Productivity & Growth
Productivity is a critical part of the economic growth equation. We track the productivity of entire nations by means of gross domestic product (GDP), the sum total of all the goods and services their people produce. I have some issues with the way we calculate GDP, but it’s the best statistic we have for now. (I wrote an overview last year called “GDP: A Brief But Affectionate History,” which you can read here.)
There are two – and only two – ways you can grow your economy. You can either increase your population or increase your productivity. That’s it.
The Greek letter delta is the symbol for change. So if you want to change your GDP, you write that as
Δ GDP = Δ Population + Δ Productivity
That is, the change (delta) in GDP is equal to the change in population plus the change in productivity.
If you are a country facing a population decline (like Japan), then to keep GDP growing you have to increase productivity even more. That is why I have written so much about demographics over the years. Population growth (or the lack thereof) is very important. Russia is facing a very serious problem over the next 20 years that will require either a significant increase in productivity or a high level of immigration to stave off a collapsing economy. Russia’s population has declined by almost 7 million in the last 19 years, to 142 million. UN estimates are that it may shrink by about a third in the next 40 years. But that’s another story for another letter.
One last economic sidebar. You cannot grow your debt faster than your nominal GDP forever. At some point, the market begins to think that you will not be able to pay your debt back. Think Greece. This is no different from the fact that a family cannot grow its debt faster than its ability to bring in income to pay that debt back. At some point, you run out of the ability to borrow more money, as lenders “just say no.”
As a family’s or a country’s debts grow, the carrying cost or interest expense rises, consuming an ever-larger portion of the budget until a breaking point is eventually reached. While the exact point is a matter for serious debate (and conjecture), there is a level at which debt actually limits the potential growth of an economy. Paraphrasing Clint Eastwood, a country has to know its limitations.
We are going to hear a lot about growth in the coming presidential election. A lot of people are going to offer formulas, but you can check how realistic they are because GDP growth has just three variables. If you want to increase growth, you have to increase:
- the number of workers, and/or
- the number of hours they work, and/or
- the amount they can produce in an hour.
If you want GDP to grow, you have to make at least one of these factors go up without an offsetting decline in the others. Look at any story of economic progress or collapse anywhere in history, and these three variables will explain it.
Here in the United States, for instance, growth took off in the postwar 1950s but really soared in the ’60s and ’70s as newly “liberated” women entered the workforce, raising our total number of workers. In China over the last two decades, people moved from rural subsistence farming to urban industrial jobs. The number of workers in the overall economy didn’t change overnight, but productivity skyrocketed.
Going back further, inventions like the automobile and electricity unlocked tremendous growth by increasing hourly output. Untold thousands of workers went from shoveling horse manure to more advanced occupations.
Shoveling horse manure was honorable work back then. Those workers produced something necessary (clean streets – at least until the next horse came along), but they were capable of doing so much more. We don’t think much about it today, but the average horse produces 9 tons of manure every year. That is about 35 pounds of manure daily, plus 6 to 10 gallons of urine, all of which had to be disposed of. Not to mention the amount of labor it took to feed those horses. One-quarter of agricultural output in 1900 went simply to feed horses.
I was thinking about that last week while I was in lower Manhattan. Some of the streets I walked were still paved in part by the original, uneven cobblestones. What a pain it would have been to keep them clean. Forget sanitation.
Henry Ford (and a few others) “killed” all those jobs dealing with horses, freed a lot of our agricultural output to be sold all over the world, and thereby opened the door to better times, economically. But a lot of people had to find new employment.
“Better” for those workers was better for everyone. Affordable transportation sped up everything. The result was an economic boom that lasted through the Roaring ’20s. Millions of people left farms, moved to cities, and found high-paying factory jobs.
Do we have a 21st century breakthrough equivalent to the Model T? You bet we do. When autonomous vehicles are ready for prime time in a few years, millions of taxi and truck drivers will lose their jobs. Instead of one person driving one vehicle, we will have human car wranglers managing entire fleets as they roam through the streets. That human’s hourly productivity will be orders of magnitude higher than that of today’s drivers.
So what will the ex-drivers do for work? We don’t know yet. I’m very confident the economy will find ways to keep them productive, but I can’t say how. But their jobs will go away, just as those who shoveled horse manure lost theirs 100 years ago.
The time lag required for a return to full employment will probably be painful, too, both for individuals and for the whole economy. GDP could shrink at first if the reduced hours of unemployed drivers outweigh the higher productivity of the people managing the autonomous car fleets. That irony highlights just one of the problems in how we measure GDP. People and products will still be moved, but since it will cost less to make that happen, we may register a drop in GDP. (More on this measurement problem later.)
Northwestern University economist Robert Gordon examined productivity in a widely discussed 2012 paper, “Is U.S. Economic Growth Over?” He presented a shorter version in a 2013 TED Talk.
His is not a very optimistic view. I’ve written elsewhere about why I think he is wrong, but he is a highly respected economist, and his facts are rather straightforward. It’s his conclusions and assumptions about the future that I think are wrong. That being said, the Ted Talk is worth the 12 minutes. You’ll be glad to know Professor Gordon’s opinion isn’t universally shared. Other economists think technological advances will boost everyone’s productivity and keep growth well above 2%, despite the demographic and other headwinds Gordon describes.
Two-Sided Growth
GDP growth of an average of 2% over the last 15 years is not impressive compared to what we saw in the late 20th century. Is 2% really the best we can do? And for which parts of the economy?
This is a point on which both optimists and pessimists can be right. Even if aggregate growth is only 2%, some parts of the economy will perform much better as the economy makes its next transformation. I think we will see different tiers of growth.
Even today, we see how some businesses embrace change, while others hold fast to old models.
- Companies that “get it” succeed by creating entirely new markets, as Apple did with the iPhone. They can also disrupt old ones, as Uber is doing to the taxi companies.
- At the same time, it will still be possible to have a good business without disrupting anyone. If the economy is growing and/or you serve a growing demographic niche, you can do quite well.
Collectively, businesses in the second category will be able to grow only as fast as the economy around them does. Some might steal customers from others, but their aggregate earnings will be a function of population and economic growth.
The same applies to individual workers, and it’s already a 2016 election issue. Jeb Bush caught some heat for this July 8 comment to a New Hampshire newspaper:
My aspiration for the country – and I believe we can achieve it – is 4 percent growth as far as the eye can see. Which means we have to be a lot more productive, workforce participation has to rise from its all-time modern lows, means that people need to work longer hours and through their productivity gain more income for their families. That’s the only way we’re going to get out of this rut that we’re in.
Critics zeroed in on “people need to work longer hours,” as if he were calling American workers lazy. It sure wasn’t the best choice of words (what is it about that family and their choice of words?), but economically he is correct. To get anything like consistent 4% growth, America will need more workers who will need, in aggregate, to work more hours, and/or our output per hour will need to rise. All of the above would be best.
Continue reading: http://www.mauldineconomics.com/frontlinethoughts/productivity-and-modern-day-horse-manure
