I want to thank Jared Bernstein for giving me the opportunity to participate in this discussion of his new book, Crunch: Why Do I Feel So Squeezed? (And Other Unsolved Economic Mysteries). The book undertakes the challenging, but critically important, task of communicating basic economic ideas to a broad audience and discusses a wide range of important issues. While I don’t agree with everything in the book, it is thought-provoking and makes many good points.

In this post, I’ll comment on the basic principles of Crunch-style economics that Jared mentions in his first post and in the introduction to the book, reserving more specific discussion for future posts.

In his first basic principle, Jared says that it is “generally thought” that economic outcomes are “fair” because “market forces dole out awards to those who merit them,” but notes that this is “not always the case” and that power helps determine the distribution of awards.

I am not sure what this principle means, primarily because the term “merit” is ambiguous. I assume that “merit” does not refer to moral virtue; it is not “generally thought” that market forces deliver incomes proportional to moral virtue, since it is patently obvious that they cannot and should not do any such thing.

Instead, I assume that “merit” refers to marginal productivity or some similar concept. Under this interpretation, the principle’s factual assertions are largely correct. It may indeed be “generally thought” that markets link economic rewards to marginal productivity as the textbooks suggest and markets indeed do not always do this, often due to some type of power. For example, employer bargaining power may drive workers’ wages below their marginal product or union power may drive wages above marginal product.

I doubt, however, that this interpretation of the principle really captures Jared’s underlying attitudes about the economy. Is the source of his concern really the imperfect linkage between market rewards and productivity? He repeatedly notes that cash wages have been growing more slowly than average labor productivity (although that example raises some issues that I will try to discuss in later posts). But, I doubt that he would be nearly so concerned if cash wages were growing more rapidly than labor productivity. In many places in the book, he warns against excessive inequality without any reference to whether such inequality corresponds to differences in marginal productivity. And, his concern about the deteriorating prospects for low-skilled workers would surely not be assuaged if it could be demonstrated that their sagging wages are linked to a decline in their marginal productivity (as may well be true).

In short, I think it’s misleading for Jared to contend that he wants economic rewards linked more closely to marginal productivity or some type of economic “merit” when he is really seeking a more egalitarian distribution of rewards. I do not quarrel with his desire to reduce inequality, particularly since he recognizes the limits on the extent to which that desire can be fulfilled. But, I think his discussion of “merit” does not convey his actual concerns.

In his second basic principle, Jared states that economic relationships may play out in ways that contradict basic logic and textbook theory and that we should look at evidence of how things actually work. That’s clearly correct, but conclusive evidence of how things actually work is often unavailable. When empirical evidence is inconclusive, it is usually prudent to assume that basic logic and textbook theory hold.

This issue is particularly important in discussions of the economic effects of incentives on behavior. In many cases, it is hard to statistically identify the effects of incentives, because of the numerous other factors that affect behavior and the subtle ways in which incentives can operate. It would be wrong to assume that incentives don’t matter, simply because we have trouble identifying the effects.

Jared recognizes the impact of incentives at a number of places in the book. He acknowledges that minimum-wage and living-wage laws can cause some job loss while (correctly) stating that the job losses are not likely to be large. He also notes that out-of-pocket prices influence the consumption of medical care.

In other places, however, he is quite cavalier about incentives. On page 107, he states, “I know all the mumbo-jumbo about cutting [rich people’s] taxes, so that they’ll be more productive, but that supply-side nonsense has no credibility.” That statement is far too dismissive of the statistical and theoretical evidence that tax cuts do affect incentives. A belief in the power of marginal tax rates to alter behavior is hardly “supply-side nonsense.” (Of course, the notion that tax cuts generally raise revenue is supply-side nonsense, but that’s a different matter.)

We can all enthusiastically agree with Jared’s third basic principle, the inescapable presence of tradeoffs. While the existence of tradeoffs is the heart and soul of economics, it is often overlooked in popular and political discussion. Jared rightly criticizes Republicans for ignoring the budgetary tradeoffs of the tax cuts that they pose, but he could have been more forceful in making the same point about Democrats’ spending proposals. One item that is missing from his policy agenda is a pay-go budget rule or some other device that would impose fiscal discipline on tax cutters and spenders alike.

I look forward to further discussion of the important issues raised by this book.