Why staying in a dying industry may be the right choice...

At the moment, talk of a ‘new economy’ is spearheading the economic narrative from the government. Economic progress, we’re told, relies more than ever on ensuring the population has the right skills for the jobs of the future. But the right skills are often not the ones people imagine at the beginning of their training, and the decision to re-skill is not as clear-cut as it may seem. Especially for those already in the workforce, risk and pay-off structures can work against economic efficiency.

The phenomenon is not new. Industries have always had a natural arc; during their expansion they attract labour, but then become susceptible to automation as they scale up and processes become repetitive. Goldman Sachs Global Investment Research finds two clear phases in this process.[1]

People have a natural advantage in doing new and novel things. As a result, when industries are emerging they need employees, and lots of them. This occurs during the price-elastic phase. The term price-elastic means that for every dollar that the price decreases – due to productivity advances, price competition, or some other mechanism – the total amount spent on the product increases by more than one dollar. In other words, cost reducing technological innovation results in more demand and the need for even more production, increasing demand for both labour and capital.

At some point, this must peak, and it is at this point where technology becomes a substitute for labour. Any product will have a natural reduction in price elasticity of demand at some point, and enter a price-inelastic phase. For example, people only want to eat so much food, and once people have enough, a reduction in price will only have a small impact on their total consumption. Similarly, once a market becomes saturated, demand growth slows considerably. Once everyone has a washing machine, price reductions may make people upgrade more frequently, but they can’t spur the same demand-increases seen when white good manufacturing was in its price elastic phase before the 1970s.

Once output and revenue growth slows, technological innovation catches up. No longer driven by expansion and change, worker’s tasks become more repetitive and autonomous. At this type of work, humans are at a disadvantage to machines. Automation now substitutes for employees, and total demand for labour decreases in the industry. The amount of jobs decreases, as do wages.

What has changed is the breadth of fields now at risk of automation, and the speed at which new technology is adopted. In aggregate, the solution to this problem should be clear. Those people now struggling to find work should re-skill and enter new professions. Importantly, not everyone needs to reallocate their labour to new industries. As some people shift out of the industry, labour scarcity will return and wages and employment will stabilise. But though this outcome is most efficient for society, the individual faces a much less obvious choice.

An individual working in a declining industry has built up a stock of human capital in the form of formal training, experience and networks that has value. Often, the industry has not disappeared; opportunities within it have just shrunk. As a result, even a small possibility of finding employment can be worth a lot. When this human capital is transferable, it is likely only into similar industries. Consider those employed in the automotive industry, long in the price-inelastic phase, who have been forced to move industries by the shutdown of Australian car manufacturing. Unfortunately, industries demanding similar skills and experience, such as other areas of manufacturing, are likely to be highly specialised and require automotive workers to undergo significant retraining anyway, or hold few long term opportunities.

If changing to a different occupation or industry, uncertainty still exists. Re-skilling is an investment in your human capital. It is an investment that receives a return in the form of extra income from employment. But specialised training goes against the most fundamental principle of investment; diversification. Without the ability to diversify, risk is acute. The cost in time, money and lost income during re-skilling is only worthwhile if the chosen industry continues to have good opportunities into the future.

Society generally recognises the difficulty in overcoming these high upfront costs with the uncertainty of future gain. Public policy is thus geared towards helping students through tertiary education and vocational courses. Welfare payments, subsidies and concessional loan systems combine to limit the upfront cost to students. The effect is that society burdens much of the risk and cost in the development of productive skills.

For those re-skilling, however, it is less straightforward. There is not only less support available to supplement income during study, public policy reduces a person’s ability to support themselves through this period as well. The purpose of superannuation accounts is to smooth out income over the life cycle; enforcing mandatory saving during working years so money is available during retirement. In an era where re-skilling and career change appear to becoming more frequent, surely people should be able to draw down these savings during a low or no income period of retraining, in anticipation of a higher income, and higher super contributions, afterwards. As it stands, however, outside of some limited circumstances, this personal safety net cannot be accessed until the preservation age is reached.

On top of this, there is less time to receive the return on the investment. A forty-year-old changing industry can expect to receive return from any education for only about half as long as a 20-year old starting out. To make matters worse, someone changing industries is losing a lot of the extra earning and employment potential from specific on-the-job experience and access to opportunities that come from industry connections and networks. Both of these need to be rebuilt before the full value of the education investment can be realised. As a result, many will prefer to hold out in an unlikely search for a job where their current human capital is valuable than uproot so much at acute personal risk and cost and uncertain pay-off.

There is a perennial disconnect between the simultaneous perception of a shortage of jobs, and shortage of skilled labour to fill them. The speed and breadth of technological innovation, amplified by trade induced restructuring, appears to be accelerating the process of change which drives this disconnect. In itself, the change is good, it drives efficiency improvements and productivity increases which support economic growth and drive down the cost of goods and services. Markets do not adjust immediately to these changes to efficiently allocate labour, however, so in a world where people are less and less likely to stay in the same profession for their entire careers, it is important to recognise the real barriers to moving between industries that exist at the individual level.

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[1] Goldman Sachs Global Investment Research. (2016, July). Narrowing the jobs gap: Overcoming impediments to investing in people. Retrieved from http://www.goldmansachs.com/our-thinking/public-policy/narrowing-the-jobs-gap.html