Why Politicians Can't Create Real Jobs

A few tweaks in the tax code can’t overcome powerful economic forces.

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The history of recessions offers some unwelcome news for all those in Washington who think they have the power to boost hiring.

Jobs used to return quickly after recessions. After the downturn that ended in 1975, it took only two months for the unemployment rate to peak and then start falling. In 1982, unemployment peaked the very same month that the recession ended and then dropped as sharply as it had risen. That was when the U.S. economy was less globalized and more self-contained. Foreign companies found it difficult to compete with American ones. When recessions ended, things went back to normal and many employers simply rehired the people they had laid off.

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That's not how it works anymore. After the 1991 recession, it took 15 months for the unemployment rate to peak and net job growth to resume. After the 2001 recession, it took 19 months. Technology is one reason; it allows firms to be more productive with fewer workers and put off hiring once a recovery begins. Globalization also allows firms to replace expensive American workers with cheaper ones overseas, and there's no better pretext for paring labor costs than a grueling recession.

Jobless recoveries are now the norm. And that's what we're in right now. The official arbiters haven't yet declared when (or if) the recession has technically ended, but many economists date the end of the recession to around August 2009. The economy is growing again, following the steepest decline since the Depression—but it's not adding new jobs. And the recent recession was obviously far worse than the fairly mild ones in 1991 and 2001. So the politicians are on the case, with plans to spend billions more to encourage firms to start hiring.

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The general idea is that business-tax breaks specifically linked to new hires will lower the cost of adding employees, so more firms will boost their payrolls. To be fair, it might have some effect. Moody's Economy.com estimates that an aggressive jobs program could help create a maximum of 727,000 jobs, while a more modest effort could create up to 250,000 jobs. But even the most optimistic outcome would be a drop in an ocean of unemployed, amounting to less than 10 percent of the 8.4 million jobs lost since the recession began. And it could be much less effective than that, since job-based tax credits are uncommon and unproven.

One approach is to forgive $5,000 worth of payroll taxes for every new hire, which doesn't add up to much for a typical company. Think of it this way: If the average worker costs about $50,000 per year in pay and those ever costlier benefits, the tax credit would (temporarily) lower the payroll cost of a new employee by 10 percent. When was the last time a 10 percent discount persuaded you to buy something you wouldn't have purchased otherwise?

It's also worth reviewing the trillions that have already been spent to aid the economy—leaving unemployment close to 10 percent. The first stimulus package, now forgotten, was a $168 billion tax rebate President Bush signed in 2008. That was supposed to boost consumer spending, and thus jobs, by putting some extra cash into consumers' pockets. It ended up being as effective as an umbrella in a hurricane.

The following year came the $787 billion Obama stimulus plan, which aimed to create or save 3.5 million jobs through a combination of tax cuts and government spending. The White House says it has nearly accomplished that, though others think the claim is wildly inflated. Whatever the number of jobs, they may disappear anyway once the stimulus money runs out. Many are teaching, public-service, or construction jobs funded by state governments, and states are in desperate shape; as federal aid recedes, they'll be forced to cut.

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Then there were the bank bailouts and other measures meant to stabilize the financial markets, stimulate lending, and … create jobs. They did help stabilize the markets, but the buck stopped there. Lending remains far from normal—one of the biggest drags on economic growth—and firms that can't get loans aren't likely to hire.

There's also a misperception that Washington can somehow control the overall direction of the economy through a few tweaks in the tax code. Not even close. For the economy to get back on track, hiring needs to resume in the industries with the most jobs, and many of them—such as housing, construction, real estate, retail, and even financial services—seem to be in the midst of long-term contraction. No business is going to ramp up hiring if revenue is falling and there's no pickup in sight, regardless of the tax savings.

Other industries are subject to transformative forces far stronger than any counterforces the government can mount. The manufacturing sector has lost 2.2 million jobs since 2007, for example, and many of those are probably gone for good, outsourced to cheaper countries or replaced by technology, producing corporate savings that far outstrip any tax credit.

Obama also wants to keep investing government money in futuristic fields like clean energy and green technology, which is probably smart, but the payoff will be relatively modest. "These industries are too small to create the millions of jobs that are needed right away," write James Manyika and Byron Auguste of the McKinsey Global Institute. They point out that the clean-tech industry—things like wind turbines and solar panels—accounts for just 0.6 percent of the U.S. workforce. Two other high-wage industries targeted for growth—semiconductors and biotech—add up to less than 1 percent of the workforce. Growth in those industries does generate a collateral gain elsewhere in the economy but not nearly enough to correct a massive unemployment problem.

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Obama tacitly acknowledges that there's not much more the government can do about jobs. The president's 2010 economic report contains dreadful projections about the labor market, predicting that the unemployment rate will average 10 percent this year, 9.2 percent in 2011, and 8.2 percent in 2012. That portends a stark, sustained drop in living standards for many Americans. And, hope being audacious, every White House leans toward rosy economic projections. Moody's Economy.com predicts that unemployment will peak at close to 11 percent this year, and some economists see it going higher than that. The politicians might get credit for trying, if they're lucky, but they're just about out of tricks.