Supply Constraints and Short-Term Employment Functions: A Comment

Supply Constraints and Short-Term Employment Functions: A CommentAuthor(s): Barry HughesSource: The Review of Economics and Statistics, Vol. 53, No. 4 (Nov., 1971), pp. 393-397Published by: The MIT PressStable URL: http://www.jstor.org/stable/1928745 .

Accessed: 24/06/2014 23:16

Your use of the JSTOR archive indicates your acceptance of the Terms & Conditions of Use, available at .http://www.jstor.org/page/info/about/policies/terms.jsp

.JSTOR is a not-for-profit service that helps scholars, researchers, and students discover, use, and build upon a wide range ofcontent in a trusted digital archive. We use information technology and tools to increase productivity and facilitate new formsof scholarship. For more information about JSTOR, please contact [email protected].

.

The MIT Press is collaborating with JSTOR to digitize, preserve and extend access to The Review ofEconomics and Statistics.

http://www.jstor.org

This content downloaded from 91.229.229.177 on Tue, 24 Jun 2014 23:16:45 PMAll use subject to JSTOR Terms and Conditions

http://www.jstor.org/action/showPublisher?publisherCode=mitpress

http://www.jstor.org/stable/1928745?origin=JSTOR-pdf

http://www.jstor.org/page/info/about/policies/terms.jsp


NOTES 393

SUPPLY CONSTRAINTS AND SHORT-TERM EMPLOYMENT FUNCTIONS: A COMMENT

Barry Hughes *

In specifying their version of short-term-employment functions Frank Brechling and Peter O'Brien [1, p. 2781 list first the assumption that "the ob- served level of employment in manufacturing is assumed to be demand-determined. Supply constraints are either entirely absent or quantitatively unimportant." The model is then completed on the basis of the further assumptions of (1) a production function, (2) a cost-minimisation process designed to indicate the optimal equilibrium mix of the two dimensions of labour input, the number of men em- ployed and average hours worked, (3) an employment-adjustment assertion applicable to disequilib- rium periods indicating the proportion (1-a3) of the logarithmic gap between desired and actual employment eliminated each quarter.

The resulting estimating equation relates the current employment stock to output, lagged employment and a time trend (a portmanteau variable intended to cover changes in the capital stock, technology, standard hours and overtime premia).

AMany of these short-term employment functions have been estimated successfully in recent years with most being similar in form to the Brechling- O'Brien version.1 Nevertheless it is important to ascertain whether the underlying premise of absence or triviality of supply constraints is, in fact, valid. As Brechling and O'Brien state 11, p. 278] "if supply constraints are important, [the] basic estimating equations may not be meaningless, but the interpretation of the regression coefficients then becomes more complex." For example, a relatively low speed of employment adjustment may be due to hesitation on the demand side (e.g., as a result of uncertain future production) or to difficulties in recruiting workers or to some mixture of both factors.

Brechling and O'Brien test for the presence of supply constraints in an international comparison of

their estimates. They conclude l 1, p. 2831 that 'there does not seem to be a strong relationship between the adjustment coefficient (1 - a:3) and the level of unemployment," the latter being measured by averages of annual unemployment rates for each country considered over the period 1953-1960. Two Spearman rank correlation coefficients were comn- puted, one for a sample of eight countries, and the other for a sample which included an additional four countries, the international comparability of whose unemployment series was considered subject to serious doubt. The former coefficient was 0.071 and the latter 0.161, neither being anywhere near significance at acceptable levels. The scatter diagrams for these two samples are shown in diagrams 1 and 2. Although Brechling and O'Brien are at pains to point out the imperfections of their unemployment data, the impression that seems likely to have been gained from their work is that supply constraints were not important in the sample covered.2

It is the purpose of this comment to suggest that Brechling and O'Brien's unemployment series are subject to two important defects, and that when these are remedied the evidence indicates the presence of supply constraints in the sample. The two defects are:

(1) The time periods of adjustment coefficients on the one hand and unemployment averages on the other are different. The adjustment coefficients cover experience from roughly 1953 to 1964, though in the case of Austria the time period is 1956 to 1964. As stated previously, unemployment rates are averages from 1953 to 1960. Unemployment experience in the 1960's was not necessarily similar to that in the 1950's, Germany being the obvious example.

(2) Brechling and O'Brien's choice of 1953- 1960 unemployment averages was dictated by the availability of Angus Maddison's [4] set of unemployment rates, roughly adjusted for international comparability on the basis of population cen- sus results. Since Maddison's estimates were con- structed, additional material has become available, principally from the United States Bureau of Labor Statistics and the Statistical Office of the Euro-

* I am very grateful for the help of the U.S. Bureau of Labor Statistics (BLS) through the person of Mrs. Con- stance Sorrentino of the Office of Productivity and Tech- nology in connection with unemployment adjustments and for bringing [3] to my attention. Though I have attempted to base my adjusted unemployment rates on those published by the BLS, any errors are my responsibility. In particular the data, except where stated, should not be interpreted as being sanctioned by the BLS. The note was written as a result of a conversation with Professor David Smyth of Claremont Graduate School. He too is covered by the usual disclaimer. Advice received from the referee was also helpful.

'A convenient review is provided by Ray C. Fair [2].

2 It is worth noting, however, that their sample did indicate a negative association between the relative size of the manufacturing sector and the speed of adjustment, which can be given an interpretation in terms of supply constraints.



394 THE REVIEWX OF ECONOMICS AND STATISTICS

pean Economic Community, which allows more reliable estimates of internationally comparable unemployment rates. These reveal some differences compared with Aladdison's figures, particularly in the case of Belgium.

The basic statistics of the group of nations discussed here have been collected by quite different statisticians, who have chosen to deal with specific details of the definition of unemployment in different ways. NlIoreover, these problems are compound- ed by the fact that some countries' unemployment statistics are obtained from sample surveys especial- ly designed for the purpose, while others are the by-products of operations established for other purposes, such as registrations for placement in employment or for administration of unemployment relief. These latter frequently deal with less than the full work force.'

A number of attempts have been made to adjust officially published figures to remove purely statistical differences. Of these, the most compre- hensive and detailed adjustments have been made by the U.S. Bureau of Labor Statistics, and their studies form the main basis for the information presented here. For 1959 and later years (1961 in the case of Sweden) the BLS has published [5, 6, 7, 8] roughly comparable unemployment rates, adjusted to United States definitions, for seven (United States, Canada, Britain, Italy, Sweden, Germany and France) of Brechling and O'Brien's sample of

twelve countries. These adjusted statistics are based on labour force sample surveys conducted in the countries concerned. For 1953 to 1958, generally the years for which BLS data are not available, an attempt has been made to provide adjusted unemployment rates for these seven countries on the same basis as those of the BLS. The method adopted has been to compare the published and BLS adjusted unemployment rates, the difference noted being used to adjust the officially published figures for the 1950's. The results are reproduced in table 1 and brief details of the adjustments are given in the appendix.

Table 1 also features adjusted unemployment rates for three other countries, - Australia, Bel- gium and the Netherlands. The Australian adjustments are based on a quarterly sample survey of the labour force available from 1964 onwards. The

Australian survey, with one or two minor exceptions, is identical to the United States survey, and it has been assumed to provide figures comparable with those of the United States. For earlier years the officially published figures, based on a registration series, have been adjusted on the basis of the 1964- 1970 average relationship between the registration

TABLE 2. - AVERAGE UNEMPLOYMENT

AND SPEED OF ADJUSTMENT

Country U a:3

United States 5.18 .590 Canada 5.28 .510 Italy 6.16 .502 Germany 1.99 .164 Sweden 2.00 .285 France 2.2 9 .211 U.K. 2.62 .219 Australia 2.09 .2 96 Belgium 2.89 .191 Netherlands 1.41 .265

Source: U from table 1; (1-a3) from Brechling and O'Brien [1] and Smyth and Ireland [9].

TABLE 1.- ADJUSTED UNEMPLOYMENT RATES

Year U.S. Canada Italy Germany Sweden France U.K. Australia Belgium Netherlands

1953 2.9 3.0 8.9 5.0 1.8 3.2 2.4 5.1 2.5 1954 5.5 4.6 9.1 4.7 1.6 3.2 2.0 4.7 1.9 1955 4.4 4.4 7.9 3.4 1.6 2.9 1.7 3.3 1.3 1956 4.1 3.4 9.7 2.7 2.3 2.2 1.9 2.5 0.9 1957 4.3 4.6 8.3 2.3 2.4 1.6 2.2 2.1 1.2 1958 6.8 7.1 7.4 2.0 3.1 1.9 3.1 2.1 3.0 2.3 1959 5.5 6.0 5.7 1.6 2.6 2.6 3.3 2.1 3.5 1.8 1960 5.5 7.0 4.3 0.7 2.0 2.5 2.5 1.6 3.0 1.2 1961 6.7 7.1 3.7 0.4 1.8 1.9 2.3 3.0 2.4 0.9 1962 5.5 5.9 3.2 0.4 1.5 1.8 3.2 2.9 1.3 0.8 1963 5.7 5.5 2.7 0.4 1.7 2.1 4.0 2.3 0.9 0.7 1964 5.2 4.7 3.0 0.3 1.6 1.6 2.8 1.4 1965 1.3

Source: See appendix.

3It does not follow, however, that unemployment rates are necessarily higher on a sample survey basis than on others. In some cases, e.g., Britain and Australia, it seems clear that the registration system misses groups of workers with higher than average unemployment incidence. But in other countries, such as Belgium, the groups excluded from the official registration figures, such as civil servants, rail- way employees and apprentices, appear to have lower than average unemployment incidence. The common belief that sample surveys produce higher unemployment rates than registration series is therefore not generally correct.



NOTES 395

UNEMPLOYMENT AND SPEEDS OF ADJUSTMENT

USING MADDISON'S DATA

DIAGRAM 1 DIAGRAM 2

U 8 U8

ITALY 7 7

6 6

5 ~~~~~IRE. 5B U..G S 5 *B *C U.S.

4 4

3 .G 3.G

. U.K. . U.K.

2 AUSTRIA S 2 S . NETH. * NETH.

NOR.

. I .2 .3 .4 .5 .6 .1 .2 .3 .4 .5 .6

(I-a3) (1-03)

USING "BLS-ADJUSTED" DATA

DIAGRAM 3 DIAGRAM 4

Ui 6sITALY ITALY

6 6 c .U.S. 5 * . US.

4 4

B .U.K. *~~~~~~~~~~~U.K.

ovF AUST'LIA *F 2 -G :S 2 *G * S

*NETH.

, , I I. I I I

.1 .2 .3 .4 .5 .6 .I .2 .3 .4 .5 .6

(I - C.3) (- az)

series and the labour force sample survey. The adjustments to the Belgian and Dutch data are based on two sample surveys conducted in October 1960 and Spring 1968 by the Statistical Office of the European Economic Community [10, 11], the

definitions for which appear to be quite similar to United States concepts. Once again brief details of the adjustments may be found in the appendix. Unfortunately, adjustments could not be made on any reliable basis for Norway, Austria and Ireland.



396 THE REVIEW OF ECONOMICS AND STATISTICS

Speed of adjustment coefficients (1 -a; ) obtained by Brechling and O'Brien 1 ] l for nine of the twelve countries in their sample are reproduced in table 2. In addition a similar coefficient for Aus- tralian manufacturing, obtained by Smyth and Ire- land .[9 1 from an identical estimating equation, is included. Alongside each country's speed of adjustment coefficient is the arithmetic average of the adjusted unemployment rates shown for that country in table 1, the average being calculated in most cases over the period 1953-1964. The exceptions

Australia (1958-1965), Belgium and the Nether- lands (both 1953-1963) - were dictated by differences in the periods over which the short-term- employment functions were estimated. These data are also displayed in scatter diagrams 3 and 4.

Brechling and O'Brien tested for the presence of supply constraints by means of Spearman rank

correlation coefficients between U and 1 -a.,. As noted above, their coefficients, calculated separately for two groups of countries, proved to be clearly in-

significant. However, when the revised U data presented in this note are used, albeit for somewhat different groups of countries, the picture changes dramatically.

For the complete group of ten countries the Spear- man coefficient is 0.54, which just misses significance at the 5 per cent level. Moreover, when the sample is restricted to the group of countries for which actual BLS adjustments are made, i.e., excluding Australia, Belgium and the Netherlands, the coefficient rises to 0.75. This is clearly significant at the 5 per cent level.

As can be seen from table 2 (or diagram 3) the rank of some countries is quite sensitive to minor changes in the data, while a large gap exists be-

tween third and fourth rank in both the U and (1-a:j) columns. Since some measurement error is almost certain to be included in the data and other relevant influences, including the extent to which unemployment can serve as an indicator of supply constraints, have been omitted, two additional tests of the supply constraints hypothesis have been conducted. Firstly, simple correlation coefficients for the group of ten and seven countries are 0.87 and 0.93, respectively. Both coefficients are significant at the one per cent level. Secondly, since the group of ten countries divides clearly into two groups of high and low unemployment countries, a Mtest was run on the significance of the difference between the ( 1-a:i) means for the two groups. The t-statistic is 8.80, which is significant at the 0.001 level on a two-tailed test. These tests suggest that supply constraints cannot be dismissed in the formulation of short-term-employment func-

tions for most countries near the high-employment zone.4

APPENDIX:

Adjusted Unemployment Rates The adjustments have been based mainly on [7].

With the exception of some slight differences among countries in minimum school-leaving age, the BLS has attempted to render all countries' statistics consistent with the United States definitions introduced in 1967. Space limitations allow only brief details of the other

REFERENCES

[1] Brechling, F. P. R., and P. O'Brien, "Short-Run Employment Functions in Manufacturing Indus- try: An International Comparison," this REVIEW, XLIX (Aug. 1967), 277-287.

[2] Fair. R. C., The Short-Run Demand for Workers and Hours (Amsterdam: North-Holland Publish- ing Company, 1969).

[3] Flanagan, R. J., "A Study of International Dif- ferences in Phillips Curves," unpublished Ph.D. dissertation, University of California, Berkeley, 1970. appendix A, 29-38.

[4] Maddison, A., Economic Growth in the zest, (New York: W. XV. Norton and Company, Inc. 1964).

[5] Neef, A. F., "International Unemployment Rates 1960-64," Monthly Labor Review (Mar. 1965), 256-2 59.

[6] and R. A. Holland, "Comparative Unem- ployment Rates, 1964-66," Monthly Labor Re- view (Apr. 1967), 18-20.

[7] Sorrentino, C., "Unemployment in the United States and Seven Foreign Countries," Monthly Labor Review (Sept. 1970), 12-23.

[8] President's Committee to Appraise Employment and Unemployment Statistics, Measuring Em- ployment and Unemployment, Washington, 1962, appendix A.

[9] Smyth, D. J. and N. J. Ireland, "Short-Term Em- ployment Functions in Australian Manufacturing," this REVIEW, XLIX (Nov. 1967), 537-544.

[10] Statistical Office of the European Economic Com- munity, A Labour Force Sample Survey of the Countries in the European Economic Community, Brussels, 1963.

[11] - , "Population et Forces de Travail 1968"' Statistiques Sociales (no. 6 1969), Brussels.

4Brechling and O'Brien's unemployment averages were also correlated positively with the output coefficient (the reciprocal of returns to labour) and negatively with the time trend cofficient. With the revised unemployment data the rank coefficients at 0.10 and -0.03, respectively are not significant.



NOTES 397

unemployment rates quoted in table 1; however, a full- er statement is available on request from the author. The United Kingdom figures for 1960 onward are based on a letter to the author (dated 28/1/71) revising [7]. For earlier years the official statistics have been raised by a percentage based on the revised BLS information. Percentage adjustments have also been made to the French (Institut National de la Statistique et des Etudes Economiques) and German (registration series from the ILO Yearbook of Labour Statistics) figures in similar fashion, except that the 1958 German figure was sup- plied by the BLS. The Swedish figures for 1953-1961 come from [3]. The Italian figures for 1954-1958 are based on the irregular ISTAT surveys adjusted for sea-

sonality and for comparability with United States definitions (the latter on an absolute basis) on the basis of experience since 1959. The 1953 figure, for reasons described in the supplementary statement, is the average for 1954-1956. The Australian unemployment rates for 1964 and 1965 are those of the Commonwealth Statistician, while those for 1958-1963 are based on an upward percentage adjustment of the Department of Labour and National Service's registration series. The Belgian figures throughout are based on the percentage reductions indicated by [10] and [11]. The Dutch rates are those contained in the ILO Yearbook, since [10] and [11] indicated slight adjustments in conflict- ing directions.

ADVERTISING AND PROFITABILITY

Roger Sherman and Robert Tollison *

.Much current empirical work in industrial or- ganization rests on a paradigm that has two main links: (i) determinants of market structure variables, and (ii) effects of market structure variables on behavior. For example, technological determinants of concentration and entry barriers have been associated in turn with high profitability [2, 16]. Advertising does not fit into this paradigm neatly, for it appears as both an aspect of industry behavior and a determinant of market structure as well [2, 6, 30 ]. Indeed, exactly how advertising is connected to market structure measures has been a subject of controversy [6, 8, 17, 25, 27]. If advertising is accepted as an independent market structure variable it is a very important one, because it has been linked strongly to high profitability [6]. But we shall argue that advertising is not a genuine independent variable; it depends on technological factors and prices, which determine the variability of total cost with output in the short run.

The variability of total cost with short-run output was captured nicely in Lerner's "measure of mo- nopoly power" [ 15], which equals price minus marginal cost all divided by price. Total cost varies more as marginal cost is higher. At a profit maxi- mizing equilibrium for the firm, such cost variability also can be linked to both the marginal product of advertising and the price elasticity of demand. If some additional reasonable conditions hold, measures of advertising and cost variability will be related across industries. And cost variability is

given by technology, so it seems more apt to be the determinant of advertising than to be determined by it. But cost variability is not related to advertising alone. It also is related to profit when uncer- tainty is present, through an effect it has on the variance of profit. So cost variability can explain both advertising and profit, and its omission from any study of a relation between them could lead to faulty conclusions. Since cost variability can be represented empirically, these implications need not go untested for lack of data. Here, after we review reasons why cost variability will affect both advertising and profitability, we investigate the relation- ships empirically. We find that cost variability rather than advertising is a determinant of profit- rates in consumer goods industries, and in other industries as well.

Cost Variability as Determinant of Advertising

and Profitability

By solving jointly for an optimal advertising budget as well as an optimal price, Dorfman and Steiner [7] illustrated interdependence among the firm's decision variables. They made the quantity that a firm could sell per unit time, q, a function of its price, p, and its advertising budget, s:

q f (p,s). With f (p, s) assumed continuous and differentiable, Dorfman and Steiner showed that at an equilibrium for the firm its marginal value product of advertising, a, would equal (the negative of) its price elasticity of demand, -71, which would also equal the cost ratio, pj (p - MC), where MC represents marginal cost. The same relation was discussed

* The authors thank William S. Comanor, Bennett T. McCallum, and Dennis C. Mueller for discussion and com- ments on earlier drafts. Financial support received from the Wilson Gee Institute for Research in the Social Sci- ences at the University of Virginia, and a Faculty Research grant from Cornell University.



Supply Constraints and Short-Term Employment Functions: A Comment

Documents

Transcript of Supply Constraints and Short-Term Employment Functions: A Comment