Productivity and the Pandemic

Paul Krugman has once more returned to the mystery of missing productivity growth, pointing specifically at the underperformance of new technology: "Still, the data bear out the general sense that the real-world utility of new technology has fallen far short of the hype. Labor productivity — real output per person hour — has risen only about half as fast since 2007 as it did in the generation after World War II. Why measure from 2007? Well, it was the eve of the financial crisis; but it also happens to be the year Apple introduced the original iPhone. So much technoglitz; so little G.D.P. Why?". There's a cruical elision in this analysis in that the "postwar generation" clearly doesn't mean 1945 to 2007. The period of rapid productivity growth was up to 1975: les trente glorieuses. That postwar growth owed relatively little to the application of new technologies, at least in developed countries. Heralded breakthroughs like nuclear power proved damp squibs, while the bulk of productivity gains in manufacturing could be traced to well-established technologies such as electric motors. What mattered was that the rebuilding and retooling of factories offered an opportunity to redesign their exploitation more efficiently.

While much of postwar productivity growth can be attributed to the push factor of reconstruction, notably in Japan and continental Europe, a lot of it was down to changes in working practices, and not just on the production line. Consider the evolution of the office and the spread of scientific management techniques more generally. The relative decline in productivity growth after 1975 was also down to the pull factor of financialisation, which diverted capital away from productive investment to speculation. 2007, which saw the Northern Rock bank run in the UK as well as the launch of the iPhone, marked the unravelling of this. There were material factors at work in the spread of financialisation - the rise of global competitors in manufacturing, the growing volatility in energy and raw material prices, the Asian savings glut - but the chief reason was the political impetus, particularly in the US and UK, to deregulate financial markets and to make it easier to secure mortgages on homes. Globalisation diffused capital to developing economies that were experiencing rapid growth, but it also biased domestic capital in developed countries away from production and towards property. 

Krugman's emphasis on the iPhone over the financial crisis ignores that Apple's flagship product was nowhere near as technologically revolutionary as some claimed at the time. It was, after all, no more than an underpowered handheld computer with a built-in phone. From a practical perspective, the real breakthrough had first been the development of the modem-enabled laptop and later the development of the feature phone and SMS. The smartphone simply combined the two, allowing you to read emails on your phone, decades after email had become a staple of the business world. The period of relatively poor growth that commenced in the mid-70s coincided with the arrival of a genuinely transformative general purpose technology in the form of computers and digital telephony. While bespoke computers had been around since the 1940s, it was the 1970s that saw the spread of the first standardised mainframes, then mini-computers and finally the appearance of personal computers. But this didn't translate into a rapid increase in productivity growth in the 1980s. Why was that?

In answering the question, Krugman points to a new paper: How to solve the puzzle of missing productivity growth. As he pithily summarises it, the answer is "Just you wait". In other words, this is an issue of diffusion and complementary adjustment, which mirrors the pattern of exploitation of previous general purpose technologies like steam-power and electric motors. The paper's authors suggest that to improve the exploitation of technology and thereby boost productivity the state needs to encourage further research and development through grants and tax credits, expand human capital through education and selective immigration, and remove the regulatory and legal bottlenecks to entrepreneurship and innovation. In other words, the usual neoliberal nostrums. But as Krugman righly notes, if the IT revolution dates to the 1970s, we should have seen evidence of a positive impact on productivity long before now. In fact, we did, in the 1990s, with the move from centralised to distributed computing. In simple terms, every desk got a PC and everyone got email. This was down to a fall in unit costs (Moore's Law and offshoring to Asia) and the rapid growth in datacoms capacity (much of which was state-subsidised). But the upswing petered out in the 2000s.

However, that flattening of productivity growth over the last twenty years has been deceptive. We know this because of the productivity gains seen during the Covid-19 pandemic, from the rapid development of vaccines through the widespread reconfiguration of working practices to the expansion of online buying and home deliveries. These sudden accelerations have been widely-noted (they could hardly be ignored), but there has been a reluctance to acknowledge the twin implications. First, that productivity growth has probably been unnecessarily weak for the last two decades - i.e. the economy has been running short of its potential. And second, that these latent productivity gains can be unlocked by state intervention - i.e. Covid-19 has reminded us of the power of central planning. This raises the question: what has kept productivity growth depressed? It isn't the absence of central planning. The serial incompetence and corruption of the UK government is proof that central planning is no panacea, but just as in the 1940s, it can be effective in the face of market failure. That failure looks very much like the inefficient allocation of resources: the pharma sector's bias towards high-profit drugs; the diversion of capital into commercial office space; and the increasingly futile determination to preserve the high street.

The pandemic has provided real-world examples of the ability of the state to manipulate markets, albeit as much in the negative form of cronyism as in the more positive results of the vaccine challenge. It has also highlighted the extent to which behavioural pyschology proceeds from a pessimism about human nature that clearly encodes neoliberal ideology: the assumption that people are selfish, distracted and easily fatigued by the demands of solidarity. The attentuation of local government has also placed a greater burden on central government to mould public attitudes directly, what Steve Randy Waldman refers to as "market dirigisme". An example of this is the enforcement of the rules on gatherings and hospitality. Despite the press focus on exceptional breaches and the occasional daft intervention by the constabulary, this has largely been self-policed and enforced by social norms responding to central government direction (even when that direction has been vague and contradictory). What we have rediscovered is that there is such a thing as society and government can influence its behaviour. And changes in that behaviour can in turn force business to adapt.

According to The Economist, firms are planning a significant increase in capital expenditure coming out of the pandemic. This is not simply because "Fiscal stimulus has put money in people's pockets", so increasing aggregate demand. It also reflects the need to re-equip business for the different environment that is emerging after Covid-19: more online and more hybridised in its working patterns. The jury is out on whether this really "promises a world in which people get more done in less time", but it is a credible scenario. In the paper's predictable opinion, the shift in mood here is more one of business confidence than consumer sentiment: "The rapid deployment of entirely new business models when covid-19 struck, not to mention vaccine discovery, may have reminded bosses of the payoff to investing". Were it merely a matter of pent-up demand, businesses could reasonably expect a surge followed by a reversion to normal levels, which wouldn't encourage longer-term investment. Pessimists might even doubt the surge, reasoning that many people will prioritise paying down debts over buying new stuff, or might simply choose to divert more of their money into property.

Despite The Economist's sniffy preference for alert bosses over fiscal stimulus, it is clear that one thing business is anticipating is that government will meaningfully narrow income inequality and so boost aggregate demand. The most obvious signal here is the ambition of the Biden administration in the US to engineer a "high-pressure economy", largely through expanded public spending, in which private sector employers have to compete for workers. This would not only bid up wages but it should also stimulate investment in productivity gains to offset those higher labour costs. Of course there are good reasons to be sceptical about this, from the tenacity of the neoliberal association of business health with low taxes and low wages, to the class interests of capitalists causing them to favour the disciplining of labour over larger profits. If we recall the lessons of history, the Roosevelt administration's induced recession of 1937 and the abandonment of the UK's postwar commitment to full employment in the late-70s were both the result of a political attempt to secure "business confidence". The positive parallel is that Biden's programme echoes Roosevelt's embrace of deficit spending in 1938, once he realised his mistake. 

There are other grounds for optimism. The campaign for a global minimum corporation tax, regardless of how successful it proves in raising revenue, points towards a world in which more demands will be made of business. As was seen in the postwar era, there is no incompatibility between high rates of business taxation and capital investment. But perhaps the simplest explanation for the upbeat mood is fear: the fear of not adapting quickly enough to the new world emerging from the pandemic. In other words, investment may be defensive as well as offensive: about holding onto rather than growing market share. If that's the case, it points us back to the willingness of society to change its behaviours in a way that traditional economic models of utility-maximising monads simply can't compute, and to the ability of the state to coordinate such changes. But there remains a problem: the diversion of investment capital into unproductive property. With changing working patterns leading to people wanting more space, this could be about to get much worse, and there seems little likelihood that government will seriously address that particular market failure. Until such time as they do, I fear that productivity growth may flatter to deceive.