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Fantasy Jobs – why ‘indirect employment’ figures should be taken with a pinch of salt 20/09/2004

One phrase that crops up repeatedly in business commentary these days is ‘indirect employment’. We are always reading, for example, that the financial sector in Scotland employs 100,000 people ‘directly’, and a further 98,000 people ‘indirectly’. Or that a construction project will safeguard so many jobs ‘indirectly’. I have even read that the whisky industry employs four times as many people ‘indirectly’ than it does ‘directly’.

What is meant by these claims? Every year the Scottish Executive generates ‘Input-Output’ tables which show how different sectors of the economy interact. It is a very useful way of working out who is selling what to whom, how much value is being added where, and what our imports and exports are. These are freely available on the Executive web site.

The problem arises when people use these tables to trumpet the importance of their particular sector.

Say, for example, that the Haggis sector sources £1millon worth of Scottish onions to make its puddings. Suppose also we know that the £10 million Scottish onion sector employs 500 people. That means we can calculate a multiplier to say that the Haggis sector employs 50 people ‘indirectly’ to produce onions, right?

Wrong! Or at least misleading.

A new paper, ‘Fantasy Jobs’ by Professors Sir Alan Peacock and David Simpson, exposes how these kind of ‘multiplier’ calculations can seriously distort economic policy making by exaggerating the importance of certain sectors.

Both men were involved from the beginning in developing and promoting input-output tables, but are now concerned that these are being misused. They point out that, if you added all such calculations together, you would end up with more jobs in Scotland than there are workers! (I should state here that the Policy Institute is itself guilty of parroting ‘indirect’ employment claims).

The trouble is that multiplier analyses like these are based on at least four false assumptions:

1) The first fallacy is that an increase or decrease in demand for a certain good would have no ramifications elsewhere. In practise, of course, if demand for haggis decreased, demand for something else would necessarily increase. So those onion makers could sell to someone else, or at least find a job making the newly demanded good. Their jobs are by no means dependent on the Haggis sector, indirectly or otherwise.
2) The second false assumption is that an increase in demand for haggis would create new ‘indirect’ jobs in the onion sector. Or, put another way, jobs would automatically be lost if demand fell away. In fact there may be no-one out there to employ – wages would just go up with no extra jobs. Multipliers do not take into account the availability of labour or the flexibility of the labour market.
3) Neither do they take into account so-called ‘leakages’. A small economy like Scotland is exposed to considerable demand for imports and exports. So new demand for haggis might just suck in imports instead of creating jobs here.
4) Finally, these multipliers are based on averages which might change as a sector grows or shrinks. So if the Haggis sector took a plunge, its demand for onions might not fall at the same rate.

So what is to be done about all this? In the long term, we could look at ways of adjusting employment multipliers to take these four concerns into account.

For example, you can see from input-output tables how much demand for each sector is export-led. A sector which exports most of its produce can fairly claim to have more Scots jobs dependant on it than one whose demand is all home grown (point 1). But not if its domestic suppliers can increase production without taking more people on (point 4).

Until such complicated adjustments can be made reliably, however, it is best to stick to what we do know for sure. ‘Value Added’ is a much more reliable measure of a sector’s importance to the economy. This simply subtracts purchase from sales to produce a contribution to GDP made up of salaries, taxes and profits.

So next time your read a mention of ‘indirect employment’, take a large pinch of salt (government permitting) and look out for the hard sell.

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