TravisV reminded me of a post I did two years ago. I find it depressing to read these old posts, they remind me how far my blog has deteriorated. I pointed out that Iceland had taken a very different path from Greece and Ireland by adopting a monetary policy that was expansionary enough to keep NGDP rising. Despite the severe real shock hitting Iceland (arguably more severe than the real shocks hitting the eurozone crisis economies), the unemployment rate in Iceland had done somewhat better. At one point I linked to this post:
Greece is being forced into an austerity program in order to be able to continue to borrow money. But it has come with a cost. Unemployment is now at 12.6%, up from less than 7% just two years ago. And Greek GDP continues to slide.
Time for an update?
Back in January 2010 Iceland had 9% unemployment. By January 2011 it had fallen to 8.5% (which was when I did the earlier post.) Now (Jan. 2013) it’s 5.5%, or 5.8%, depending on the source. To say Icelandic data is a challenge would be an understatement. I do know that the number of unemployed is 8686 people, FWIW.
Of course Greek unemployment is now over 26%.
Because the Icelanders devalued their currency, NGDP growth never went negative in the recession. But it did slow sharply, from 13.14% in booming 2008, to 1.47% in 2009, and 2.9% in 2010. Not surprisingly unemployment rose sharply, and indeed would have risen even with steady NGDP growth due to a tremendous “reallocation problem,” discussed in the earlier post. Since then things have gone more smoothly, and here are some estimates and forecasts:
- 2010: 2.9% nominal, minus 4.0% real
- 2011: 6.6% nominal, 2.6% real
- 2012: 6.1% nominal, 2.5% real
- 2013: 5.3% nominal, 2.2% real
TravisV sent an article that shows how “recalculation” can work when NGDP is allowed to rise enough to make it happen:
We have, however, concentrated on our recovery, and paradoxically, what we are seeing in the last two years is that many sectors in Iceland: the energy sector, the tourism sector, the IT sector, the manufacturing sector, and the fishing sector are doing better in the last two years than they did prior to the banking crisis. And you might also find it interesting that the collapse of the banks revealed to us a very interesting aspect of modern banking, which I think has been more or less overlooked in this discussion in Europe and in America in the last two or three years: the Icelandic banks, like all modern big banks in Europe and America and all the other parts of the world, are no longer banks in the old-fashioned way. They have become high-tech companies. High-ranked engineers, mathematicians, computer scientists, programmers and so on and so forth. And their success depends largely on how successful they are in hiring people with this education and capability, not necessarily those trained in business schools or finance, but in engineering, mathematics, computer science and so on.
And when the Icelandic banks collapsed, what we saw was that a great number of companies in these creative sectors, IT, high-tech, and all of those, who had the large growth potential in the previous years, but had not been able to realize it because they couldn’t get the people, due to the fact that the banks were buying up all the best engineers and mathematicians and computer scientists, suddenly had the pool of talent available to them. And within six months, all these people who came out of the banks with these qualifications had been hired. So since then you have seen a great growth period in the Icelandic IT sector, the high-tech sector, the manufacturing sector, because they could suddenly get the engineers, the mathematicians, the computer scientists.
I worried that the low unemployment rate might have reflected emigration, but Iceland’s net migration is still positive. Nonetheless the labor force shows some wild gyrations; from 156,000 in “normal” 2004 (3% unemployment) to 178,000 in booming 2008 (1% unemployment) to 169,000 in 2012 (6% unemployment). Given that population growth is under 1%, the growth from 2004 to 2012 exceeds the rate of population growth. It seems like in 2008 every available body was working. In any case, those who follow the country suggest the employment situation is much better than the failed eurozone, and I have no reason to doubt those stories. By comparison, the US, which has almost exactly 1000 times Iceland’s population, has over 12 million unemployed and only 143 million employed.
I also read that real wages in Iceland have done poorly:
Real salaries are down by around a third since the crisis.
And the same article suggests that capital controls have held back the recovery. Indeed there is so much pessimism that the right wing party is likely to regain power in the next election, with promises to cut taxes.
Here’s my best guess as to what happened. There has been relatively little RGDP growth since 2009. But the key variables for the labor market are NGDP and nominal wages. Because nominal wages are sticky, the relatively strong NGDP growth reduced unemployment from 9% to 5.8%.
If Iceland was in the eurozone its NGDP would have fallen sharply after 2007, instead of rising sharply. Perhaps unemployment would be 5.8% in any case—if the RBC model is correct—but how many countries in Europe with collapsing NGDP have low unemployment? More likely the RBC model is not correct.
Low real wages are far from ideal, but there are much worse things that falling real wages. And Greece, Spain, Portugal, Italy and Ireland have them.
I admit Iceland is too small to draw any sweeping conclusions, but since this country got a lot of attention a couple years ago, I thought it worth re-examining in the light of a couple more years of Icelandic data, and also eurozone data.
Many people have noted that British real GDP growth has been very low since 2010. Yet its unemployment rate has actually done fairly well, at least compared to the eurozone. My hunch is that Britain’s unemployment rate has done better than the eurozone because it has faster NGDP growth, and its unemployment rate has done worse than Iceland’s because its NGDP growth has been slower. But Iceland would have to be much bigger for me to have confidence in that claim.