A provocative new National Bureau of Economic Research working paper [PDF] by Northwestern University economist Robert Gordon makes for depressing reading. Gordon argues that over the coming century, U.S. economic growth could drop from the 2 percent per year rate it averaged for the last 150 years to less than 0.2 percent per year. Economic growth will slow, he says, because the one-time productivity boosts from three successive industrial revolutions—steam, electricity and internal combustion, and the Internet—are now played out. If that's not gloomy enough, Gordon identifies six “headwinds” that will further stall American economic growth. These factors include an aging population, a faltering educational system, rising income inequality, competition from globalization, stifling regulations, and the overhang of massive government and consumer debt.
There's no question that the sort of economic growth we in the developed world take for granted is an aberration in history. Gordon points out that in the United Kingdom between 1300 and 1700, GDP per capita rose at about 0.2 percent per year. In concrete terms, during the time of Edward Longshanks (1237-1307), average per capita GDP in England was $1,150 in today’s prices. By 1800, that had tripled all the way up to $3,450 per capita. Then it doubled again, to about $6,350, shortly after the turn of the 20th century. At the beginning of the 20th century, the United States supplanted the U.K. as the world’s productivity leader and annual U.S. GDP per capita doubled between 1929 and 1957—from $8,000 to $16,000—and doubled again, to $32,000, by 1988.
If the U.S. were on track to double GDP per capita in the 30 years following 1988 that would imply an annual growth rate of 2.35 percent (setting aside complications like population growth). Instead, the U.S. GDP per capita has grown at 1.6 percent annually since 1988. At that growth rate, GDP per capita would not reach $64,000 until 2031. Currently, U.S. GDP per capita is about $47,000 , so doubling it from its 1988 base by 2018 to $64,000 implies an annual 5.35 percent growth rate for the next six years.
Good luck with that: Such a rate would be more than triple the actual GDP per capita growth rate the U.S. has experienced since 1988. Keep in mind that since 1970, the annual U.S. per capita GDP growth rate has exceeded 5 percent only once, in 1984 at 6.26 percent. Even during the Long Boom years of the 1990s, annual per capita GDP growth was over 3 percent only in 1997, 1998, and 1999. More bad news: The per capita GDP growth rate between 2001 and 2010 was 0.62 percent. At that rate, it would take another 50 years from U.S. average per GDP to rise from $47,000 today to $64,000.
Gordon notes that the various technologies associated with the three different industrial revolutions dramatically increased labor productivity. So, for the first time in all of human history, people could experience doubled incomes over the course of their lives. Such atypical progress meant that hundreds of millions of people escaped the abject poverty that had long been humanity's lot.
It's worth recounting how technology undergirds economic growth and a general rise in wealth and well-being. By powering railroads and ships in new and powerful ways, the steam revolution dramatically cut transportation times and costs. The subsequent rise of electricity and the internal combustion engine utterly transformed work and home life. The widespread adoption of indoor plumbing and purified water supplies improved health and began the steep rise in average life expectancy. Gordon notes that an 1886 survey in North Carolina estimated that the average housewife had to walk 148 miles per year while carrying 35 tons of water.
The availability of electricity made home and work life far more pleasant and easy; cars, trucks, and tractors eliminated the costs of draft animals; and modern chemistry made all sorts of new convenient products available. Communications and entertainment became cheaper and more accessible with the invention of the telephone, phonograph, radio, and motion pictures. Yet such gains were not indefinite. "The growth of productivity (output per hour) slowed markedly after 1970," writes Gordon. "While puzzling at the time, it seems increasingly clear that the one-time-only benefits of the Great Inventions and their spin-offs had occurred and could not happen again. Diminishing returns set in.”
What about the revolution in communications, data analysis, and connectivity ushered in by the rise of computers and the Internet? Gordon concedes that it helped productivity for a while but it too suffers from diminishing returns and that by the last decade it was evident that “the era of computers replacing human labor was over.” While acknowledging that “no one should step into the trap of predicting that innovation will come to an end,” Gordon does not foresee any new industrial revolutions that are likely to give a big boost to labor productivity and spur the growth of GDP per capita.
If that's not gloomy enough, there are the half-dozen “headwinds” he believes will make forward progress virtually impossible. The first of these is that the demographic dividend paid when women entered the labor force en masse has been spent. This raised hours per capita and allow real per-capita GDP to grow faster than output per hour. Now retiring baby boomers are reversing that trend. One way to address this issue would be to raise the age of retirement. After all, in 1950, the average 65-year old had half a chance of living another 14 years [PDF], now their life expectancy has increased to 19 years.
The second headwind? U.S. educational attainment plateaued 20 years ago and students in other developed nations are outcompeting Americans. Education plays a critical role in increasing productivity and incomes. For example, the weekly wage of Americans with a bachelor’s degree is just a bit less than double that of high school graduates. Fixing our moribund public schools has proven next to impossible, but growing competition from charter schools and home schooling - along with innovations in online learning—might enable more Americans to escape from government-imposed educational mediocrity.
Rising inequality is Gordon’s third headwind. He is worried that the growth in median family incomes has actually been slower than the growth in GDP per capita. From 1993 to 2008, average household incomes grew at 1.3 percent annually, but for the bottom 99 percent of American families the annual increase was just 0.75 percent. If wages stagnate for a sizeable portion of the population, they consume less, which ultimately slows growth. Domestic inequality is compounded, says Gordon, by a globalization headwind by which inexpensive foreign labor out-competes Americans. Over the course of the next century, however, the force of this headwind is likely to diminish as the world sees wages converge (as countries become richer through trade, they tend to pay their workers similarly to those in other countries). And for all the talk about rising inequality in the absolute spread of incomes, economic mobility—the ability to move from one income group to the next - has not changed in the past 40 or 50 years.
Gordon’s fifth headwind relates to regulation and energy production. Environmental regulations and energy restrictions are boosting the costs of production and cutting down on consumption. While there are health and other benefits stemming from some of regulations, estimates of how economically burdensome the regulatory state is range from the Obama administration lowball estimate of a mere $67 billion [PDF] annually to the free-market Competitive Enterprise Institute’s $1.8 trillion cost per year.
Gordon’s final headwind is the government and private debt hangover which could well cut investment and consumptions for some time to come. To get a sense of how big this problem is, consider that the current national debt is over $16 trillion, which is basically the size of our economy. And, according to the free-market National Center for Policy Analysis, the federal government’s unfunded liabilities stand at around $84 trillion. Such "debt overhang" has demonstrable negative effects on economic growth. As economists Carmen Reinhart, Vincent Reinhart, and Kenneth Rogoff have shown, when government debt exceeds 90 percent of GDP for five years or more, future economic growth is reduced by 1.2 percentage points annually for more than two decades.
In a general sense, Gordon is echoing many of the concerns voiced by economist Mancur Olson in his The Rise and Decline of Nations (1982). Olson argued that economic stagnation and even decline sets in when powerful special-interest lobbies—crony capitalists if you will—capture a country’s regulatory system and use it to block competitors making the economy ever less efficient. Gordon’s Northwestern University colleague, economic historian Joel Mokyr, expressed similar fears in his mesmerizing The Gifts of Athena: Historical Origins of the Knowledge Economy (2002). "Sooner or later in any society the progress of technology will grind to a halt because the forces that used to support innovation become vested interests,” argued Mokyr. He concluded, “In a purely dialectical fashion, technological progress creates the very forces that eventually destroy it."
To tally up just how little economic growth we can expect going forward, Gordon subtracts his headwinds' effect from the average 1.8 percent annual growth in per capita GDP between 1987 and 2007. The dismal result is just 0.2 percent growth rate. Gordon ultimately admits that his 0.2 percent figure “was chosen for ‘shock value’ as the rate of growth for the U.K. between 1300 and 1700.” However, he adds, “Any other number below 1.0 percent could be chosen and it would represent an epochal decline in growth from the U.S. record of the last 150 years of 2.0 percent annual growth rate in output per capita.”
Yet Gordon’s analysis misses the real source of sustained economic growth by focusing too narrowly on technology. Economic growth is not the result of industrial revolutions. Instead both industrial revolutions and economic growth are the consequences of liberty, of the loosening up of the social, cultural, and economic strictures on innovation and experimentation. History teaches that technological innovation and economic growth occur in nations with strong property rights, the rule of law, limited democratic government, and free speech. In this reading of history, the main reason the Industrial Revolution took place where it did wasn't because Western Europeans and North Americans were smarter than people elsewhere or had access to more raw materials. It's because they were relatively speaking freer to try new ways of doing everything.
It is obviously possible for countries with authoritarian regimes to grow for a while as they copy the technologies and managerial techniques devised in free countries. Think of contemporary China. Sooner rather than later, its growth will decelerate sharply if it doesn't liberalize virtually every aspect of economic and cultural life. Despite the recent blistering pace of economic growth in China and its rise as the second-largest economy on the planet, it still has far to go; its workers produce just one-fifth the wealth per year that American laborers do.
Can the U.S. avoid the sort of economic stagnation that Gordon and others see? Without becoming panglossian, the short answer is yes. With regard to innovations that could substantially boost productivity and increase per capita GDP, Gordon fails to peer deeply enough into his crystal ball. For example, 3D-printing is coming (a.k.a. additive manufacturing) in which parts and equipment can be customized and made to order. The biotech space is bristling with innovation. Biology has turned out to be harder to manipulate and standardize than many boosters (including me) had hoped, but as the bioinformatics revolution gains speed, that should change. Developments in biotech and synthetic biology will increase crop productivity, extend healthy human lifespans (potentially taking pressure off of unfunded liabilities related to health care and pensions), and manufacture (read: grow) a wide range of products from cups to houses. And artificial intelligence is already being embedded in all sorts of everyday items and appliances (such as Siri on your iPhone). Having the computational capability and insight of IBM’s Jeopardy-winning Watson machine in your cell phone can only boost your productivity in ways that we cannot yet imagine or capture with existing measures.
It may be that none of these nascent industrial “revolutions” will yield 2 percent per capita annual GDP growth. Nevertheless, maintaining—or should I say restoring?—competitive free market institutions will provide the essential foundation for continued technological and economic progress in the 21st century.