Jul 1st 2017

Should We Be Worried About Productivity Trends?

by Sandile Hlatshwayo and Michael Spence

Sandile Hlatshwayo recently received her PhD in Economics from the University of California at Berkeley and will join the International Monetary Fund in the fall. Michael Spence, a Nobel laureate in economics, is Professor of Economics at New York University’s Stern School of Business and Senior Fellow at the Hoover Institution.

MILAN – Economists concern themselves not only with addressing difficult questions thoughtfully, but also with formulating the questions themselves. Sometimes, rethinking those questions can hold the key to finding the answers we need.

Consider the productivity debate. Economists trying to explain the apparent structural slowdown in productivity growth have been asking the following question: Where is the missing increase? Their response covers concerns about measurement, structural shifts in the labor market, a potential paucity of investment opportunities, productivity-diluting technological innovations, and technology-driven skills mismatches.

But it may also be useful to consider a more fundamental question: How much productivity growth do we really want, and at what cost?

There is no doubt that productivity growth is desirable. It is a primary driver of GDP growth (especially in countries where labor-force growth is slowing) and income gains. Strong GDP growth and rising incomes can then support the fulfillment of fundamental human needs and desires.

This link is particularly obvious in developing countries, where economic expansion and rising incomes are preconditions for poverty reduction and improvements in health and education. But the link between aggregate growth and individual welfare is no less visible in advanced countries – particularly those now struggling with slow growth, high unemployment, output gaps, debt overhangs, misaligned exchange rates, and structural rigidities.

But this does not mean that policymakers’ primary goal should be more productivity growth. Societies – including governments and individuals – care about a range of things, from health care and security to fairness and freedom. Inasmuch as productivity growth – and, in turn, GDP and income growth – advances these societal objectives, it is highly desirable.

There is, however, a tendency among economists and policymakers to overemphasize such market-related measures of performance, while overlooking the reason why that performance matters: human wellbeing. Efforts to implement a more comprehensive framework for assessing economic performance, one that reflects social needs and desires, have been largely unsuccessful.

In order to determine how much productivity growth we want, we need to take a broader view, one that enables us to decide how best to allocate society’s limited resources, especially its most valuable human resources. Such a perspective should recognize the possibility that market-related measures, particularly real (inflation-adjusted) income growth, may no longer be as important as they were in the past. And it must account for a society’s priorities, revealed in the ways in which its members use their resources.

Health-related discoveries and advances, for example, have brought massive societal benefits since World War II: increased longevity and reduced child mortality and morbidity, not just higher productivity and GDP. That is why the government of, say, the United States invests so much in medical research: the National Institutes of Health alone has an annual budget of $32 billion with which to fund infrastructure and research projects that employ a subset of the country’s greatest scientific talent. Similarly, the National Science Foundation and the scientific research arm of the US Department of Energy receive a combined total of about $12 billion per year, which they use to advance a wide variety of goals in engineering, energy efficiency, and green energy, and the natural and social sciences.

The economic return on public investment is even more difficult to calculate for security-related spending, where the total resources allocated to enhancing it and the effectiveness of those resources may be unknowable. But there is little doubt that security has a powerful claim on people’s wellbeing and thus on resource allocation.

In some cases, people’s desires may actually clash with the goal of improving productivity. Social media, for example, has often been derided as a feeble or even negative contributor to productivity. But productivity is not the point of social media. What people value about it is the connectivity, interaction, communication, and diversion that it enables.

In fact, for many individuals, particularly in wealthier countries, the top priority is not simply becoming richer, but rather living a richer life, and it is toward the latter goal that they will channel their time, income, and creativity. As societies become richer, the relative value placed on different dimensions of life may shift.

Societies’ allocation of resources will imprecisely but persistently follow these shifts. This is especially true when it comes to human resources, but public-sector resources also tend to respond to the same preferences and values over the longer term, regardless of the imperfections in our mechanisms of social choice.

This kind of evolution is not unique to high-income countries. China has reached – or perhaps passed – the stage during which a laser-like focus on productivity and GDP growth corresponds with ordinary citizens’ sense of wellbeing. As a result, China’s resources are increasingly being redeployed toward a more balanced portfolio that still includes growth, but adds environmental protection, social welfare, security, and innovation in a wide range of fields that overlap only partly with productivity and income growth.

All of this suggests that a substantial share of the decline in productivity growth may not be the result of some deep problem with resource allocation or some consequence of exogenous technological innovation cycles over which we have little control. Rather, it could reflect a natural shift in priorities to other dimensions of wellbeing.

This shift is not without its risks. Without productivity growth, the incomes of those at the lower end of the distribution will likely remain flat, exacerbating inequality and, as we have been seeing lately, jeopardizing social and political stability. Given this, governments should devote resources to reducing inequality, regardless of the shifting preferences of the average citizen.

Societies could, we have little doubt, elevate productivity and income growth substantially, if they managed to redeploy their resources entirely in that direction. But whether bucking revealed preferences embedded in private and public investment choices would make us individually and collectively “better off” is dubious, at best. More likely, it is simply not true.


Sandile Hlatshwayo recently received her PhD in Economics from the University of California at Berkeley and will join the International Monetary Fund in the fall. Michael Spence, a Nobel laureate in economics, is Professor of Economics at New York University’s Stern School of Business and Senior Fellow at the Hoover Institution.

Copyright: Project Syndicate, 2017.
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