The Belgium effect

Productivity is a somewhat mysterious concept, and I love untangling a good productivity mystery. As Brad de Long has observed in a string of recent posts, US productivity has behaved quite mysteriously in the last few years. The key facts noted by Brad are

  • Labour productivity (output per hour worked) usually falls during recessions/slowdowns
  • Over the last three years, US output per labour hour has risen, at an accelerating rate
  • Over the same period, hours worked have fallen at a rate consistent with a deep recession

Brad’s hypothesis is that the increase in productivity is primarily due to technological progress in information and communications technology, and that the decline in hours worked is caused by the combination of rapidly growing productivity and inadequate demand. I don’t think this analysis can be sustained.

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My sentiments exactly

This piece from the Guardian summarises pretty exactly my views on Iraq. By joining an unjustified war on false premises, Blair has undermined the whole principle of humanitarian intervention. What’s left is the idea of the US as a ‘selective policeman’, punishing the crimes of its enemies and ignoring those of its friends or those that simply fall outside the sphere of interest. This idea precluded making war on Saddam Hussein when he was filling mass graves in the 1980s, but allowed for him, and the Iraqi people to be retrospectively punished when he changed sides.

Even the limited constraints on dictatorship posed by the threat of US intervention will disappear if, as seems likely, the nation-building exercises in Afghanistan and Iraq fail for lack of resources. Along with the fact that the US government is on a path to bankruptcy, this will probably produce a swing back to isolationism sometimein the next few years.

Privatising infrastructure investment

In an article on privatisation in the Fin a couple of weeks ago, I observed that

it was hoped that private ownership would impose capital market discipline on investment decisions … The public sector has been far from perfect in the planning and implementation of infrastructure investment decisions. But public sector failings pale into insignificance compared with the disastrous bubble and bust when investment decisions in the Internet and telecommunications sectors were entrusted to the wisdom of private capital markets. The energy sector has been little better. Enron was just one example of investment decisions being driven by market manipulation and rent-seeking.

In the case of monopolies the most important single regulatory decisions relate to prices charged to consumers or for third-party access. With privately owned monopolies, there is an inherent conflict here. If the price is set too high, consumers will suffer. If they are too low, investment will be inadequate. As regulator, the government has a conflict of interes. On the one hand, regulation is supposed to set efficient prices. On the other hand, as representatives of consumers, governments have an incentive to fix prices at inefficiently low levels.

Public ownership Îinternalises the externalityâ and balances the incentives facing governments. If prices are set below the socially efficient level, the benefit to consumers is offset by a loss in revenue. The converse is true if prices are set too high.

I’m just wishing I had run this last Thursday, just before the big US blackout, which appears to be due primarily to inadequate/poorly co-ordinated investment in transmission.

The Bush miracle ?

I got this graph of US productivity growth from Brad de Long Productivity_2003-08-09.gif , and it struck me that it’s only after 2000 that there is any real action here. As Brad says, in a normal postwar recession, we would have expected a decline in productivity growth (and maybe even negative growth) arising from labor hoarding – this was the name given to the propensity of employers to keep workers on through economic downturns. Since most employers now engage in large-scale layoffs even during booms, it’s not surprising that labor hoarding is no longer an issue.

Still, given the triumphalist rhetoric that came out of the US throughout the Clinton administration, the productivity growth for this period was remarkably unimpressive. One possible explanation for the contradiction is that the graph shows changes in output per hour worked whereas most attention in the 1990s was focused on output per worker, which was rising with increasing working hours.

In any case, if productivity growth had declined in 2001 as usual, there would have been no story in this picture. For those who attribute economic outcomes to political leadership, the obvious explanation is that Bush has produced an economic miracle.

I don’t believe in miracles, and I also think there’s a problem with Brad’s analysis in which rapid productivity and slack demand produce rising unemployment. US demand for manufactured goods (which is still the most important single part of nonfarm business product) has risen since 2000, but the increase has been met almost entirely by imports. Hence, US manufacturing output has been roughly constant and hours worked have fallen by about 15 per cent. If US productivity was really rising as fast as the graph suggests, there should have been a fair bit of import displacement, especially since the dollar began depreciating a year ago.

Perhaps there are long lags in the process of adjustment to a depreciation (Australian readers of a certain age will recall the endless wait for the “J-curve”).

But I prefer some combination of the explanations I put forward in my post on productivity. In particular, there’s the problem of factor composition. The present recession is unusual because it has been characterised by massive overinvestment. With output growth weak, capital productivity has fallen.

In these circumstances, the best way to assess the underlying productivity trend is to look at multifactor productivity. Unfortunately the data is only published annually and the most recent estimates, from the Bureau of Labor Statistics are for the change from 2000 to 2001. As would be expected from the discussion above they show a rise in labor productivity and a decline in capital productivity. The net impact was that

From 2000 to 2001, multifactor productivity fell 1.0 percent in both the
private business sector and the private nonfarm business sector

. This was the first fall since 1991. I’d expect some recovery in capital productivity to have taken place since then, since investment has been weak, but it seems unlikely that MFP growth for the period since 2000 has been more than marginally positive.

I think we’ll have to put the Bush miracle in the shed with all the others.

Further reading

Thanks to everyone who made suggestions, I’ve managed to put together a reasonably good set of further reading for my chapter on the Howard government’s economic policy. Further suggestions are still welcome of course.

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Ken Parish links to my post on the ethanal business (it ought to be a scandal, but it clearly isn’t) and says

I regard the Howard government as possibly the worst Australia has ever seen, certainly since the Second World War.

on account of its corruption and continuous reliance on divisive wedge politics. I’ll leave wedge politics for later and focus on corruption.

On this score, my fear is that the Howard government will turn out to be “average: worse than the last one and better than the next one”.

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Word for Wednesday: productivity

In a vague sense, productivity means the ratio of outputs to inputs. Improvements in productivity arise from improvements in technology or new and better ways of organising production. Productivity can also decline if productive effort is diverted to wasteful ends, which may happen for a variety o reasons.

In m yexperience, most of the time, reported short-term changes in productivity are spurious, in a sense I’ll try to make more precise below. In thinking about this, I came up with the following proposed test/definition for an increase in productivity (it would also apply, with modification, to a reduction)

A change in productivity is sustainable if additional inputs of labour, capital etc could be added and would generate additional output at the new, higher level of productivity

The idea of this definition is to rule out as many as possible of the sources of spurious productivity gains, including

  • factor composition biases, such as the gain in average productivity from closing the weakest plants in an industry/economy
  • relative factor intensity biases, such as gains in labour productivity from an increase in the capital-labour ratio
  • factor use intensity biases, such as labor hoarding during recessions and work intensification arising from microeconomic reform

The most famous case of factor composition bias was the Thatcher productivity miracle, achieved primarily through plant colsures. Factor intensity bias is a chronic problem, which has been addressed through the construction of measures of multifactor productivity. Increased work intensity was the main source of the Australian productivity miracle in the 1990s.

(Since miracles are invariably spurious, I’ve avoided putting scare quotes around the term.)

FTA redux

A few days ago former Liberal hatchetman Michael Baume had an opinion piece (subscription required ?) in the Fin, denouncing ‘scaremongers’ who suggested that the US wanted to scrap the Pharmaceuticals Benefit Scheme as part of the proposed Free Trade Agreement, and quoting a string of official denials.

In today’s Fin, I read that the US is demanding ‘reform’ of the PBS. Anyone who has experienced reform in the last decade will be able to fill in the details.

This kind of dishonesty is par for the course in the pro-FTA camp. Alan Oxley of AUSTA has adopted precisely the same rhetorical slide. As I pointed out in my debate with Wolfgang Kasper onthis topic a few months ago

The Austra submission to the Senate Inquiry into the FTA denies any intention to ‘dismantle’ the scheme, but notes, ominously, that ‘there are features of the scheme that discourage investment by drug companies in Australia. Austa supports measures in the FTA which encourage more investment and job growth in Australia’. It is safe to conclude that the ‘features’ seen as discouraging investment and job growth are the same ones that provide Australians with access to affordable drugs.

What surprises me is not the dishonesty, but the belief that this kind of thing will take people in, when the facts are so easily available.