Jeffrey Pfeffer's Blog, page 8

Some Thoughts on School Refrom

There is a big push for school reform, as documented in Steven Brill's recent article in the New York Times Sunday magazine.  Virtually all discussions of school reform focus on the obstructions arising from teachers' unions and the need to make individual teachers accountable—having their pay, promotions, and even their job security dependent on how their students perform on standardized tests.  Such efforts at accountability mirror what often occurs in for-profit companies and suffer from the same problems.  Here are a few.

W. Edwards Deming and the quality movement eschewed individual reward and punishment schemes because he thought that such arrangements often did not take into account factors affecting performance over which individuals had no control—namely, the system in which they worked.  I recall the COO of a large Florida electric utility gleefully telling me that his bonus depended on operating profits which, in a high-fixed cost company like a power provider, was mostly the result of capacity utilization—and how much the generators ran was a function of the weather.  So, this gentleman got rewarded for something—the temperature—over which he had no control.

In the case of teachers, much research shows that a) teacher quality matters but b) so do other things such as parental involvement, the community and its social resources, the physical condition of schools, and the actions of school boards and others party to the educational system.  Making people accountable for things over which they have limited control and making the consequences of their performance significant leads to—big surprise—attempts to the game the system.  As economist Steve Levitt has documented, rewarding teachers based on student test scores induces cheating, and the greater the consequences of the test scores, the more likely is the cheating.

It is all too easy to blame the teachers' unions for the problems of the educational system.  Yes, there's no doubt that ineffective teachers get protected.  But there's also no doubt, as the history of Civil Service reform in the U.S. shows, in the absence of job protections, what often occurs is not merit-based hiring and promotion but cronyism.  Recall Attorney General Alberto Gonzalez and the replacement of United States' attorneys during the Bush administration?  That sort of political favoritism can occur in school districts as well, where the temptation to sell jobs for bribes (something that occurred in the recent past in New York City) and to hire people from one's same ethnic group can trump considerations of merit.

Children's learning depends on many factors.  Efforts to improve educational performance need to consider all of the factors and focus interventions not just on one, possibly the most politically vulnerable, target.

Labor Market Flexibility: Repetition Doesn’t Make It True

Every day the newspapers are filled with the conventional wisdom about the current European economic crisis.  Besides problems with large, persistent governmental budget deficits, commentators typically emphasize the issue of economic growth.  The argument is that growth and increases in productivity are the best way to solve not only the budget issues but also to increase country competitiveness and employee well-being.  And virtually every article, regardless of the political leanings of its source, makes the same claim:  a great way to encourage economic growth and higher levels of employment is to deregulate the labor market so that employees in Europe have about the same protections as they do in the U.S.—basically zero.  This labor market flexibility will supposedly reduce unemployment, stimulate the creation of more permanent jobs, and make Europe more competitive.

There’s just one enormous problem with this constant refrain about “Eurosclerosis” and the benefits of labor market flexibility:  there is remarkably little empirical evidence about the effects of deregulated labor markets.  And what evidence there is scarcely supports the level of certainty and passion that seems to characterize many economists and the media in their pleas to remove employee protections.

As to the amount of evidence, two economists noted that given the importance of the issue and the fact that governments have reformed labor market oversight following conventional wisdom, “one would think that there are hundreds of papers studying whether more flexibility does in fact reduce a country’s unemployment rate in practice.  Sadly, this is not the case.”[1]

And what evidence there is presents a far more complex and equivocal picture than you would get reading or, for that matter, listening to the current discussion.  One review of the available evidence of the effects of labor market flexibility stated that it is “much less persuasive than is commonly believed” and maintained that the economics profession’s “faith in the merits of labor market de-regulation is misplaced.”[2] A review article on this topic in the Journal of Economic Perspectives[3] makes several important points:

“differences within Europe are much greater than are the differences between the European average and North America” (p. 55).
“the European countries with the lowest unemployment rates…are not noted for the flexibility of their labor markets.  Britain…has always had the most flexible labor market in Europe on standard measures yet has an average unemployment rate higher than half of its European neighbors” (p. 57).
“the contrast between Europe and North America is more complex than is commonly realized” (p. 59).

Even studies that find an effect of European-style labor market regulation often report extremely small effects.  So, for instance, one study of France concluded that if it were to make its labor markets as flexible as those in the U.S., it would increase its employment rate just 1.6%.[4]

Labor market protections provide real benefits to employees.  Before we get excited and throw all of this out, it would be nice to actually look at the evidence.  And public policy makers and commentators would do well to acknowledge the complexity of the issues and to stop repeating the same misinformation.  Real people suffer the consequences of policy based on ideology rather than evidence.

[1] Rafeal Di Tella and Robert MacCulloch, “The Consequences of Labor Market Flexibility  Panel Evidence Based on Survey Data,” European Economic Review, 49 (2005), p. 1226.

[2] P. Gregg and A. Manning, “Labor Market Regulation and Unemployment,” In D. Snower and G. de la Dehesa (Eds.), Unemployment Policy, Cambridge, UK:  Cambridge University Press, 1997, p. 395.

[3] Stephen Nickell, “Unemployment and Labor Market Rigidities:  Europe versus North America,” Journal of Economic Perspectives, 11 (1997), 55-74.

[4] Di Tella and MacCulloch, op. cit.

Labor Market Flexibility: Repetition Doesn't Make It True

Every day the newspapers are filled with the conventional wisdom about the current European economic crisis.  Besides problems with large, persistent governmental budget deficits, commentators typically emphasize the issue of economic growth.  The argument is that growth and increases in productivity are the best way to solve not only the budget issues but also to increase country competitiveness and employee well-being.  And virtually every article, regardless of the political leanings of its source, makes the same claim:  a great way to encourage economic growth and higher levels of employment is to deregulate the labor market so that employees in Europe have about the same protections as they do in the U.S.—basically zero.  This labor market flexibility will supposedly reduce unemployment, stimulate the creation of more permanent jobs, and make Europe more competitive.

There's just one enormous problem with this constant refrain about "Eurosclerosis" and the benefits of labor market flexibility:  there is remarkably little empirical evidence about the effects of deregulated labor markets.  And what evidence there is scarcely supports the level of certainty and passion that seems to characterize many economists and the media in their pleas to remove employee protections.

As to the amount of evidence, two economists noted that given the importance of the issue and the fact that governments have reformed labor market oversight following conventional wisdom, "one would think that there are hundreds of papers studying whether more flexibility does in fact reduce a country's unemployment rate in practice.  Sadly, this is not the case."[1]

And what evidence there is presents a far more complex and equivocal picture than you would get reading or, for that matter, listening to the current discussion.  One review of the available evidence of the effects of labor market flexibility stated that it is "much less persuasive than is commonly believed" and maintained that the economics profession's "faith in the merits of labor market de-regulation is misplaced."[2] A review article on this topic in the Journal of Economic Perspectives[3] makes several important points:

"differences within Europe are much greater than are the differences between the European average and North America" (p. 55).
"the European countries with the lowest unemployment rates…are not noted for the flexibility of their labor markets.  Britain…has always had the most flexible labor market in Europe on standard measures yet has an average unemployment rate higher than half of its European neighbors" (p. 57).
"the contrast between Europe and North America is more complex than is commonly realized" (p. 59).

Even studies that find an effect of European-style labor market regulation often report extremely small effects.  So, for instance, one study of France concluded that if it were to make its labor markets as flexible as those in the U.S., it would increase its employment rate just 1.6%.[4]

Labor market protections provide real benefits to employees.  Before we get excited and throw all of this out, it would be nice to actually look at the evidence.  And public policy makers and commentators would do well to acknowledge the complexity of the issues and to stop repeating the same misinformation.  Real people suffer the consequences of policy based on ideology rather than evidence.

[1] Rafeal Di Tella and Robert MacCulloch, "The Consequences of Labor Market Flexibility  Panel Evidence Based on Survey Data," European Economic Review, 49 (2005), p. 1226.

[2] P. Gregg and A. Manning, "Labor Market Regulation and Unemployment," In D. Snower and G. de la Dehesa (Eds.), Unemployment Policy, Cambridge, UK:  Cambridge University Press, 1997, p. 395.

[3] Stephen Nickell, "Unemployment and Labor Market Rigidities:  Europe versus North America," Journal of Economic Perspectives, 11 (1997), 55-74.

[4] Di Tella and MacCulloch, op. cit.

Some Comments on Spain

This May, for the fifth year in a row, we visited IESE, the Spanish business school in Barcelona.  It was an interesting time to be in Spain or in Europe, for that matter, with the economic crisis and the high unemployment.  But as is often the case, things are more nuanced on the ground that what is presented in the media.

First of all, some travel trips.  Many tourists go to Barcelona, fewer to Madrid.  I think that's a mistake.  Madrid has the royal palace, some amazing museums, beautiful hotels, and in my opinion, has less traffic congestion than Barcelona making it easier to get around.  It doesn't have the sea, but unless you are going to the beach (this May was quite cold in any event), I'm not sure that makes such a difference.

If you do go to Barcelona, I have a restaurant recommendation:  Hisop.  It serves a set three course menu, has exceptional service, is very reasonably priced, and the food is simply amazing.

Spain itself is a paradox.  On the one hand Spanish unemployment is high, presumably about 20%.  But the department stores seem full, the restaurants are crowded, people are strolling the avenues, and I felt much less stress or angst than I do in the U.S.

My friends here tell me that is for several reasons.  First, Spain has a large underground economy that is not reflected in the official employment statistics.  Second, the downturn in construction has affected some of the outlying areas more.  The center of Barcelona and Madrid, with the concentration of banks, trade, and government, may not be where the economic stress is most visible.

Third, eating out and going out are very much part of the Spanish lifestyle.  Families are important in Spain and it is not unusual to see, on Sunday for instance, several generations sharing a meal at a restaurant in the afternoon.  So, dining at a restaurant is part of the Spanish family experience.  As one friend said, people in Spain would give up many things before they stopped eating out.  In the U.S. restaurants are a luxury, in Spain they are more of a necessity.

Fourth, there is a sentiment I have heard several times that goes, loosely translated, as "you are going to die eventually anyway, so don't leave a lot behind."  Many of the people I encountered emphasized the importance of enjoying life and not excessively worrying about the future.

And fourth, Spain, like many of the countries in Europe, has a decent social safety net.  When people are out of work they can still access medical care because, unlike the U.S., health insurance is not tied to one's job.  There are pensions and transfer payments that ease the burden of unemployment.  Yes, this makes the public debt larger.  But it also creates what seems to be a happier and healthier society with more joy.

That joy and good feeling is contagious.  Which is one reason my wife and I enjoy visiting Spain regularly.

BA, BA, Why Have You Foresaken Me?

Earlier this month I flew to Barcelona for my annual sojourn at Spanish Business school IESE.  I came over on British Airways which has, in my view, the best business class seats to Europe and reasonably good service, at least when the airline is not having labor troubles.  Unfortunately travelling, as everyone knows, has recently become an adventure, what with the Icelandic volcano coupled with the customary airport hassles we have all come to expect.

While I was in Spain, BA's unions announced a strike and my return flights to London and then to San Francisco were cancelled.  I was flying business class.  I have silver status on BA.  BA, like all of its competitors, has spent hundreds of millions of dollars investing in computer systems, artificial intelligence, and software to manage its operations and, of course, to ensure that it can optimize its pricing.  Surely, I thought, the airline would use some of that massive computer power to find alternative arrangements to take care of me.  Ha!

BA, which somehow manages to send me scads of marketing messages on a regular basis and, of course, the many "upcoming flight" messages, never e-mailed me that my flights were cancelled.  I had to go to their website to learn that sad fact.  My travel agent did manage to contact the airline—never an easy process because, except for service-leading Southwest, most carriers believe that the fewer employees the better.  She was told there was "no hope" for getting me back to San Francisco.  I am now booked on Lufthansa.

Some facts and lessons from this situation.  First, some comments in columns in the Wall Street Journal and the Financial Times notwithstanding, the BA's troubles will affect its revenue, particularly in the higher-end market.  I have talked to a number of people who are booking away from British Airways, and my San Francisco travel agent tells me that numerous clients are moving to Virgin.  Second, the strike was unnecessary.  It was apparently provoked by the firing of an employee-union leader. 

Third, some companies actually know how to recover from service problems.  A number of years ago award-winning Singapore Airlines refunded the entire airfare of a person who experienced bad service flying from Hong Kong to Los Angeles.  In the case of BA, it would have been easy to use all their massive computing power to find alternative arrangements to get me back and then send me an e-mail with some options, or to take their responsibilities seriously and rebook me on a different carrier themselves.  The literature in consumer behavior is unequivocal—companies that apologize and redress service problems retain their customers.  Those that don't, lose them.

Fourth, as the customer loyalty literature shows, it is much less expensive to retain existing customers than to attract new ones to replace customers that have defected.  BA should have learned that lesson.

The bottom line:  companies that lose money have themselves to blame.  That is certainly true for BA, which invested in its first- and business-class on-board offerings but has completely failed to fix the rest of the customer experience.

EMPLOYEES ARE NOT THE PROBLEM!

So there I am at a conference about problems with the U.S. economy, and the CEO of an enormously large financial institution that manages literally trillions of dollars of assets, someone with an MBA degree and access to the highest levels of government around the world, says the following:  the restructuring of the U.S. automobile industry, through the process of bankruptcy, was painful but necessary.  Now, new U.S. autoworkers will earn abut $14 an hour, even less than in Mexico (his phrase, not mine), which will help the U.S., the #1 exporting country, maintain and strengthen its competitiveness.

Wow!  First of all, the U.S. is not the largest exporter—that distinction used to be held by Germany and is now China's.  I would feel better if people with this level of power actually knew the facts.  But what is, of course, most striking about the comment is the implication that it is "progress" when U.S. employees lose economic ground, as though in order to be competitive in world markets, we need to reduce our wage rates so that they are low.

Note that this very senior and highly-regarded individual did NOT talk about problems in the U.S. economy that came from overpaying CEOs.  It's interesting—when I hear people talk about wage rates, they invariably talk about the rates paid to front line workers, not the wages—which are, as we know, way above the levels paid in other countries with the possible exception of the United Kingdom—paid to senior leaders.

It is simply factually untrue that labor rates equal labor costs, and that labor costs equal country—or company—competitiveness.  As surveys published by the Economist Intelligence Unit and the World Economic Forum, among other sources, consistently show, relatively high-wage (and high social-benefit) countries such as Germany, Denmark, Sweden, Finland, the Netherlands, and Switzerland are invariably listed among the top-ranking economies in the world.  In case you haven't been paying attention in the U.S., among the most successful companies are Apple and Google—neither of which skimp on either pay or other perquisites.  Even in the airline industry, Southwest, which is fully unionized, has long paid the highest wages to its pilots.

Labor rates don't equal labor costs.  If I pay you next to nothing but you don't accomplish anything, my costs are actually high.  Labor costs are a function of two things:  the rate of pay and the individual's productivity.  A highly productive, albeit well-paid individual, can actually result in lower labor costs because of the productivity advantage.  The study of unionized construction workers has demonstrated this effect for decades.

And most importantly, labor costs aren't the key to competitive success.  What drives economic well-being in a knowledge-intensive economy are innovation, creativity, design—in short, great products and services.  The problems of the U.S. auto companies had much more to do with their quality, design, and brand image than it did with what the companies paid.

Ironically, the U.S. has been a comparatively low wage country for years, when one compares our wages to those paid in other advanced industrialized countries.  Our balance of trade deficit has little to nothing to do with our ranking in the wage structure.

I find it depressing, if not worse, that senior leaders in both the private sector and the public sphere think it is progress when wages—and standards of living—are cut.  Employees suffer, but there is scant to nonexistent evidence that either companies or the economy benefit.