The Lump Of Labor And Yet More Economic Fallacies

Yesterday, we discussed two common economic fallacies:  that immigration causes unemployment and war is good for the economy.  Today, we will discuss two more:  the lump of labor fallacy and the idea that tax cuts encourage people to work harder (and vice versa, that raising taxes encourages them to work less).

Fallacy:  The Lump Of Labor

The lump of labor fallacy was originally formulated to refute the idea, popular during the Hoover administration, that restricting the hours workers were allowed to work would decrease unemployment.  The goal, according to the theory, was that the hours made available by restricting hours worked by the employed would accrue to the unemployed, decreasing the unemployment rate.  The average per-person salary would go down, of course, but at least the wages would be spread around more equally.  Or so the theory went.

The reality is that in the real world, there is a high degree of overhead involved in hiring more workers for fewer hours, causing a net drain on productivity and thus the economy.  Thus, Hoover’s strategy actually caused unemployment to increase in spite of his efforts to the contrary.

Nowadays, the term “lump of labor” is used to refer to any fallacy that assumes the amount of labor available for workers (i.e. number of jobs available) is fixed.  JD of Get Rich Slowly actually touched on a version of this fallacy a few days ago with his post Is It Unethical To Work A Second Job?  In it, JD tackles a question from a reader, Nancy, who wonders about the morals of taking a second job after being chastised by a friend that she would be “taking jobs away from somebody who really needs them.”  Of course, Nancy would be doing no such thing and her friend’s reaction is a classic example of a person committing the Lump of Labor fallacy.  That is, the friend is assuming there are only a limited and static number available in the economy and that by taking a second job, Nancy must being “stealing” that second job from somebody else.  The truth is that the number of jobs in an economy is not static and is not limited in principle or practice.  Sure, at any given exact moment in time there are a certain number of jobs, but this number fluctuates by the minute.  Taking a second job is certainly not “taking” a job from somebody else, an idea that is is no more true than the idea that immigration causes unemployment.  It isn’t, and it doesn’t.

Fallacy:  Tax Cuts Encourage People To Work Harder

This fallacy is so popular mainly because it makes so much sense on the surface.  According to the Laffer curve, there is an optimal tax rate that maximizes government revenue.  The theory is that cutting taxes will encourage people to work more, hence growing the economy at a faster rate and eventually tax revenue as well.  The theory works pretty well when tax rates are extremely high.  For example, if the top tax rate starts at 90% and gets lowered to 70%, people probably will be encouraged to work more.  Once tax rates are below a certain threshold, however, the law of diminishing returns kicked in.  The benefit of going from 70% to 50% is nowhere near as great as the initial move from 90% to 70% and the benefit of going down to 30% is barely even measurable, etc.

The fact is that real-world behaviour doesn’t conform to the theory.  In real life, most people have income goals and work hard to achieve them; however, once they are earning an amount of money they deem acceptable, the prospect of more work, even for more money, becomes increasingly less attractive for reasons having absolutely nothing to do with tax rates.  Empirical evidence in both the U.S. and U.K. show there is very little if any effect on the nation’s willingness to work for cutting taxes.

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