Insiders, Outsiders and Unemployment
From today's NYTimes:
The Obama administration is planning to use the government’s enormous buying power to prod private companies to improve wages and benefits for millions of workers, according to White House officials and several interest groups briefed on the plan….
Because nearly one in four workers is employed by companies that have contracts with the federal government, administration officials see the plan as a way to shape social policy and lift more families into the middle class.
At a time of 10% unemployment when real wages need to fall this is bad business cycle policy. I am more worried, however, about the long term consequences of creating a dual labor market in which insiders with government or government-connected jobs are highly paid and secure while outsiders face high unemployment rates, low wages and part-time work without a career path.
Long-term unemployment is at shockingly high levels which in itself creates a dynamic of persistence because the longer a worker is unemployed the less employable they become (in part due to loss of human capital and signaling problems). Thus, getting these workers back to work is going to be hard enough as it is. Labor regulations which raise wages and make hiring and firing workers even more costly will make re-employing the long-term unemployed even more difficult.
Moreover, once an economy is in the insider-outsider equilibrium it's very difficult to get out because insiders fear that they will lose their privileges with a deregulated labor market and outsiders focus their political energy not on deregulating the labor market but on becoming insiders–see Blanchard and Summers on hysteresis in unemployment and more recently Larry Ball here. Many European economies found themselves stuck in the insider-outsider equilibrium and as a result unemployment levels in places like France and Italy hovered at 9% or more for decades.
Addendum: For a personal perspective see also Eric Raymond today in a post titled Marginal Devolution. Hat tip on the latter to Arnold Kling who also comments.