The Conventional Wisdom Re Growth is Unwise

December 11th, 2012 at 5:40 pm

Reading this Politico piece about how to get the economy growing in earnest again, I was struck by how out of sync the conventional/DC story is compared to what I and other growth analysts think is going on (h/t: DS).

Here’s the agenda:

…tax reform that goes way beyond individuals and rates; much deeper Social Security and Medicare changes than currently envisioned; quick movement on trade agreements, including a proposed one with Europe; an energy policy that exploits the oil and gas boom; and allowing foreign-born students with science expertise to stay here and start businesses.

Do this and there could be not an economic recovery — but a boom, many argue.

Really?  I gotta say, I don’t see it.  In fact, pretty much everything on that list is a) conventional wisdom in DC and b) largely a distraction from where I think the evidence is actually pointing, as I’ll stress in a moment.  To be clear, raising more tax revenues and slowing health care costs are critical in terms of getting our long-term debt situation under control, and immigration reform that provides a path for folks here to stay is also a great idea.  A domestic energy boom is already underway and trade agreements do squat for growth (which doesn’t mean they’re not worth it—but their growth potential is hugely overhyped).

What’s holding back growth is inattention to the need for stimulus in the near term in an economy where monetary policy is at least partially hamstrung (zero lower bound), premature fiscal contraction (premature contraculation?), too much income and wealth inequality, and, over the longer term, the lack of a deep investment agenda in public goods, including education and worker training.

The figures here (see figs 2 and 3) reveal the decline in potential GDP—very steep in the 2000s—and the longer term weak demand problem that’s characterized the last few decades, and, of course, even more so the last few years.  This paper by John Fernald decomposes the growth slowdown into its various components, with an emphasis of productivity growth, which, as shown below, has been decidedly flat in recent years.  (Total factor productivity, or TFP, is a more comprehensive concept that the usual unit of output per hour of work; the output part is the same, but TFP includes other relevant inputs, including capital and labor quality, so it’s a much better metric for understanding growth trends; “utilization adjusted” just means adjusted for the business cycle).

Fernald identifies a slowdown in capital investment, particularly in IT, and the CBO’s analysis of this problem finds that the flow “capital services”—the pace of productivity-boosting inputs from our capital stock—increased by 4.7%/year in the 1990s and only 2.4% in the 2000s.

And remember, tax rates on such investment were considerably lower in the latter decade than in the former.  The whole “lower-taxes-on-job-creators-and-capital­-wait-for-the-magic” is a big bust.  It’s supply-side, trickle-down wishful thinking and economies don’t run on wishes.

I mentioned the need for stimulus to offset both the still-weak recovery and fiscal contraction in the near term.  Not only will that help lower unemployment and boost stagnant paychecks.  It can send critical demand signals to employers to gear up, which in turn gets investors’ juices flowing again and brings idle investment cash in from the sidelines.  There’s even, I suspect, a full employment productivity multiplier wherein employers look for cost-saving productivity gains that they’d otherwise leave on the table when there’s so much slack in the job market (and thus little pressure on wages/prices).  Yet stimulus ideas don’t even make Politico’s list!

And jeez, even if private investors’ animal spirits are in the dumps, with Treasury yields at historic lows and unemployment still way too high, is this not a great time to invest in productivity-enhancing public infrastructure?  Have you tried to get around this country lately (at least the Northeast)?  As my old WH colleague Peter Orszag put it the other day with Haiku-like precision: Treasury yields at 1.6% on one hand…Kennedy Airport on the other…doesn’t make sense.

Much more to say about this in coming days.  Giving a talk on it in NYC tomorrow, so I’ll post those slides later as well.

Source: Fernald, 2012

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2 comments in reply to "The Conventional Wisdom Re Growth is Unwise"

  1. Fred Brack says:

    Should we have listened to economist Louis O. Kelso in the ’50s and ’60s? Google him, and you will find this passage in his writeup:

    “Technological change, Kelso concluded, makes tools, machines, structures and processes ever more productive while leaving human productivity largely unchanged. The result is that primary distribution through the free market economy (whose distributive principle is ‘to each according to his production’) delivers progressively more market-sourced income to capital owners and progressively less to workers who make their contributions through labor.”

    I recall reading an article in the New York Review in the 1980s that in the post-WWII era, labor had received 70% of productivity gains and capital 30%. Then in 1973, those percentages flipped. Why? I’ve read many explanations, but none seemed convincing, even to their authors. Can labor’s declining share even be halted, much less reversed?

  2. Bill says:

    This conclusion is 100% wrong: Treasury yields at 1.6% on one hand…Kennedy Airport on the other…doesn’t make sense.

    Global warming could mean the end of the human race. And we’re going to build more airports now because it will be cheap to finance them right now? If carbon was taxed at $200 per ton and JFK would have a lot of spare capacity because we’d have about 20%-60% fewer flights. And those would be fuller planes. The roads would be sufficient (we should still fix bridges that aren’t safe) because we’d have 20% fewer car miles driven (not necessarily passenger miles because we’d see more car pooling). And I’d rather spend the money fixing potholes than building new roads.

    The vast majority of people who “believe” in global warming still have not comprehended the changes that will be required. I think we can get quite comfortable with electric cars after all electricity is produced by wind and solar. Electric planes are a long way off from what I know.

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