US Productivity Growth

In the markets, the short run is the next trade, the medium term is lunch and the long term is the end of the trading day. Economists should always consider the evidence of decades and, when available, of centuries.

Soon after I completed my PhD dissertation in 1975, economist began to discuss the US productivity miracle – the highly disappointing productivity growth that lasted from the first oil crisis of 1973 till the mid-1990s. Not only was US productivity growth during these years disappointing by US historical standards, it was also below that achieved in most of the rest of the industrial world.

The fact that US productivity growth had lagged behind that of most other industrial countries during Europe’s Golden Age (1950-1973) was, I think correctly, attributed to delayed catch-up and convergence of the lagging European economies following the market segmentation and ‘autarkization’ of the interwar period and the destruction and dislocation of World War II and its immediate aftermath. European integration and the removal of trade barriers generally permitted European nations to shift labour from low-productivity agriculture to high-productivity industry; its corporatist economic model brought industrial peace and a business climate conducive to emulation and catch-up.

The failure of the US to sustain the productivity growth trends of the fifties and sixties during next quarter century was a surprise at the time, and is still not, I believe, completely understood.

Then, during the second half of the 1990s, the long-expected productivity pay-off of the ICT (information and communication technology) revolution finally became visible in the aggregate and industry-level productivity data. Private non-residential investment boomed (by historical US standards) and the US economy turned, for a while, from a sloth into if not quite a tiger, then at least a more dynamic tabby cat.

Not surprisingly, the productivity growth figures of not much more than half a decade were declared to be a new trend and the new norm. The long-lasting, slow-building but ultimately explosive tech bubble started almost at the same time that the higher productivity growth finally shone through.

The tech bubble crashed in 2001. It now looks at though the ICT productivity growth miracle may have imploded around the same time. The optimism that led some to predict a growth rate of potential output as high as 3.5% (or even 4.0%) per annum appears to have increasingly fragile foundations. On recent revisions of productivity growth for the past three years, even 3.0% potential output growth looks generous.

Productivity is driven by flexibility and commitment (the willingness and ability to take the long view). Commitment for practical purposes can be measured by investment, broadly defined, in private capital, R&D, infrastructure, human capital, social capital, and environmental capital. The US was and continues to be strong on flexibility. It never was a world-beater on commitment/investment, and after the tech blip, conventionally measured capital formation rates are nothing to write home about (even after making cyclical allowances for private non-residential investment and extraordinary allowances for the residential construction). The US stock of social overhead capital is bad by the standards of most advanced countries other than the UK. It reflects decades of underinvestment in infrastructure of all kinds. As regards human capital formation, the US healthcare system provides the worst value for money of any healthcare system in the developed world. Health output indicators for morbidity, longevity etc. are also poor, by the standards of the OECD. The US educational system ranges from the sublime to the ridiculous; few would argue that primary and secondary education in the US are improving. As regards social capital, including trust, there can be little doubt that the US today is more divided, polarised and distrustful of fellow-Americans, immigrants, foreigners than at any time since I came to the country. As regards the management of its environmental capital, the US appears to be firmly stuck halfway between the other advanced industrial countries and the developing world – not a place the country wants to be.

All of these commitment/investment weaknesses of the US are remediable. That is the good news. The bad news is that some of these weaknesses (infrastructure, secondary education) have been around for decades without anything effective being done to remedy them.

Without serious changes in policy orientation at the Federal, State and Local levels, it is hard to see US productivity growth at anything like the rates touted until recently. With a bit of bad luck the country could be back to a trend growth rate of potential output of 2.5% to 2.75 % per annum.