The Debate Zone: Has the US passed peak productivity growth?

Yes. The big gains in the 20th century resulted from transformative innovations that are much rarer today.
By Tyler Cowen
Tyler Cowen


Technologies such as electricity, automobiles, radios, and airplanes transformed the way we lived and worked in the last century. Innovations today, including the Internet, have less impact on our lives—and our productivity.

No. We’ve only just begun to reap the productivity benefits of digital technology.
By Andrew McAfee and Erik Brynjolfsson

Andrew McAfee
Erik Brynjolfsson


As ubiquitous as the computer chip seems, there are still areas, such as mining and agriculture, that have yet to take full advantage of it. In addition, the technology itself keeps improving. This means the opportunities for productivity gains will keep increasing as well.

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Tyler Cowen

Here comes the Great Stagnation

The peak productivity period for the United States came during the period 1870–1950, when the essential elements of modern life were put into place. We went from a country where most people lived on farms to a world of electricity, flush toilets, radios, automobiles, airplanes, large-scale retail, consumer credit, and the other conveniences of modern life. We haven't seen comparable changes since then and we probably won't anytime soon. Alexander Field, an economic historian at Santa Clara University, has measured the 1930s as the time when the rate of technological change was highest in the American economy.

The statistics bear out the slowing down of progress. From 1973 to 2004, median household income in the United States rose only 22 percent, reflecting a paucity of broad-based productivity gains. In the last ten years, median income has not risen at all. In the last ten years, there has been no new net job creation in the United States economy. The statistic known as "multifactor productivity," which measures the contribution of new ideas to economic growth, has been low most years since the early 1970s. In the last few years, multifactor productivity has hovered in the range of less than half a percentage point, as compared to two to three percent earlier in the century.

It's not just about material income. Prior to 1950, life expectancy rose at a rate three times higher than after 1950; lowering infant mortality and inventing penicillin are easier problems to solve than curing cancer. In 1900, only about 6 percent of Americans graduated from high school, but by the late 1960s, this number was about 80 percent. What has happened since? High school graduation rates have gone down, despite the fact that per pupil expenditures are higher than ever. Test scores have been flat for decades.

The American economy has moved increasingly into sectors where productivity is hard to augment—namely health care, education, and government. In all of these areas, we are essentially valuing productivity at cost, just by adding up dollars spent. Those are also the sectors where it is hard to measure value or enforce accountability, and it is quite possible that the published numbers are overrating our productivity successes. When it comes to health care, the United States spends more per capita than any other nation, but it is not obvious that we produce superior health care outcomes. David Cutler, an economics professor at Harvard University, estimates that US health care productivity has been falling in recent years, not rising. The more optimistic interpretation is that we are not very good at measuring health care productivity, but that's hardly reassuring either.

A way of summing up these points is to say that a lot of the "low-hanging fruit" is gone. We are at a temporary technological plateau and have been since the 1970s. In some areas, such as space travel and supersonic transport, we are moving backward in terms of practice. And for all the talk about the unmeasured benefits of contemporary progress, earlier eras also had unmeasured benefits: the prices of cars and penicillin understated their true values.

To a lot of observers, it feels as if productivity and innovation have been high in recent times. Most commonly, the Internet and communications technologies are cited, but let's not overestimate the impact of these wonderful developments. A 2006 paper by economists Austan Goolsbee and Peter Klenow estimated that consumers have reaped gains from the Internet equal to two percent of GDP.1 The number has probably gone up since then (Facebook is better and smartphones ease access), but not by enough to salvage the productivity performance of the modern era.

Of course, the gains from the Internet are higher for hyper-connected journalists, leading businessmen, and the intelligentsia, so its importance is usually overestimated by opinion leaders. A typical American family faces high and rising bills for health care, education, real estate, and gasoline.

Most generally, we've had the mature Internet for about ten years now, and those have been the worst macroeconomic years in American history since the Great Depression. The Internet is hardly to blame, but its major economic benefits have yet to kick in. A lot of the best known Internet companies employ quite small numbers of people. Facebook has just 2,000 employees while Twitter has 450. Many recent innovations in computer use substitute for labor rather than raising wages more broadly.

What else do the numbers show? There is a variable called "per-hour labor productivity" and it has performed fairly well in recent years. But most of these gains come from laying off workers who weren't producing very much, and not from higher standards of living for the average American household. Along these lines, a February 2011 McKinsey Global Institute (MGI) report on productivity2 found that since 2000, most American productivity gains have come from reducing inputs into production, not from innovating more. Labor force participation is at a historic low, and the job market is ailing, even after the recession has ended. That's another sign of a sluggish real economy.

To make things even tougher, the United States and other advanced economies are aging at an unprecedented pace. This creates a demographic drag on growth, since elderly individuals are less likely to be prime innovators, and, of course, we wish to devote resources to supporting them when needed. The MGI report, on page 22, puts it starkly: "The productivity gains needed to sustain historic GDP growth rates are ambitious, having last been achieved more than 50 years ago."

In general, we need to distinguish between "innovation" and "productivity gains which have brought significant benefits to the majority of American families." There continue to be plenty of innovations, but the gains are increasingly concentrated in a smaller number of hands rather than being broad-based. Some of our recent innovations are downright harmful, such as people in financial markets learning how to better play the risk-taking game, "Heads, I win; tails, the taxpayer loses."

I don't predict that US productivity will stay forever at its current low levels. Eventually, the American economy will see some major technological breakthroughs and we will succeed at better exploiting the economic potential of the Internet. Still, the slowdown in living standards growth has been with us for almost 40 years and we should not expect it to disappear overnight. Furthermore, one of the major areas marked for a breakthrough—the biosciences—is having a hard time converting the human genome sequencing into usable products, and that goal appears to be receding.

When it comes to the longer run, I am not a pessimist. The United States continues to have a lot of talented, ambitious people. But we are not operating anywhere near the earlier era of peak productivity gains. That era came many decades ago, and we are still lost in the wilderness, hoping to find a comparable magic formula for future progress.

1 Austan Goolsbee and Peter J. Klenow, "Valuing consumer products by the time spend using them: An application to the Internet," National Bureau of Economic Research working paper, Number 11995, February 2006.

2 The full report, Growth and renewal in the United States: Retooling America's economic engine, is available free of charge online at mckinsey.com/mgi.

http://whatmatters.mckinseydigital.com/the_debate_zone/has-the-us-passed-peak-productivity-growth?utm_source=email_debate&utm_medium=marketing&utm_campaign=growth

Andrew McAfee and Erik Brynjolfsson

The digital revolution will transform the economy—again and again

We thank Tyler Cowen for bringing attention to the critical issue of productivity growth in his book The Great Stagnation. Over the long run, a society's living standards depend almost entirely on the productivity of its economy, so an extended period of stagnation like the one Cowen describes would be bad news indeed. As we look at many kinds of evidence, however, we see different patterns than he does. And we are optimistic that peak productivity growth lies ahead of—rather than behind—us.

Cowen's "great stagnation" is evident in the much slower productivity growth starting in the mid 1970s and continuing for a long time. According to the Bureau of Labor Statistics, labor productivity growth averaged 2.8 percent in the "big wave" of 1947–73. Unfortunately, it slowed to less than half that rate over the next 20 years. However, while Cowen brings new insights to the table, the slowdown that started in 1973 is old news. What has happened more recently? Starting in 1995, there was a notable increase in productivity growth, averaging to about 2.7 percent. In fact, in the past three years, productivity has averaged precisely 2.8 percent, just as in the golden era before 1973.

What's behind the uptick? A great deal of careful research has been focused on this question, and the emerging consensus is that it's driven largely by computer technologies—hardware, software, and networks. What's more, the surging productivity growth rate may understate what's actually happening, since it doesn't fully account for all the free goods we associate with the Internet these days, like Facebook, Google, Wikipedia, YouTube, and Pandora. These goods barely show up in GDP or productivity, even though they create enormous consumer value.

Even better, there's good reason to believe this ongoing productivity surge has legs. The computer, the foundation of the digital revolution, is a general purpose technology (GPT). That means it is one of those rare innovations like steam power or electricity that interrupts and accelerates the normal march of economic progress. As economists Tim Bresnahan and Manuel Trajtenberg note, GPTs are powerful engines of growth. Not only do they keep getting better over time (and this is certainly true of digital gear), but GPTs also spur later waves of complementary innovations as prices drop and innovators tinker. Greeting cards and hotel room doors now have embedded microchips, and cars have a hundred or more. This magnifies the impact of computers on growth and living standards.

This tendency to spark innovation over the long term means that the full economic impact of GPTs is not felt immediately. It takes time, often many years, for companies to understand their power and reconfigure themselves to take full advantage. This has certainly been the case for information and communication technology (ICT). As economists Susanto Basu and John Fernald put it,

The main feature of a GPT is that it leads to fundamental changes in the production process of those using the new invention...The availability of cheap ICT capital allows firms to deploy their other inputs in radically different and productivity-enhancing ways. In so doing, cheap computers and telecommunications equipment can foster an ever-expanding sequence of complementary inventions in industries using ICT.

Note that GPTs don't just benefit their "home" industries. Computers, for example, increase productivity not only in the high-tech sector but also in all industries that purchase and use digital gear. And these days, that means all industries; even the least IT-intensive American sectors like agriculture and mining are now spending billions of dollars each year to digitize themselves.

Note also the choice of words by Basu and Fernald: computers and networks bring an ever-expanding set of opportunities to companies. Digitization, in other words, is not a single project providing one-time benefits. Instead, it's an ongoing process of creative destruction; innovators use both new and established technologies to make deep changes at the level of the task, the job, the process, even the organization itself. And these changes build and feed on each other, so that the possibilities offered really are constantly increasing.

Cowen rightly highlights the power of the Internet, but this network, as powerful and transformative as it is, is only a part of the digital GPTs now transforming the business world. For example, the IBM supercomputer named Watson is not even connected to the Internet, yet is still able to play the game show Jeopardy! far better than even the most accomplished humans, as a recent televised tournament demonstrated.

This is an astonishing achievement. Jeopardy! requires contestants to understand complicated queries asked in natural language and to have knowledge on a huge and unspecified range of topics. It was thought until recently that people were innately superior at this combination of pattern recognition and complex communication, but we're clearly not. Watson-like tools will, in the coming years, be applied to tasks like customer service and troubleshooting, making them much more productive. Related innovations are already beginning to replace armies of lawyers and are transforming medicine.

Other recent digital innovations also leave us amazed and eager to see how they'll be applied more broadly. These include fully autonomous cars that can drive in traffic without mishap, software that can understand normal human speech and produce synthetic voices, and automatic translation among many languages that, while imperfect, is good enough for a lot of purposes, and the continued spread of what venture capitalist John Doerr calls "SoLoMo"— social, local, and mobile technologies. These are not just technical marvels; they will become powerful tools for increasing business productivity. In many cases, they already are.

But even before these examples of science fiction become economic reality, we predict that productivity growth will continue its recent healthy upward trend. We say this because we see no shortage of opportunities for applying yesterday's and today's technologies to current inefficiencies. And there's still plenty of inefficiency out there.

Here's a thought experiment. Think of the smoothest processes that you participate in as a worker, consumer, or citizen. For us, these include ordering goods from Amazon.com, recording a season's worth of TV shows on TiVo, and clearing US immigration and customs as part of the Global Entry program. It's not a coincidence that all of these are heavily digitized.

Now think of all your other processes. Aren't most of them well behind this leading edge? Aren't some of them, in fact, laughably bad? If you're like us, you see plenty of low-hanging fruit left throughout the economy—plenty of chances to improve efficiency and productivity via the smart application of technology.

Leading organizations are showing how to do this, reminding us of writer William Gibson's great observation that "The future is already here—it's just not evenly distributed." And as the laggards catch up, the leaders will have moved on, using the large and ever-growing tool kit of digital technology to make improvements elsewhere.

This work began in earnest right around the time that The Great Stagnation, according to the data, began to turn into what we might call The Digital Frontier. It's a new set of opportunities driven by information technology, the latest human invention powerful enough to be called a GPT. Because of it, we're not harvesting diminishing yields from old fields, as described by Cowen. Instead, we are facing a new set of opportunities, with no limitations in sight.

Happy 10th Birthday, Bush Tax Cuts!
You've been a failure in every conceivable way.

By Annie LowreyPosted Wednesday, June 8, 2011, at 6:56 PM ET

George Bush. Click image to expand.George W. BushThe massive Bush tax cuts mark their 10th birthday this week. Sadly, despite my best efforts to find something redeeming about them—honest!—there is little to celebrate. By nearly all of the metrics set out by President Bush himself, the cuts were a colossal failure.


In 2001, the Bush administration inherited a few years' worth of budget surpluses, so it decided to cut income tax rates, double the child-care credit, and sharply reduce the levies on investment income. The economy then slowed, even entering a brief recession. As a form of stimulus, the administration doubled down, expanding and hastening the 2001 changes. Bush promised that the tax cuts would do a whole lot more than put money in people's pockets—which, in fact, they did. He said they would "starve the beast," forcing Congress to reduce the size and scope of government. He promised they would increase the prosperity of all Americans. He also vowed: "Tax relief will create new jobs. Tax relief will generate new wealth. And tax relief will open new opportunities."

OK, a pitter-patter of applause for what the tax cuts did do effectively: Cut taxes and reduce overall payments to Uncle Sam. Low-income families benefited from the child-care credit jumping from $500 to $1,000. High-income families benefited from the top marginal rate falling. Billionaires benefited from lightly taxed dividend income. And government receipts, in turn, dropped.
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But the benefits mostly accrued to the rich, according to the nonpartisan Tax Policy Center. The think tank reports that between 2001 and 2008, the bottom 80 percent of filers received about 35 percent of the cuts. The top 20 percent received about 65 percent—and the top 1 percent alone claimed 38 percent.

What about the president's claims? Take his pledge that the cuts would spur job growth. To be fair, we'll ignore employment changes during 2008, the year the Great Recession seized the economy. During the 2001 to 2007 business cycle, America's economy enjoyed 52 straight months of job growth. But it was sluggish—in fact, the slowest rate of jobs growth on record since World War II, and just one-fifth the pace of the 1990s.

Then there's wealth. Put simply, the aughts were a decade of income stagnation: The tax cuts failed to bolster most taxpayers' earnings, even before the recession hit. Median real wages actually dropped from 2003 to 2007. Household income from business-cycle peak to business-cycle peak declined for the first time since tracking started in 1967. As documented by my colleague Timothy Noah in his series "The United States of Inequality," this did not hold true for the nation's billionaires and millionaires. Garden-variety high-wage earners saw their income go up. And incomes for the top 1 percent skyrocketed. For some people, obviously, the cuts "generated new wealth," in the president's phrase. But overall, inequality got worse.

That leads to the third metric: Did the cuts "open new opportunities"? It's a vague phrase, but one way to measure it is to look at job growth—and there's nothing to see there. Another way would be to say that the cuts benefited "job creators" (to use the current en vogue phrase), like the nation's start-up businesses. But the number of private-sector jobs created by young companies fell during the Bush administration.

Unfortunately, the tax cuts never translated into robust economic growth, either. Indeed, the aughts saw the worst growth since World War II. From 2001 to 2007, annual GDP growth averaged just 2.4 percent per year, lower than in any other postwar business cycle. The contrast is starker still when judging against the previous decade. In real terms, GDP grew half as much from 2001 to 2010 as from 1991 to 2000.

There is another metric that Bush set out for the tax cuts: Did they succeed in helping to create a smaller government? Again, the answer is no. Events beyond Bush's control necessitated the Afghanistan war. He later decided to invade Iraq, and pushed through unpaid-for domestic expansions of government, like Medicare Part D. Deficits and government spending as a share of GDP grew during the Bush administration.

OK, a final attempt at celebration. Did the tax cuts stimulate the flagging economy in the early aughts? Sort of. Tax cuts give a mild boost to the economy, but not a big one. "After the tax rebates in 2001, 2003, and 2008, households [spent] between 25 and 67 cents more for each dollar of tax cut," William Gale of the Tax Policy Center writes. That makes tax cuts "a relatively weak way to help the economy compared to increases in government purchases, for which each dollar of increased deficit turns into an additional dollar of spending."

So, to recap: The Bush tax cuts were followed by low GDP growth, negative median wage growth, and little job growth. Even before the Great Recession, growth in the Bush business cycle was the weakest since World War II. And the cuts cost about $2.6 trillion between 2001 and 2010, according to the Economic Policy Institute—adding to a debt future generations of taxpayers will pay for, plus interest.

By Bush's own metrics, then, the tax cuts were a failure. But perhaps that is because Bush chose such absurd metrics and made such silly promises about tax cuts' economic omnipotence in the first place. To state the obvious, tax cuts are not magic. They can help a strong economy get stronger or help a weak economy pick up some steam. They also have a direct impact on the government budget. But they cannot goose employers into adding millions of jobs, pay for themselves, and arrest the growth of government, all while delivering everyone cupcakes. So perhaps the best we can say about the Bush tax cuts is that they did exactly what we should have expected them to do.

Tax cuts weaken any economy - vital research is not done, young go uneducated, railways are not built, grants are not given to open new factories and export goods. Unemployment rises. A sales tax of 15 percent is necessary. More on luxuries, power etc.
S.