By William Dupor, Assistant Vice President and Economist
When jobs are one of Americans’ top concerns1 and the private economy is not drawing enough people out of unemployment, could fiscal stimulus do the trick?
Proponents of fiscal stimulus argue that the idea is simple: The federal government buys goods from a private company, beyond what it would otherwise purchase. To create these goods, the company hires workers out of unemployment or keeps existing workers that it was about to fire. Either way, according to the story, the government has, in effect, taken or kept people out of unemployment.
This simple story, it turns out, might be more complicated in reality, and for a novel reason. What if the work can be done by existing employees being assigned overtime hours? In a recent research paper, M. Saif Mehkari, at the University of Richmond, and I show that the more complicated story sometimes occurred and was quantitatively important during the most recent U.S. fiscal stimulus: the American Recovery and Reinvestment Act of 2009.
Besides spending Recovery Act dollars to create and save jobs, many businesses, nonprofits and government agencies used these dollars to increase the wages paid to workers whose employment status did not hinge on the receipt of these funds. In other words, workers whose employment status was “safe” from the recession got additional compensation from Recovery Act aid. We call this the “intensive margin” effect.2
This compensation came in the form of increases in employees’ hours worked (such as overtime) and wage rates.3
Why did this happen? Suppose a business received a small stimulus contract. To carry out the contract, the business may have added a few hours to its existing employees’ workweek for several months, rather than hire new employees. From the employer’s perspective, why go through the trouble of doing a job search and taking to time to train a worker if instead the stimulus work can simply be split among the existing staff?4
In this case, the business’s incentive to minimize its costs and maximize productivity does not line up with the federal government’s desire to add workers to the nation’s payrolls.
Besides overtime, companies might have found that, rather than through hiring additional workers, an effective way to spend stimulus money was to increase the wage rates for existing employees in an effort to increase productivity. While the payment to a worker with a safe job puts more money into the economy, on the first round, the money does not create or save a job.
Of course, overtime or salary increases often were not feasible or the best way for the recipients to use their funds. In fact, according to reports filed with the federal government, many full-time jobs were created or saved because of the Recovery Act.
Still, the issue of the stimulus’ “intensive margin” effect is an interesting one and deserves a closer look.
To dig deeper, our study uses a database of quarterly reports filed by recipients of Recovery Act dollars, archived at Recovery.gov. These reports detail how much money recipients received, the nature of their projects, how many people were on the payroll as a result of their funding and what types of jobs were created and saved.
These reports provide hundreds of examples of projects using overtime workers or organizations increasing wage rates of existing workers. The following are just a few examples, taken directly from these reports:
This entirely legitimate use of Recovery Act funds may have made sense from the recipient’s perspective, but this limited the Act’s effectiveness in creating jobs. In addition to salary increases and cost-of-living adjustments, other reports give examples of funds being used to cover pension and health benefit costs.
The above examples are only illustrative. To get a quantitative handle on the phenomenon, we examined data on labor market indicators and Recovery Act spending at the county level. We employed a statistical technique known as cross-sectional instrumental variables to estimate the amount of both job creation/retention and intensive margin payments.
First, we found that the Recovery Act created and saved jobs. There was also a substantial intensive margin effect. Added up across all projects, for every $1 spent to pay a worker which kept him or her from being unemployed, another $1 was paid to a worker whose job was safe.5 Thus, we provide statistical support for the survey results described above.
A long line of economic research has shown that the effectiveness of a fiscal stimulus can be partially diminished in several ways:
Our paper adds another reason. To the extent that job creation is the goal of fiscal stimulus, the intensive margin effect may be another culprit in attenuating the stimulus’ effectiveness.
1 “Most Important Problem.” Gallup, Nov. 6-9, 2014.
2 In economics, the term “intensive margin” means the degree to which a resource is used as opposed to the extensive margin, which is whether or not a resource is used.
3 Wage rate refers to the amount paid to a worker per unit of time worked.
4 In fact, one part of my paper with Professor Mehkari proves, using a mathematical technique called dynamic programming, that this type of employer behavior can be optimal.
5 Unfortunately, the available data did not allow us to decompose how much of the $1 went to pay for additional hours worked versus increases in the wage rate.