When the US gross-domestic-product growth was released last Friday, the numbers were disappointing. The US economygrew at an annualized rate of just 1.2% in the second quarter, much weaker than expected. When combined with the results of the first quarter, the economy is growing at about a 1% annual rate,according to The Wall Street Journal– the worst first-half performance since 2011.
Many economists think one of the big reasons for this weak expansion is a slowdown in total-factor productivity, a phenomenon that has been occurring in the US – and, to some extent, other developed countries – since 2004.
A Deutsche Bank research note, which was sent out before the release of the GDP numbers, lamented productivity as “abysmal” and a “substantial risk to the growth outlook.”
“Annualized productivity growth has been just 0.9% during the current expansion, and even this low reading has been buoyed by large productivity gains early in the cycle due to massive economy-wide layoffs in the aftermath of the recession,” the report said.
And the recent trend has been even weaker, the note said: “Productivity has grown at just 0.7% over the last four quarters and at an annualized pace of only 0.6% since the start of 2010.”
This “productivity puzzle” was the subject of arecent episode of “Alphachatterbox,”the Financial Times’ podcast about economics and business. “Puzzle” refers to the seemingly paradoxical idea that our productivity isn’t going up, despite all the innovation around us, said Isabella Kaminska, the host of the podcast.
Kaminska asked two economists – Tyler Cowen, an academic and writer from George Mason University, and Gavyn Davies, a macroeconomist who is now the chairman of Fulcrum Asset Management – about what’s going on.
Cowen and Davies offered interesting perspectives on what they think is to blame for the slowdown and how we’re going to get out of it. Davies said, however, that he wouldn’t necessarily call it a “puzzle.”
“I think there are puzzling elements to it, and I think there are unknown elements to it,” he said. “But I think we’ve kind of explained a lot of it by now.” Rather than a puzzle, he would call it a “productivity event” – one he said was “really serious and dangerous for the world economy.”
- Reuters/Issei Kato
What even is productivity, this crucial element of our economy’s growth? Davies described it as “the amount of output produced by a given combination of labor and capital inputs.” That means you keep the number of people and machines the same and see how much more output they create.
“It’s the benefit every year from getting better at what we do, smarter, combining capital and labor together, working more cleverly,” Davies said, “rather than inputting more labor or inputting more machines.”
Ideally, it would be increasing. Ideally, we would be getting better at what we do.
But we’re not. And economists can’t agree on why.
A lot of potential explanations are circling, one of the most popular being that productivity isn’t actually slowing down but that we’re just measuring growth incorrectly. This is a popular argument in the tech world, that Silicon Valley’s innovation is contributing to economic expansion but people haven’t figured out how to factor it into GDP yet, given that so many apps and services are free.
Cowen rejects this idea. Earlier this year he hadan article in The New York Timestitled “Silicon Valley has not saved us from a productivity slowdown,” which said both that the slowdown is too big to be compensated for by tech progress and that tech progress is in fact reflected in GDP.
“Most of the value of the internet is captured in GDP,” he said on Alphachatterbox. “It could be that you love looking at Facebook, but that means that you’re willing to buy a smartphone, have a broadband connection” – all of which can be measured and go into the statistics.
Then there’s another theory, popularized recently by Robert Gordon’s “The Rise and Fall of American Growth,”that innovation has stalled, that gains we make today don’t have the impact they once did and won’t in the future.
Davies isn’t necessarily convinced by this. “Innovation is by definition new and unpredictable,” he said. “How can we predict whether it’s stopped?”
- Wikimedia Commons
He added that many innovations, like electricity, took decades to influence the productivity figures. “It might well be that the ability to increase total-factor productivity from the internet is only in its early stages,” he said.
A third potential explanation for the productivity slowdown is weak capital investment.
“Workers need the innovative equipment and modern supply chains to increase their output per hour, but the capital spending dearth means that isn’t happening,” The Wall Street Journal wrotelast year. At the time, 94% of economists agreed that weak capital spending had a “large” or “modest” impact on the productivity slowdown, The Journal reported.
Davies agreed with this explanation, to some extent, saying there was “no doubt that less capital investment has provided labor with fewer machines and has contributed significantly to the productivity slowdown.”
Cowen doesn’t buy the investment argument so much, he said, or even Gordon’s innovation one. Rather, he sees the fundamental problem as a change in people’s mentality, a “psychological and sociological phenomenon.”
Essentially, Cowen says, the 1960s and 1970s were remarkably productive decades. “Imagine putting a man on the moon in seven years!” he said. “We can’t fix a bridge in seven years today.” But they were also volatile decades, “brutish” and even “violent” in some ways, he said, adding that “a lot of people didn’t like living in that world,” so they “decided to dig in, and they moved to a more static way of viewing the world.”
And so, Cowen argues that we can’t fix a bridge in seven years, not because we don’t have the technology to do so or we’re not investing enough but because we have a different mind-set than we did in the past. “We’re more static, we’re more nimby, we’re more ‘dig in,’ we’re more ‘you can’t build too much in London, it’s ugly, I don’t like it,'” he said. And the result has been a slowdown in productivity.
So the answer to growth slowdown will have to be shaking things up.
“The fundamental cure is going to be painful,” Cowen said. “It will involve a lot of volatility along the way, like we’ve been seeing through this year. The sad reality is that getting out of the productivity slowdown and having a very bumpy ride – those also are two sides of the same coin.”
Listen to the entire podcast here.