Six headwinds blow a US chill
A provocative new study suggests America has maxed out its productivity gains and is in for a period of probable decline. And it paints a similar, but less dire, future for Australia.
Since 1970, US labour productivity growth has averaged 1.6 per cent per annum. Over time, GDP growth tends to track productivity changes.
The respected US economist Robert J Gordon, published a provocative working paper in August 2012 (National Bureau of Economic Research #18315) in which he challenged the presumption that growth is a normal state of affairs that will persist forever, and argued that the US faced six headwinds that would impede productivity and would slow economic growth in the decades ahead down to pre-industrial revolution levels of near zero.
The US standard of living has been doubling every 35 years. Gordon suggests that in future such doubling may take a century or more.
Will being an adopter and follower of US practices and technologies, and being already relatively close to US ‘frontiers of productivity and standard of living’ lead Australia to a similar levelling out? Can adverse influences be mitigated? Can we exploit our differences?
Gordon identified the six headwinds as demography, education, inequality, globalisation and technology, energy/environment and overhang of government and consumer debt.
The demographic dividend of the baby boomer generation moving through their working careers and the increased participation of women in the workforce has peaked in the US. Now with the gap increasing between life expectancy and retirement age, this dividend is reversing.
Gordon suggests unlimited immigration of high skilled workers as one mitigating strategy and points to Canada as a successful example of this. He also quotes the late Steve Jobs as recommending "we should staple a green card to the diploma of every foreign worker who attains a graduate degree in science or engineering”.
In Australia, increasing the participation in our workforce by women remains an opportunity. Also modest increases in retirement ages have been legislated. These, combined with currently high levels of skilled immigration, suggest a more encouraging outlook that might be the case in the US.
The US, like Australia, is steadily slipping down the international league rankings for key secondary school results, and the leadership of their pre-eminent university system is being challenged. With 40 per cent of the 25 to 34-year-old age group holding a post-secondary degree, the US now ranks 12th in this category which they led a generation ago. Education levels in the US have stopped increasing. Plus the rapid escalation of college tuition costs is driving aggregate student debt, inhibiting access by low income people, and may be distorting career choices.
Australia shares some of these challenges including a growing $23 billion of student HECS liabilities. But as other countries catch up to the US in educational outcomes, the question is whether we can match the pace of the lead group?
The US has the most polarised distribution of wealth among developed economies with the richest 1 per cent earning 23 per cent of all income (9 per cent in Australia’s case) and capturing more than half of aggregate household income appreciation over the last 15 years. The benefits of productivity improvements have not gone to the middle class whose view of economic growth and prosperity is more pessimistic than averaged statistics might suggest.
A current ideological battle in Australia is whether economic appreciation which is disproportionately captured by the most wealthy is an acceptable scenario. Government intervention in the form of punitive taxation of super-normal returns or assets is one option, though a far from popular one as the French president has recently found.
Globalisation and technology
The outsourcing of jobs to countries with less expensive labour but with access to modern technology has the greatest impact on high wage economies. Further downward pressure on wages arises from competition from growing imports afforded by a strong domestic currency. Gordon asserts that the current "revival of US manufacturing … is part of an ongoing process that erodes the number of high paying middle class jobs available to those without a college education”.
He is also sceptical of any further productivity benefits from today’s IT investments. "Invention since 2000 has centred on entertainment and communication devices that are smaller, smarter, and more capable but do not fundamentally change productivity or the standard of living.” These modern gadgets drive consumption but not labour efficiency, in his view.
It’s hard to argue that Australia is any better off. Relatively inflexible labour laws have inhibited any consideration of significant wage reductions and the restructuring of manufacturing. Instead, our mining boom has sustained our export revenues and underpinned our budgets thus far.
Part of any effort to cope with global warming represents a payback for past growth – a time shifted economic burden on current and future generations. The commitment to sustainable development, widely supported, is nevertheless costly. "In 1901, the environment was not a priority and the symbol of a prosperous city was a drawing of a factory spewing pure black smoke out of its chimneys.” The paradox is that a clean environment does not move the GDP needle.
Gordon is also unimpressed by the discovery of shale gas and the fracking revolution. "It is not a source of future economic growth, rather it merely holds off future economic decline.”
The costs of the various climate change strategies, including Australia’s carbon tax, are undoubtedly an imposition on productive capacity even if, as a form of wealth redistribution, they help address income inequality at the margin. To paraphrase Gordon, climate and environment strategies may not be a source of economic growth; they merely hold off future economic decline.
But his undervaluing of the era of shale gas may be a serious misjudgement.
Data from the McKinsey Global Institute shows that total debt (which includes all loans and fixed income securities of households, corporations, financial institutions and government) is approximately 280 per cent of GDP for both the US and Australia, having peaked during the GFC.
This is an unprecedented overhang of debt. Households are gradually paying off their debts thereby dampening economic growth. Should governments choose to lower their debt to GDP ratio through higher taxes or lower benefit payments, this reduces the growth of household disposable income relative to GDP. Debt reversal is a potential break on growth.
Gordon acknowledges that his analysis is controversial and that he intended to challenge conventional assumptions and provoke alternative thinking.
The impact of his headwinds may be different for the Australian economy. Lagging the US in some areas such as workforce participation and higher education suggests we may still have plenty of room for improvement before maxing out.
Better education and more innovation are the prerequisites for continuing productivity gains.
Yet it’s in the category of technology where Gordon’s views are most unsettling. For example, he believes the most impactful contributions to productivity from robotics have already occurred, implicitly dismissing future benefits of artificial intelligence, drones, etc.
He asserts that the era of truly important changes arising from computers and the internet is behind us. Provocative stuff indeed.
All of this should remind us that the past may not be a reliable guide to future trends, and that continuing improvements in our standard of living have to be planned for and made to happen, often against the force of certain headwinds. It may well be that we are nearing the end of a supercycle of prosperity gains which has lasted 250 years. But there is no immutable law of economic gravity that makes this inevitable.
Ziggy Switkowski is chairman of the Suncorp Group and chancellor, RMIT University.