met either from current income or from reserves withheld from past income, the enterprise fails. Rents, interest, and other capital costs (except profits) are almost impossible to modify, under existing conditions. Taxes, with the exception of those applicable to net income, are also fixed items; there is a well-known aphorism that classifies taxes along with death as the only ultimate certainties of human existence. Outside of such flexibility as may exist in wages, the producer has no margin except that provided by profits and income taxes. Where wages are unyielding, the survival limit is equal to average productivity less these two items. Considering the large and inescapable variations in human ability, as well as the many other variable factors that enter into the relative productivity, the margin is very small, and experience shows that it definitely is not adequate to assure full employment.
Now let us look at the practicability of lowering the survival limit to the point where enough of the marginal enterprises will be able to continue operating to provide employment for the entire labor force. How far can we go, and what repercussions will we encounter? So far as the general economy is concerned, any useful production that can be obtained from workers who would otherwise be unemployed is an addition to the total community income, regardless of the amount paid out in wages. But as a practical matter, it is necessary to consider the reaction of those persons who are regularly employed and would have to foot the bills, as well as to ask ourselves if this is the best that we can do. If we put the unemployed on work of low value and pay reasonable wages, we reduce the share of the national production that goes to the regularly employed workers, since they will have to make up the difference between wages paid and values created. Such a program will be highly distasteful to those who bear the burden, and it can hardly be regarded as a satisfactory solution of the employment problem.
It does not follow, however, that a productive efficiency above the existing survival limit is necessarily required to overcome this objection. On the contrary, all well-managed enterprises recognize that when trade is dull and business that will earn a normal profit is not available, rather than shut down part or all of the facilities it pays to look for something that will at least do a little better than take care of the direct costs. The fixed charges and much of the overhead expense go on just the same whether the plant operates or not, and it is good policy to earn a little toward these costs rather than nothing at all. The sub-standard producers bear the same relation to the general economy that this emergency type of business does to the individual producer. Rather than allow workers to be idle when jobs at full productivity are not available, it is profitable to all concerned—the worker, the producer, and the regularly employed public—to permit some sub-standard producers to continue operating and providing jobs as long as they meet the direct costs (wages), even though they contribute little or nothing toward the community “overhead” costs: taxes and capital costs.
The relative amount of other-than-labor cost varies widely from one industry to another and between individual business concerns, but a review of available statistics indicates that it is normally upward of twenty five percent of the direct wage payments. The producer, if left to his own resources, cannot employ labor that is merely self supporting. His employees must be capable of producing, with the facilities and the supervision that he is able to supply, somewhere in the neighborhood of twenty five percent more goods than the equivalent of their wages just to enable him to break even. But to the community at large all costs other than wages are “overhead”; that is, enterprises that fail and cannot be replaced pay no rent, no interest, and no taxes, and when the general economy cannot exact the full twenty five percent overhead charge it will pay to take twenty percent, or ten percent, or no overhead at all, rather than force the workers into idleness and still get nothing.
Even some of the labor cost itself is actually the equivalent of a “fixed” charge against the general economy. We must allow the worker enough to live on whether we find him a job or not. It is safe to say, therefore, that any auxiliary work program designed to take care of those for whom we are unable to find normal jobs is sound if it creates marketable values equal to the difference between the wages paid and the sum that would be necessary to maintain the worker on welfare or on unemployment compensation. The more nearly the values approach those created by normal employment under the prevailing productivity standards the greater the benefit that accrues to the economy as a whole.
Expressing the foregoing in numerical terms, a reduction of approximately fifty percent in the survival limit will give us additional jobs that are less costly to the regularly employed population than maintaining the unemployed workers in idleness, but if we can keep the reduction within twenty five percent we will have auxiliary jobs that are entirely self-supporting.
The next question that naturally arises is whether the potential number of self-supporting jobs is adequate to meet the needs. In order to arrive at an answer to this question it will be necessary to establish the mathematical nature of the relationship between the survival limit and the number of potential jobs. Those who are unfamiliar with mathematical treatment may be skeptical about the feasibility of identifying quantities that do not actually exist at the moment, but this is commonplace. In this case it requires nothing more than a process of interpolation. It is true that the calculations will not have any high degree of accuracy, but this is not due to any lack of precision in the method; it results from the inadequacy of the business statistics that are available. Actually, however, we do not require great accuracy. We do not need an answer that is correct to the last decimal place. All we want to know at the moment is whether a twenty five percent reduction in the survival limit will give us only a very small increase in the number of available jobs, or will give us a relatively large increase approximating the proportionate change in the survival limit itself.
We know from business records that the amount of extremely profitable work, the kind that will produce goods worth five or ten times the labor costs, let us say, is very limited. The amount of work that will produce values equal to two or three times the labor cost is much greater, and as we come still farther down the scale the available work increases rapidly, until, as indicated by the figures previously quoted, there is enough work producing more than approximately 125 percent of the labor cost to take care of all but a small fraction of the workers (when cyclical unemployment is absent). Below the 125 percent productivity level we have no actual data, because the existing rigidities prevent the survival of any enterprise that falls below this limit. We do have one more item of information, however, as we know that there is an infinite amount of work at zero productivity; that is, if we merely look for something to do without requiring that the effort produce anything of value, the field is unlimited.
Since it is evident that the volume-productivity relation is a continuous function below the 125 percent mark as well as above it, the fact that each variable approaches infinity as the other approaches zero indicates that the curve representing the relation between the productivity requirement and the number of available jobs must approximate a hyperbola. The slope of such a curve, irrespective of its exact form, is about 45 degrees in the neighborhood of the principal axis. This means that a reduction of 25 percent in the survival limit will cause an increase in the number of available jobs that will also approximate 25 percent. Inasmuch as the slope of the curve is decreasing, the farther the survival limit is dropped the greater the proportionate gain in the number of jobs that are made available. The special significance of these figures is that between 125 percent productivity (the present approximate limit for continuity of private enterprises) and 100 percent (fully self supporting work) there is a huge reservoir of potential jobs capable of providing self supporting employment to more than a quarter of the working population, if necessary.
The number of self supporting jobs that can be generated by a program of selective lowering of the survival limit is therefore greatly in excess of the requirements, and such a program can stand on its own feet without asking for any contribution from the workers employed on normal jobs. All that is needed to put it into operation and transform a surplus of workers into a surplus of jobs is to make appropriate arrangements to exempt this special employment, to the degree that is necessary, from the normal requirement that all private work must carry its proportionate share of the community overhead expense: capital costs and taxes. This overhead assessment can be waived in application to the extra employment without transferring any of the burden to others, as the idle labor does not contribute toward the overhead costs in any case, and it is immaterial whether this exemption comes as a result of idleness or as a result of a special concession to make the employment of otherwise idle workers possible. Practical means of carrying this policy into effect will be explored in Chapters XI and XII.
Lowering of the survival limit is the only positive and unlimited corrective for unemployment. Every person who is willing and able to work can be provided with a productive job by this means irrespective of the cause of his idleness. Even if business booms and depressions are allowed to persist, an effective control of the survival limit can prevent any impairment of the employment situation. No other measure can do this under any kind of an economic system, for it is mathematically impossible to devise a scheme that will enable producers to continue paying out more than they take in. In order to maintain full employment, in the true and unequivocal sense of the word “full”, we must either arrange some method of modifying the survival limit under our existing individual enterprise system, or we must reverse the wheels of progress and turn to some subsidized “made work” program or to a socialistic economic system, either of which drops the limit to zero, with the inevitable accompaniment of drastically reduced productive efficiency.
The same concern for keeping the productivity of the economy at the highest feasible level which logically dictates choosing the first of the foregoing alternatives also requires that we restrict the modification of the survival limit to a minimum, since any such action does involve some decrease in productivity. It is therefore essential that effective and efficient facilities be provided for placing workers in the jobs that are available, or can be made available, in normal fully profitable employment. Otherwise the survival limit will have to be lowered an additional amount to compensate for the inefficiency of the job placement organization. Appropriate measures for improvement of present policies in this area will be discussed in Chapter X.